Fiji water’s invite-mockery marketing strategy: Justin Fox on the age-old question of how and why Fiji Water exists as a product. I have another question, though: why is domestic sparkling water so hard to find?
If you’re confused by the scandal surrounding the Ponta Negra hedge fund and its Biden landlords, don’t blame yourself: it’s really confusing stuff. If you have the patience for it, just read John Hempton’s archives: start here, and then run through this, this, this, this, and this. (Don’t worry, there’s more to come, but we’re up to something over 6,000 words already.) Alternatively, Alphaville is running its own series, of which the first two parts are now up: 1,700 words on 650 Fifth Avenue, and 1,250 words on the Biden connection. The Alphaville posts are quite hard to follow, partly because the FT lawyers have stripped them of links, and partly because this whole thing is just very opaque and complex.
The one thing which is abundantly clear is that Jeffry Schneider (always mistrust people who can’t spell their own name) is a very shady character indeed, who was fired from various financial-sector jobs before ending up selling fraudulent hedge funds and seemingly working out of the Bidens’ hedge-fund hotel. Schneider was a “marketer” for hedge funds, including Ponta Negra — which means he sold them to rich individuals, and took a commission for so doing. How did he find the rich individuals? Lots of ways, but one was that he paid upwards of $10,000 a month for access to lists of people who were rich enough to qualify as hedge-fund investors.
This is the bucket-shop end of the hedge-fund world: small and sleazy and shadowy. But here’s the thing: if you’re a rich individual who’s phoned up by Jeffry Schneider and told about some fabulous new hedge fund you should put lots of money into, he has a pretty good explanation for why it’s so difficult to get any information on him and his company: under the laws banning the advertising of hedge funds, he’s not allowed to give out much in the way of information.
As part of the forthcoming regulation of hedge funds I think there should be a lot of efforts to make them more transparent, rather than allowing them to use SEC regulations to justify their opacity. At the moment, simply giving out information about certain investments is considered to be advertising: I used to run into this problem the whole time when I was in New York, covering 144a bond issues which could only be sold to big institutional investors, and being told that therefore I couldn’t get any information on them. We need to move instead to a world where information is allowed to be free, even if the public at large still isn’t allowed to invest in the funds or securities in question.
Once we get there, it should become much easier for bloggers to uncover Ponzis — which is certainly a good thing. Hempton has a big advantage in that he’s part of that world himself, and has access to information which isn’t freely available online. Why can’t we all have that access?
The fact is that Citigroup is no longer in a position to pay hedge-fund-like bonuses for hedge-fund-like behavior. Here’s part of Barack Obama’s interview with David Leonhardt:
That doesn’t mean that, for example, an insurance company like A.I.G. grafting a hedge fund on top of it is something that is optimal. Even with the best regulators, if you start having so much differentiation of functions and products within a single company, a single institution, a conglomerate, essentially, things could potentially slip through the cracks… I think you can make an argument that there may be a breaking point in which functions are so different that you don’t want a single company doing everything.
What’s true of AIG is true of Citigroup: you don’t want to graft a hedge fund on top of it, even when the hedge fund is called Phibro and has been consistently profitable for 15 years.
A year ago, I said that Citi should just leave Phibro alone. But we’ve passed that point now, and Citi should let Andrew Hall and his extravagantly-remunerated energy traders do what they’ve been threatening to do, and just leave. All good things must come to an end, and Citi should just be happy that it’s managed to make so much money out of Phibro over the years without it blowing up.
Besides, Hall owns a castle, which means the optics are insurmountable. Jessica Pressler nails it:
Let him go. Spin off the unit, sell it to Japan, hire a monkey to trade oil futures at Citi. Anything to spare us from the histrionics that are sure to ensue once cable news finds out about the castle.
Citigroup should be trying very hard to become a very boring bank which can’t blow up. Phibro has no place in such an institution, and it’s undoubtedly a non-core asset. So I hope that Geithner tells Pandit that, no, he unambigously can’t continue to pay Hall his nine-figure bonuses. Those days are over.
There’s a great discussion going on in the comments of my financial literacy post about the question which 93% of Americans got “wrong”: what’s better, paying off a $1,000 appliance at $100 a month for 12 months, or waiting a year and then paying off a $1,200 lump sum?
The “right” answer is that the lump sum option is better, since it carries a much lower effective APR, but my point of view is that in the real world someone choosing the second option isn’t going to diligently put $100 a month into an interest-bearing savings account and thereby make a bit of extra money, and instead is just going to wind up owing $1,200 in a year’s time — basically just kicking the “how do I pay for this appliance” problem down the road, and making it $200 worse.
Dsquared asks if my view isn’t “just a leetle bit patronising” and accuses me of basically saying this:
I myself would of course choose option B, but as for the poor little feckless working class, they’re not really to be trusted with money, so they’d better go for option A.
