Felix Salmon


Felix Salmon
Dec 13, 2010 07:32 UTC

Apple and Google likely in the bidding for Nortel’s patents, which could fetch $1 billion — Reuters

How journalists, op-ed writers, and bloggers live “in different parts of the balkanized Times empire” — NYT

Julian Assange’s Profile On OKCupid? — VV

Vladimir Putin sings Blueberry Hill in front of Kevin Costner — BoingBoing

Foul-mouthed but spot-on analysis of the political economy of Ireland — YouTube

NYT bombshell on wide extent of U.S. recruiting Nazis — NYT

“In India, the community component of micro-lending has never been taken seriously” — Forbes

National Security Letter horrorshow explained — ACLU

Jonathan Stray’s Iraq War Logs visualization — JS

Warner Bros. Finally Realizes That ‘Pirates’ Are Underserved Customers — TechDirt

First-hand account of what it feels like to be be stupid when you used to be smart — Garry/sub/

Will Gordon Brown get the IMF job? “He lacks political and personal diplomatic skills” — Guardian

$50 each, or 16 for $1000? This must be the art world — 20×200

Non-profit expenditure datapoint of the day: $200m over 5 yrs to sponsor football shirts — BBC

There is a certain amount of logic to the idea of a Chinese company buying Champagne house Heidsieck — Vitabella


The National Security letter is a bit of a shocker. If the FBI can target you and garner your emails on suspicion you might be a security risk, your privacy is screwed… and after reading about what GWB era suspicion was, that would mean calling the President nasty names? 99% of the USA is at risk.

http://www.aclu.org/national-security/ac lu-plaintiff-john-doe-ungagged

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The NYT takes on the derivatives cartel

Felix Salmon
Dec 13, 2010 07:14 UTC

Back in September, the Chicago Fed hosted a symposium on OTC derivatives clearing. (Bear with me, don’t fall asleep just yet.) The luncheon keynote was given by Ken Griffin, and summarized by Craig Pirrong, who was there:

Griffin gave a paean to central clearing, and to Dodd-Frank more generally. Clearing is cheaper operationally and administratively. It reduces risk. It economizes on capital. It is the cure for all that ails the financial markets.

So if it is so wonderful, what stands in the way of its adoption? Per Griffin: a small, self-interested cabal of dealers who reap billions and billions of profits at the expense of end users, and who will lose their ill-gotten gains in a cleared world.

This narrative is a familiar one, the stock theme of the advocates of central clearing.

Today, the NYT’s Louise Story took Griffin’s complaint and elevated it to the status of the main front-page story of the Sunday paper. It’s a long and powerful piece, which alleges that a small group of powerful investment banks are doing their utmost to keep the lucrative OTC derivatives business for themselves; the cabal even has a secret meeting, in midtown Manhattan, on the third Wednesday of every month.

I’m sympathetic to Story’s case here, even if it’s hard to have much sympathy for Griffin, a billionaire who clearly wants to export his high-frequency trading techniques from the stock market to the options and futures markets. I think that Story and Griffin are right that we would be better off with much more derivatives trading centrally cleared, and that the biggest derivatives dealers are doing their best to stymie such a move.

But that said, Story’s story is quite one-sided. She doesn’t talk about Griffin’s profit motive, and she’s far too credulous when it comes to other would-be competitors in the derivatives space. Look at this, for instance:

The Bank of New York Mellon’s origins go back to 1784, when it was founded by Alexander Hamilton. Today, it provides administrative services on more than $23 trillion of institutional money.

Recently, the bank has been seeking to enter the inner circle of the derivatives market, but so far, it has been rebuffed.

Bank of New York officials say they have been thwarted by competitors who control important committees at the new clearinghouses, which were set up in the wake of the financial crisis.

Bank of New York Mellon has been trying to become a so-called clearing member since early this year. But three of the four main clearinghouses told the bank that its derivatives operation has too little capital, and thus potentially poses too much risk to the overall market.

The bank dismisses that explanation as absurd. “We are not a nobody,” said Sanjay Kannambadi, chief executive of BNY Mellon Clearing, a subsidiary created to get into the business. “But we don’t qualify. We certainly think that’s kind of crazy.”

