Felix Salmon

Matt Taibbi vs Goldman Sachs

Felix Salmon
Jun 24, 2009 21:10 UTC

Matt Taibbi’s 12-page screed on Goldman Sachs has appeared on newsstands; Zero Hedge has scans, but I can’t link to the piece itself because Rolling Stone hates the internet. Suffice to say that in the second sentence of the piece Taibbi describes Goldman as “a great vampire squid wrapped around the face of humanity”; later on, he calls it “the planet-eating Death Star of political influence”. He’s also a dab hand at the pen-portrait:

Rubin was the prototypical Goldman banker. He was probably born in a $4,000 suit, he had a face that seemed permanently frozen just short of an apology for being so much smarter than you, and he exuded a Spock-like, emotion-neutral exterior; the only human feeling you could imagine him experiencing was a nighmare about being forced to fly coach.

Taibbi makes the case that it’s not just wheat futures which have been overrun by index speculation, but commodities in general and oil in particular. Indeed, Taibbi puts Goldman, Zelig-like, at the center of no fewer than four speculative bubbles: one in the 1920s in which Goldman-controlled entities ended up losing an astonishing $475 billion in today’s dollars; the tech bubble; the housing bubble; and the oil-price bubble ending in 2008. He calls the US “a gangster state, running on gangster economics”, and is very explicit about exactly who he thinks the gangsters are. (Clue: they paid just $14 million in tax on $2 billion in 2008 profits.)

I don’t agree with all of Taibbi’s article, but I’m surprised at how much of it I do agree with, especially when it comes to the subject of regulatory capture. Taibbi spends no little time looking at Goldman subsidiary J Aron, and the semi-secret letter it was issued by the CFTC in 1991, the existence of which wasn’t even known to Brooksley Born, who was then the chair. The letter allowed Goldman to ramp up its activities in Chicago by orders of magnitude. When Congress asked to see the letter, the CFTC was careful to ask Goldman first if that would be OK.

I can’t, off the top of my head, think of a single government regulation over the past couple of decades which has remotely harmed Goldman Sachs; by contrast, there are many which have done it a world of good. The chances that the Fed, or any other systemic risk regulator, will be able to rein in this powerful organization are probably slim. The best we can hope for, I think, is that Goldman will unilaterally decide to be a force for good in the world, rather than an inflator of bubbles and profiteer in busts.


gangsta is right – about time more people talked about this.

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The Best Picture Oscar gets even less important

Felix Salmon
Jun 24, 2009 19:28 UTC

Joe Weisenthal is right that the value of a Best Picture nomination has just plunged, now that the number of Best Picture nominees has doubled. What he doesn’t mention is that although there might be some marginal boost for film studios who would otherwise not have gotten a Best Picture nomination at all, there is probably going to be a significant devaluation of the actual Best Picture award.

The Oscars — like much mass media — are in trouble these days, and are having difficulty keeping the interest of the general public, and one of the main reasons is that the Best Picture award tends to go to relatively small and arty films rather than the blockbusters watched by a large chunk of the population. (It’s no coincidence that the 2004 awards, where the Best Picture gong went to Lord of the Rings, got the highest ratings in recent history.)

The move to 10 nominees from five is only going to exacerbate this problem: under the Academy’s first-past-the-post voting system, a film could theoretically win the award with less than 15% of the total vote. And as a result, tiny but much-loved films will have a serious advantage over big all-things-to-all-people features, which are much less likely to be any given voter’s absolute favorite movie of the year.

So while this might be a good move in the short term for the studios, it’s a bad move in the long term for the Oscars. I don’t think it’ll last.


Ann Althouse posts an e-mail pointing out a manner in which this might actually increase the chance of a blockbuster winning the actual award here:

http://althouse.blogspot.com/2009/06/now -there-will-be-10-nominees-for-best.html

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How commodity indices broke the wheat futures market

Felix Salmon
Jun 24, 2009 16:47 UTC

Back in March 2008, Diana Henriques noted something very odd: a large number of futures contracts traded in Chicago were expiring at levels much higher than the spot cash price. She said at the time that “economists who have been studying this phenomenon say they are at a loss to explain it”.