But that’s not what I’m saying at all. The point is that there’s a hidden assumption here: that option C — which is simply writing a check for $1,000 — isn’t on the table, and that the purchaser doesn’t have $1,000 to pay for an appliance. So no, I myself would not choose option B, since I would choose option C and just pay for the thing.
On the other hand, Dsquared makes the very good point that a bit of empirical evidence would be very useful here, and that having this debate in the theoretical stratosphere really helps no one:
Is there actual evidence that people who own a load of stuff on installment credit have better financial outcomes than people who have a bunch of debt?
I don’t know whether there’s evidence to that effect, but I would love to see what the evidence is, and I have to say that my intuition is that, yes, people on installment credit do have better financial outcomes than people with a lot of undifferentiated lump-sum debt. But I might be wrong.
I also got a great email from Mike, of Rortybomb fame, who points out that this question is applicable not only to the poor but also to (a certain subset of) the rich:
Keeping the logic the other way: Let’s say instead of paying, you could get paid at your job $100 a month for 12 months, or get paid $1500 at the end of the year, and the interest rate is 1% a month. Option 1 is a net present value of ~$1125. Option 2, the one time payment, is a NPV of ~$1330. (ii) is the correct answer, it is worth more.
Unless your company goes bankrupt in month 11. (ii) is also the payment all the Wall Street kids took with their ‘no payments except for the yearly bonus’ option. And we wonder why they whine about not getting bonuses – time-value told them that was the smartest choice, way smarter than getting smaller payments throughout the year! How much better off would economics/finance be if they realized that people’s value of security and consistency wasn’t a defect of their puny minds not being able to handle utility theory?
More generally, the whole credit bubble was, in effect, what happened when the world started paying huge amounts of money today for jam tomorrow. Anybody choosing the $1,200 lump-sum repayment is basically making a bet that even though they can’t afford $1,000 today, they’ll be able to afford to pay $1,200 in a year’s time. But the fact is that people who can’t afford $1,000 today generally can’t afford $1,200 one year later, which means that most people taking that option are in a sense deluding themselves. Just as bankers deluded themselves that their year-end bonuses were money in the bank.
It’s surely a good thing that Chrysler is filing for bankruptcy: trying to get unanimous consent for a restructuring from dozens of stakeholders — especially small bondholders — was never going to happen on a foreshortened timetable, and it’s going to be much easier for Chrysler to get out of onerous obligations to dealers when a bankrupcy judge orders it. At the same time, the downside of bankruptcy — the fact that the public will be increasingly unsure about the company’s future — is here already; it’s unlikely to get worse, especially so long as Barack Obama makes it very clear that he’s committed to Chrysler’s continued existence as a going concern.
The broad outlines of a deal are already clear: Fiat will take a 35% stake in the company and manage it; the UAW will have a 55% stake; and all the government’s TARP funds will be converted into a 10% stake. Present-day creditors do not get equity but rather get cash; the sticking point is exactly how much cash they will get. And of course present-day shareholders — Cerberus and Daimler — are wiped out, and top management will be replaced.
All of this is necessary but not sufficient for Chrysler to have any hope of a long-term future. One of the more interesting things going forward will be how Chrysler manages to turn itself into a smaller, nimbler, change-oriented company while being majority owned by the UAW — which is nobody’s idea of a change agent. In general, if you need a dose of creative destruction, big unions are not the place to look.
On the other hand, it’s not as though anybody else has been able to manage Chrysler any better, and now, by definition, workers’ interests are aligned with the owners’ interests, just because the workers are the owners. Given how everything up to now has failed, this structure is at the very least worth a try.
As for the smaller creditors who stood in the way of a deal which would have avoided bankruptcy, I have very little time for their plaints. They’re offering nothing which will help Chrysler in the future: they just want to get the maximum return on selling the bonds they picked up for pennies on the dollar. I hope and trust that the bankruptcy judge will give them short shrift.
According to Francesco Guerrera, Citi is pushing back against the idea that rising unemployment is going to mean large credit losses on its credit cards:
People close to the situation said both Citi and BofA were contesting some of the conclusions made in the stress tests. Citi executives, led by finance chief Ned Kelly, are believed to have told regulators the estimates for losses on credit cards – based on rising unemployment – are too high.
Which is not the impression you get from listening to David Simon of Citigroup’s credit card unit, who popped up at the Milken Global Conference on Wednesday to say this:
As people have read in the newspapers, credit losses are at somewhat of an all-time high, and they go tracking directly with unemployment. So as unemployment goes, so go credit card payments. And since this is all based on statistical models, you don’t have the opportunity to look a person in the eye and say “let me help you”.
(Video here, it’s at about the 35-minute mark.)
I think this might count as a “gaffe”, under Mike Kinsley’s famous definition of a gaffe being when someone accidentally tells the truth. Or maybe Simon hasn’t been talking to his brand-new CFO recently. Or maybe Citigroup really thinks it can persuade Treasury that its statistical models are particularly reliable. Which is an argument I’d love to be a fly on the wall to see.
Banks Juice Profits, Fantasize About Loan Quality: By lowballing loan-loss reserves, banks can squeeze out substantial profits ahead of a stress test.