It’s pretty obvious that being founded by Alexander Hamilton in 1784 and being “not a nobody” are not sufficient to be admitted to a central clearinghouse. The way those clearinghouses work, the strongest members bear a lot of risk should one of the weaker members fail, and so it’s reasonable for them to want to try to minimize that risk by forcing members to put lots of capital into their derivatives arms — especially would-be members who think such demands are “kind of crazy”.

So a bit of third-party adjudication would have been welcome here: does BNY Mellon really have so much capital that its acceptance into the derivatives-counterparty club is a no-brainer, as Kannambadi would have us believe? We don’t know: Story simply gives him the last word, and moves on.

More generally, there’s no evidence that Story ever talked to Pirrong or any other third party who takes the other side of the argument. And the other side, as presented by Pirrong in response to Story, does make a certain amount of sense:

The Citadel commander’s argument presumes that end users–who, as he properly notes, must be the ultimate source of any dealer market power profits–are the victims of some sort of battered spouse syndrome. For end users are among the most vociferous opponents of clearing mandates. FMC Treasurer Thomas Deas was quite outspoken on this score at the session immediately prior to Griffin’s speech. Why are end users the most ardent defenders of a system that is supposedly rigged against them, and robs them blind? …

Criticisms like Kenneth Griffin’s and Louise Story’s remind me of what Yogi Berra said about Ruggeri’s (a restaurant on The Hill in St. Louis): “Nobody goes there anymore. It’s too crowded.” The OTC markets are big and crowded with customers. If they’re such a bad deal for these customers, why is that true? Why hasn’t entry, or the movement of customers to available substitutes, constrained market power and prevented exploitation of customers? Not to say that such an outcome is inconceivable, just that Louise Story, Kenneth Griffen, and the cast of thousands who criticize OTC derivatives markets haven’t come close to answering these questions.

I long for the day when there will be serious consideration of these issues, rather than superficial black hat-white-hat narratives.

Story took an extremely recondite subject and did a masterful job of explaining it in easy-to-understand terms; what’s more, her heart is clearly in the right place. As such, it feels a bit churlish to accuse her of oversimplifying matters: in an important sense, it’s her job to take complex subjects and simplify them to the point at which they can be generally understood.

But the front page of the Sunday NYT is an extremely powerful bully pulpit, and comes with a lot of responsibility to deliver a balanced and nuanced take on such subjects. Story’s piece is long enough as it is, and maybe couldn’t be extended any further. But I would have loved to have seen a good-faith effort to explain the big banks’ side of the argument, and also to give the banks’ opponents opportunity to respond to those arguments, much as Steve Waldman did online. But maybe that’s what the blogosphere is for, these days.


I wrote similarly at my blog, pointsandfigures.com.

http://pointsandfigures.com/2010/12/12/b anks-clearing-and-over-the-counter-deriv atives/

Of course today the lean hog market went haywire. purely the cause of exchanges not being good caretakers to markets.

http://pointsandfigures.com/2010/12/13/l ean-hogs-jump-computerized-trading-ruini ng-marketplace/

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Gawker Media gets hacked

Felix Salmon
Dec 13, 2010 06:25 UTC

There’s some easy fun to be had with the information in the Gawker Media hack. It’s interesting to know that Nick Denton used the same password across various different sites like Google Apps and Twitter and that it’s an all-digit code which makes a pretty pattern on a standard number pad. On top of that, one user with a usdoj.gov address uses the password “parasite”, while another uses the password “Princess”; meanwhile, a NASA user has the password “pervert”.

Really, however, the passwords are the least damaging thing here. (Mine’s on the list; it doesn’t even work.) Gawker’s commenters were operating under the understanding that they were anonymous; now, at least 188,000 of them, and probably more in coming days, can be associated with an email address. Some of those emails are the kind of “stealth Gmail, Yahoo Mail, or Hotmail account” recommended by Gawker; many others are not and can easily be traced to an individual. Gawker has said that it’s “deeply embarrassed by this breach”, but a much more heartfelt apology is needed. I can imagine more than a few commenters on Gawker and Wonkette and Fleshbot who would be mortified or possibly even fired if their identities became public. And already a list of .gov email/password combinations is being passed around to see whether those same passwords will unlock state secrets elsewhere.