This very odd phenomenon — which caused farmers a lot of harm — has now been explained in a 247-page report from the Senate investigations subcommittee, entitled Excessive Speculation in the Wheat Market. The main PDF is here; there are exhibits and addenda here. The culprit, it turns out, is index traders.

The rise in the basis between the futures price and the cash price is a function of the rise of commodity indices, and investors buying a basket of commodities. This affected the wheat market particularly badly, as explained in footnote 213 of the report, partly because of the ease of storing wheat:

Aside from wheat, the other commodity markets in which index traders hold a substantial share of the long open interest are the futures markets for two livestock commodities, lean hogs and live cattle. Lean hog futures contracts are financially settled, meaning that the price of the expiring futures contract is set at the price of the commodity in the cash market at contract expiration. By definition, therefore, lean hog futures and cash prices will be equal at settlement, so there is no problem with convergence. Live cattle, unlike grain, cannot be placed in storage from one contract expiration to another. That constraint means there is always an active cash market for live cattle at contract expiration that helps to force convergence.

The Senate subcommittee recommends that the futures exchanges should curb speculation in the futures market in order to bring the basis between futures and cash back down to a reasonable level. It’s coming down already, but it’s still extremely high, at over a dollar a bushel:


This whole thing reminds me slightly of the way in which the USO oil ETF helped to exacerbate contango in the oil market. And in general, it seems that attempts by investors and banks to construct financial instruments which give simple exposure to commodities have not worked very well. Chalk up another failed financial innovation.


The existence of the delivery oligopoly is necessary and nearly sufficient. That should be considered the primary cause of the failure here, even if it needed a trigger before the spreads got particularly wide in the last couple years. Making the futures cash-settled requires a way to determine the authoritative final settlement price; if it’s not too messy (in terms of performance risk) to dramatically expand the number of permitted deliverers, that would seem to me to be the sensible solution.

Why Citi’s right to raise salaries

Felix Salmon
Jun 24, 2009 15:28 UTC

John Carney is underwhelmed by the news that Citi is raising its base salaries:

Let’s break this down in the simplest terms: this is a disaster. Without taxpayer guarantees and funding, Citigroup would be unable to give its employees higher base salaries. The best employees would leave for other firms. This market process would further diminish Citi and enhance its better managed competitors. Everyone, except Citi shareholders and some of its senior management, would be better off. Instead, taxpayer funds are being used to block this market process, trapping talent inside a failed firm and rewarding management’s worst mistakes.

The problem with this argument is that without taxpayer guarantees and funding, Citigroup would be unable to give its employees any base salaries at all, or bonuses, or anything but a pink slip. Citi is too big to fail, which means the US government has to support it. At the same time, the stated aim of the Obama administration is to be as hands-off as possible when it comes to its ownership stake in banks — something which Carney in general supports. (I’m sure he wouldn’t want the government interfering with loan decisions, for instance.)

If you’re going to leave Citigroup’s senior management to run the company, you have to let them decide on things like the proper ratio of bonuses to base salaries. And since that ratio was obviously far too high in the past, it has to come down substantially. And a sensible way of bringing that ratio down is to raise base salaries (and, of course, reduce bonuses as well).

There’s no reason why Citigroup can’t take the lead in rationalizing its compensation structure. If part of that rationalization involves raising base salaries, fine. Resorting to “if it wasn’t for us taxpayers you wouldn’t exist at all” is unhelpful.