Quote of the Day: The amount of information needed to understand fully a CDO-squared. But actually that’s kinda the point, people were counting on the law of large numbers to help them out. Unfortunately, this particular large number was an exception to the rule.
Simon Johnson has a close reading of Larry Summers’s speech on the crisis, and notes what is conspicuous by its absence:
There was not even an indirect mention of political economy. Summers’ public narrative for the crisis is essentially that there was an accident: stuff happens. This narrative matters.
Johnson puts this in a context of asking Summers for a mechanism to avoid regulatory capture in the future — which is certainly important. But there’s another reason why it’s important for Summers to admit that government policies were part of the cause of the crisis: we’ve had virtually nothing in the way of apologies for screwing up the global economy, and it would do us all a lot of good if people who both caused and benefitted from the financial-services boom would man up and admit to their mistakes.
Top of the list, just by dint of his present importance in the government, is Larry Summers. In his tenure as a senior Treasury official during the Clinton years, Summers was intimately involved in laying the regulatory and philosophical foundations for the bubble. Johnson, who’s been following Summers’s thinking for some time, says that it has evolved in interesting ways, especially as regards the over-reliance on the financial sector for economic growth in the 1990s. It’s not a giant leap from that evolution to a simple admission from Summers that he made mistakes at the time. Except there’s the whole problem of Larry’s massive ego, which makes it hard for him to ever admit being wrong.
Of course, Summers isn’t the only person who should be apologizing: I very much look forward to reading or watching something similar from Bob Rubin, who managed to compound his errors at Treasury with further massive blunders at Citigroup. And the list goes on. Greenspan would be nice, but he’s already admitted being wrong on some fronts, and has at least engaged substantively with his critics on most others. Ken Lewis and Stan O’Neal and Sandy Weill and Dick Fuld, of course. Phil Gramm, absolutely. But let’s start with Summers, since he’s the one name on the list who’s still actively involved in making incredibly important decisions which affect the future of the country. And if he can’t admit to making mistakes, how can he learn from them?
Justin Fox has a great post up on models of regulation, linking a comment from Gary Becker (“When you give a lot of discretion to regulators, they don’t use the tools that are given to them”) to a theory from Matt Yglesias that when it comes to regulation, it’s important not to try to be particularly clever or sophisticated. Where there’s a serious systemic risk, says Yglesias, we should “lean in with a heavy hand”: a satisficing solution which makes no bones about the fact that it’s suboptimal, but which is based on the insight that when you’re pushing the envelope of optimality, a regulatory oversight or mistake can be vastly more damaging than when you have crude and simple rules in place.
In the perennial debate between rules-based and principles-based regulation, this is an argument in favor of the former, while I’m generally in favor of the latter. But Becker’s right: principles means discretion, and discretion means danger.
What I would do, then, is implement a largely discretionary principles-based approach to bank regulation, but pair it with one or two heavy-handed rules: a cap of $300 billion on total assets, say, along with increasingly stringent tier-1 capital requirements the larger a bank gets, based very simply on total assets rather than on clever Basel II risk weightings. The weight of avoiding huge systemic risks would then be borne largely by the big, dumb rules, leaving the rest of the regulatory function to deal with smaller-scale issues on a more flexible, case-by-case, and intelligent basis. Sure, there would still be the risk of regulators getting things wrong or being blinded by science, but the downside would be much smaller.
David Leonhardt seems to be on roughly the same page as me when it comes to debt-for-equity swaps at America’s banks:
In February, the Treasury began twisting the arms of some holders of Citigroup preferred stock to get them to convert it into common stock. (Preferred stock, despite its name, is something between a loan and stock.) The credit markets hiccupped, but quickly returned to their previous state. In the wake of the stress tests, the Fed and the administration may well push for more conversions along these lines.
The trickier issue is what to do with holders of so-called subordinate debt. In the spectrum of investments, subordinate debt is considered safer than preferred stock and tends to be subject to haircuts only when a company slides toward bankruptcy. Pushing a bank to the brink of bankruptcy would raise the specter of Lehman Brothers.
What Leonhardt doesn’t say, but leaves implicit, is that if you’re this nervous about touching the sub debt, then that means there’s no question of touching the senior unsecured debt — let alone depositors. This could be the beginning of a consensus: when a bank needs more recapitalization than the government has money to provide, then it’s certainly OK to convert preferred stock to equity (we’ve already seen that, at Citigroup), and in extremis one can convert sub debt to equity as well. But we’d be getting far ahead of ourselves if we started talking about tapping senior unsecured debt — which is banks’ chief wholesale funding mechanism.
After all, there’s no point in solving the solvency problem in the banking sector if you don’t solve the liquidity problem as well — which means that banks need to continue to have the ability to fund themselves in the private markets. If you start touching the senior debt too often — as we did in the cases of Lehman Brothers and WaMu — then even healthy banks’ ability to fund themselves rapidly disappears.