A separate question is how damaging this all is to Gawker Media itself. Nick Denton might fancy himself a technologist, but I can’t remember a technology company ever being this comprehensively hacked, even unto the public distribution of the source code of its products. Gawker’s spent the past year carefully researching and developing its new web architecture, known internally (and now to the whole world) as the “GANJA framework”. Even if rival web publishers don’t shamelessly and illegally copy-and-paste large chunks of the source code, they are now able to see very easily how to put this kind of website together and to avoid the many dead ends which Gawker’s tech team undoubtedly ran into while building this site.

This hack may or may not affect the number of comments on Gawker Media sites — comments which Gawker Media itself says have “become a prized asset” and contribute importantly to Gawker Media’s value. Commenters, of course, represent many more pageviews than any other readers. (Incidentally, Denton recently increased the amount he’s offering to buy back shareholders’ stakes from $30 per share to $35 per share, which means that he’s now valuing the company at $35 million.)

The hackers are malicious, although they haven’t (yet) followed through on their scariest threat:


Clearly, if they’re willing and able to do this, #gnosis could cause vastly more damage than they have done already. Equally clearly, as Gawker says, the company “should not be in the position of relying on the goodwill of the hackers who identified the weakness in our systems”. And going forwards, it’s going to be very hard for anybody to trust Gawker as a media organization which can’t get hacked. What’s more, the way that Gawker taunts known hackers only makes such hacks more likely.

This, then, is a vivid example of the tail risk associated with companies like Gawker and is the main reason to sell shares back to Denton at $35 apiece: you never know what kind of event might happen to render the company worthless. That extreme outcome probably won’t come to pass, but do you want to take the risk?

Update: Gawker Media now has a FAQ up, which stops short of an apology. What Gawker didn’t do — but what the good people at Hint did do — is email everybody whose email and password were made public, to inform them of that fact. “In situations like this, time is of the essence, which is why we were surprised & shocked to find that Gawker Media hadn’t taken the initiative to notify you of this privacy breach immediately,” they wrote. I’m with them: Gawker should have done what Hint did. But, thankfully, now they don’t need to. And if you haven’t received an email from Hint, there’s a good chance that your email and password have not been made public.

New Jersey’s stupid parking-privatization plan

Felix Salmon
Dec 13, 2010 01:48 UTC

In cases like that of the Chicago parking meters, I have a certain amount of sympathy for the privatization argument. But New Jersey Transit parking spaces aren’t Chicago parking meters, and so I’m entirely in agreement with Yonah Freemark that privatizing NJ Transit’s parking lots is a very bad idea.

Frankly, all you need to know about the plan in order to hate it is its name — it’s called the System Parking Amenity and Capacity Enhancement Strategy. But there are three more substantive reasons to dislike it.

Firstly, press coverage of the scheme has revealed nothing about the state’s willingness to cap or guide the amount charged for parking in these lots. Indeed, the official RFQ states that “it is currently contemplated that this transaction will include an opportunity to adjust parking rates in accordance with market demand” — and the stated aim of the privatization is to raise as much money as possible. As a result, the successful bidder is likely to give themselves a lot of freedom to hike parking rates in the future.

The problem is that right now no one knows what the revenue-maximizing market rates might be. If New Jersey thinks that a revenue-maximizing strategy is the way to go, it should try to implement such a strategy itself first, just to get an idea of how much revenue it could generate that way. Otherwise, there’s a serious risk that it will sell of the lots for a fraction of their actual worth.

Secondly, the plan comes on the heels of the price of rail tickets being hiked by 25% in May. If the cost of traveling by train and the price of parking at train stations both rise substantially, it’s pretty obvious what’s going to happen to the number of people taking mass transit as opposed to simply driving to their final destination. While the headline revenues from the privatization contract might look attractive, no one seems to be thinking about the hidden costs to both the state and its citizens in terms of extra congestion.

New Jersey Future’s Jay Corbalis makes this point another way, saying that privatizing NJ Transit’s parking lots only makes sense in the context of broader congestion pricing, where the cost of the driving-only alternative rises commensurately:

“By privatizing parking facilities, this proposal will have the effect of further raising costs for many NJ Transit riders,” Corbalis said. “If New Jersey wants to move toward a user fee-based system to pay for transportation, it should apply the same approach to roads and bridges as it does for mass transit.”