This would be laughable if it weren’t such an incredibly serious issue. Apparently, Mr. Salmon has his head so far up Citi’s behind that he’s failed to notice (or even mention) that these bonuses come not only on the back of the TARP funds but a $4 increase in overdraft fees (up to $34 from $30) and increased ATM fees for non-Citibank members (from $2 to $3). Not to mention foreclosures are up 22 percent from last year [http://www.nytimes.com/2009/07/05/busin ess/05gret.html]. Simon Johnson, the chief economist of the International Monetary Fund from 2007-08, recently argued [http://www.theatlantic.com/doc/200905/i mf-advice] that any bank that’s too big to fail is too big to exist. Who you gonna believe: Mr. Johnson or some two-bit hack blogger?

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Adventures in covenant-stripping, HCA edition

Felix Salmon
Jun 24, 2009 13:55 UTC

During a credit boom, companies can borrow money with few if any covenants, and lenders are happy to give them anything they want in terms of freedom to refinance or restructure their debt in future.

During a credit bust, it seems that in certain cases the exact same thing is true:

HCA is asking senior lenders to give it carte-blanche approval to manage its debt load without having to go back each time for amendments to its existing loan contracts.

As an indication of HCA’s confidence in investors’ willingness to cooperate with its debt-management efforts, the company’s request contained no limits on HCA’s ability to extend loans and didn’t offer investors any fee for approval.

HCA didn’t actually succeed in its request, but it came close, and it seems that HCA’s lenders are cooperating with the company:

In a more normal credit environment, it would seem unlikely that loan investors would give up their ability to control a borrower’s debt-management strategy or grant a company virtually unfettered license to extend maturities without discussing the extension or potential pricing. However, S&P’s Donnelly feels that in this stressful climate, HCA will likely get what it wants after granting concessions to investors who don’t want to be insulted by terms that are too aggressive.

“It’s in everybody’s best interest to chip away at the maturity towers of 2012 to 2014,” Donnelly says.

But what about those pesky CDS, which are currently trading at 20 points upfront? What happened to the notorious dynamic where lenders would hedge themselves in the CDS market and then, in some circumstances, actually want the company to default?

Well, for one thing, I’m not sure that happens nearly as frequently as some people think. But also, HCA is a special case: a very large chunk of its loans are held by CLOs, which might well be much less likely to hedge themselves in the CDS market.

And then, at least according to Vipal Monga, there’s CLO prepayment risk, of all things:

Donnelly says CLOs have a strong incentive to approve HCA’s request because of the size of its loans and the prospect that they might be repaid early if HCA issues more bonds to reduce its senior debt. The company likely won’t need to ask for permission to do this again, given that investors already gave it before its $1.5 billion offering.

Many of the CLO funds, which made up the bulk of investment in the leveraged loan market in the credit boom, don’t want to be sitting on low-yielding cash and would be willing to allow HCA to extend maturities on existing debt to avoid early repayment.

This doesn’t pass a smell test. HCA is a distressed debtor; the CLOs should be ecstatic to be repaid in full. And if they don’t want to sit on low-yielding cash, there’s no shortage of high-yielding leveraged loans they can buy with that cash. Are CLOs not allowed to buy loans in the secondary market, if they have excess cash? That would be very weird indeed.


Sounds to me like the Japanese solution. Roll over bad debts so you don’t have to recognize them.

Tuesday links lose it all

Felix Salmon
Jun 23, 2009 23:53 UTC

Urban planning fail: Glorious American train stations and what took their places. Incredibly depressing.

“Legg Mason’s loss of $1.9 billion last year meant that there was no bonus pool. But that didn’t stop the bonus…”

Lawrence Yun wants to suspend mark-to-market in the mortgage origination industry

I’m putting all my money in Dangerous Fund I. If you’ve got money to invest, you’ve got too much money.

How fabulous is this Chris Lehmann demolition of Steve Forbes

Marilyn Minter only gets better with age

On the parallels between Bill Keller and Mao Tse-Tung


Many apologies all. I have been taken out and shot.

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Why did Schapiro hire Hu?

Felix Salmon
Jun 23, 2009 19:47 UTC

Floyd Norris says it’s “great news” that the SEC’s Mary Schapiro has hired Henry Hu, the intellectual father of the CDS-help-cause-bankruptcies meme: it’s “another sign,” he says, “that she plans to be an effective regulator”.

Or maybe it’s just that she’s desperately trying to stake a claim in preparation for the coming fight with the CFTC over who gets to regulate credit default swaps. Maybe she’s noble — but exactly the same behavior can be adequately explained by painting it as a power grab.


the SEC and CFTC came to agreement already on how to split regulation of OTC products. Schapiro explained the proposed split during her hearing appereance on Monday – SEC gets security based swaps and CFTC gets interest rate, currency swaps etc. It was presented as a decision reached between the two agencies.

how did you miss that?

Welcoming the Wall Street brain drain

Felix Salmon
Jun 23, 2009 19:00 UTC

Societally speaking, it’s a good thing — as Dan Roth says — that Wall Street is losing its brilliant employees and that hot young university graduates are looking to other sectors instead. All that talent is better used just about anywhere else, largely because on Wall Street innovations are kept secret until the point at which they’re no longer of any use:

Instead of spending their days searching for exotic trades, some of these Wall Street wizards could’ve been creating drugs, imagining software, or solving energy problems. Capital markets need geniuses, too, but it’s hard to cheer such a massive money-chase…

On Wall Street, work in the lab never leaves the building; after all, a trading strategy’s value disappears when it goes mainstream. An innovation might strengthen capital markets, but the possibility of that research benefiting another industry—the kind of cross-pollination that turned Velcro from a NASA oddity into a modern staple—is eliminated.

It’s true that the money made from proprietary trading strategies is sometimes put into pure research, as Jim Simons is doing at Stonybrook or David Shaw is doing at DE Shaw Research. But it’s hard to make the case that Wall Street technology has any track record of making the world a better place. Indeed, quite the opposite; Roth goes so far as to say that “a new flowering of creativity on Wall Street would be a very bad thing”. I suspect he’s right.


Speaking further of Wall St technology / innovation, perhaps someone here can enlighten us all as to what the MBS markets looked like 25-30 years ago. Because someone once thought it prudent to model prepayment behavior by a variety of factors, including LTV, property type, owner / non-owner, and chiefly the factor of interest rate & refinance ability. There are plenty, plenty of mathematical whizzes that worked on MBS modeling and continue to do so. By referring to MBS, I mean the classical definition and not all the sub-prime, Alt-A; I mean 20% down, 700+ FICO (at minimum) and all things verified that can be.

I think it easy, and convenient to allow the symptomatic betrayal of supposedly all things “Wall Street” today and largely ignore the fact of some good that came out of mathematical engineering R&D 25 years ago. The cost of credit is lower, not in full, but in part because of this effort.

Yep, those pesky mortgage rates really didn’t do anything but come down in the last 20 years. And foreign investors never bothered looking at the yield spread advantage compared to, US Treasuries, and be attracted to MBS (adjusted for duration, convexity, and what-not). Nope, never happened.

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Actual candor from Jack Welch

Felix Salmon
Jun 23, 2009 17:39 UTC

Jack Welch likes to cultivate an image as a straight-talking kinda guy who would never say something to an enclave of CEOs that he wouldn’t be happy putting his name to in one of his books or columns.

Except, according to the Economist (a/k/a Matthew Bishop):

This columnist once heard Mr Welch tell a chief executives’ boot-camp that the key was to have the compensation committee chaired by someone older and richer than you, who would not be threatened by the idea of your getting rich too. Under no circumstances, he said (the very thought clearly evoking feelings of disgust), should the committee be chaired by “anyone from the public sector or a professor”.

Maybe that’s the reason he finally retired from GE: there was no one left who was richer than he was.

Update: Bishop went into more detail on this here.


When he left there were few older too.

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