Finally, there’s the likelihood that the best and highest value for all that land currently being given over to parking spaces is probably not parking at all. Instead, it’s new residential and commercial development, centered on the transit services already there. (See San Francisco for an example of this in work.) The term of art for this is transit-oriented development, or TOD, and the RFQ is well aware of it:

Many of NJ TRANSIT’s parking facilities are key properties that have the potential for TOD and certain Concession Assets are currently under active consideration for TOD. Consequently, Prospective Proposers are advised that NJ TRANSIT is strongly interested in ensuring that TOD opportunities are not negatively impacted by the award of this Concession. To that end, Prospective Proposers will be encouraged in the RFP stage to submit TOD proposals as an option in their responses…

The selection of a Concessionaire will be based entirely on the proposals for the Concession Assets submitted pursuant to the RFP; however if the selected Concessionaire has submitted a TOD proposal that is deemed advantageous to NJ TRANSIT, NJ TRANSIT may, but shall not be obligated to, negotiate an independent and exclusive development agreement with the Concessionaire.

If NJ Transit will pick the winning bidder entirely on the basis of what they want to do in terms of parking, then it’s almost certainly not going to pick someone who’s ideally qualified to build new development on those parking spaces. More to the point, if NJ Transit does not negotiate an independent development agreement with the concessionaire, then the chances are that the land will simply remain a parking lot for decades to come, since the concessionaire at that point has the right and indeed the obligation to continue to run that land in exactly that manner. While it’s possible that NJ Transit might be able to team up with a third-party developer to buy out the concessionaire’s parking rights, that’s a very expensive and complicated way of doing things.

Writes Stephen Smith:

Rather than taking on entrenched suburban interests, we’re just adding another layer of government dependents, this time of the monied corporate variety (bidders include KKR, Morgan Stanley, Carlyle, and JP Morgan). The land on which transit parking lots sit is uniquely positioned to be converted into dense development, and the only thing worse than sitting on the land would be for the agencies to sign away their rights to change that within the foreseeable future.

None of this is particularly surprising, coming from the government of tunnel-killer Chris Christie. But it’s very depressing, all the same.


can someone tell me how to get the little avatars to appear in my comments section? thanks!

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OpenTable and its discontents

Felix Salmon
Dec 11, 2010 23:12 UTC

There’s a very swanky restaurant in San Francisco called Coi (pronounced kwa). Its owner isn’t a fan of OpenTable:

Daniel Patterson uses OpenTable at Coi, a restaurant he owns in San Francisco, and RezBook at Plum, his newer restaurant in Oakland. He regards OpenTable’s fees as excessive. “It’s just not where I want to spend the money,” Mr. Patterson said. His opinion is of particular interest because Coi is a two-Michelin-star restaurant where diners spend $150 to $160 a person. Mr. Patterson says the $8,000 that he spends annually on OpenTable is “a big chunk of what we make.”

In fact, diners spend a lot more than $150 to $160 per person at Coi. According to the restaurant’s OpenTable page, OpenTable reservations are taken only for the main dining room, where there’s a compulsory 11-course tasting menu. The price is $135, plus 9.5% tax (welcome to San Francisco) plus an automatic 18% service charge. Before having a drop to drink, that’s $172 per person as a bare minimum. If you’re ordering the $95 wine pairing, that gets you up to $293. (I’m assuming here that the tip is calculated on the pre-tax total, which some restaurants don’t do.) And if you fancy cocktails or coffee or cult California cabernets or 1907 madeira at $122 per glass, then of course they sky’s the limit.

Coi’s dining room has 28 seats, which means that the restaurant’s OpenTable bill works out to roughly 80 cents per seat per day. Compared to the $300+ that those seats are generating, not to mention the money going in to all that molecular gastronomy, I find it hard to characterize those 80 cents as “a big chunk” of anything much.

It’s worth doing the math, here: OpenTable charges $199 per month plus $1 per seated diner.* (It’s only 25 cents per diner if you book through the restaurant’s website, but Coi’s flash-based website, which can’t be viewed on the iPads or iPhones of San Francisco’s techy elite, makes that as difficult as possible.) If Coi is paying $667 a month to OpenTable, that means that OpenTable is seating 468 of its diners every month — in a restaurant which would be completely sold out every night at 850 diners per month. Clearly, OpenTable is popular among Coi’s patrons. But Patterson doesn’t get it:

Coi is a busy establishment, so Mr. Patterson does not look to OpenTable to bring in customers. He is concerned only with making the customer’s experience as enjoyable as possible. “Customers can tell the attention to food and to service — that’s palpable,” he says. “But the way you make a reservation?” He doubts that is a selling point.

This is ludicrous: of course it’s a selling point. If I’m out with friends and we decide we’d love to go to Coi next month, it takes no more than a minute to make a reservation using the OpenTable iPhone app: it’s incredibly easy to see what dates and times are available, and to select something convenient for all of us. Without OpenTable, we have to do an enormous amount of coordination — waiting until the restaurant is open, phoning them up to see what’s available, checking with our friends to make sure they can all do that date, phoning back the restaurant to confirm, sending round the details via email, etc. If Patterson wants to make his customers’ experience as enjoyable as possible, why on earth would he force them to go through that rigmarole?

On top of that, OpenTable makes it much easier for diners to provide feedback to the restaurant; that alone should be worth something to Patterson. (Not to mention all the time that his staff doesn’t have to spend answering phones.) So how come he’s so adamant about his opinion that OpenTable is worth very little and is overpriced? Patterson, more than most restaurateurs, is in the business of providing excellent service and charging commensurately. It’s weird that he fails to recognize and appreciate that model in OpenTable.

*The NYT says that OpenTable charges “an average of $270 a month for the terminals and table-management software”, not $199 a month; I’m not entirely sure where the discrepancy comes from.

Update: Some fantastic comments on this post. A few points worth adding:

Firstly, OpenTable helps, at the margin, newer restaurants as opposed to more established ones; emptier restaurants as opposed to fuller ones; and restaurants on side streets as opposed to those in high-rent locations. (Thanks to rjackson for that insight.)

Secondly, the psychology here is worth looking into. Restaurant owners dislike OpenTable for two main reasons. They get a big bill every month, which can be hard to pay; and they look at the astronomical market capitalization of the company and think it’s all coming out of their own pocket. In fact, it isn’t: a lot of the OpenTable bubble is due to the value of its email list, both in terms of advertising revenue in emails and in terms of Groupon-like offers. But restaurateurs often don’t understand that, or understand that OpenTable might simply be massively overvalued.

And thirdly, @mvaughan says that OpenTable has to be much better at communicating helpful analyses to restaurants. OpenTable’s software can be extremely powerful, but at the same time many restaurants use it for  nothing but reservations, with all that potential added value being neglected. OpenTable should be more proactive in communicating the other data that the service collects, and encouraging restaurants to leverage it as much as possible.

Update 2: OpenTable clears up the $199 vs $270 discrepancy:

The $199 monthly subscription fee includes our Electronic Reservation Book software, unlimited upgrades, the touch-screen computer system, and 24×7 IT help desk support. The average monthly fee per restaurant is higher ($270) because many elect to subscribe to add-on products such as software licenses for their own computers, additional Electronic Reservation Book systems, and POS integration.


There is very little chance that the owner of Coi knows or gives two hoots about the OPEN market cap.
I am pretty sure he sees the bottom line impact of OPEN and is gutted.
Since he is sold out and still employs someone to answer the phone, OPEN saves him no money and makes him no money.
Pre-OPEN he was making plenty of money and now with OPEN he is making $8k less.

But this is the genius of OPEN – customers expect it now (particularly in SF) so you HAVE to have it.
Welcome to the world of monopoly pricing. It hurts.

Frankly if he wants to save some $$ he should bin the flash and makes his website super iphone-friendly so he is only paying OPEN 25c not $1 for seated diners. Moron.

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Examining Larry Fink

Felix Salmon
Dec 11, 2010 00:24 UTC

blackrock.pngPaul Kedrosky loves playing around with word clouds, and generated this one from the new Bloomberg Businessweek profile of Larry Fink. It’s cute, as Paul notes, that Goldman and government seem to intersect. But it’s also interesting to see how prominent Goldman Sachs is — it’s the only bank in the cloud.

That made me want to read the profile, because the tense relationship between Fink and Goldman is something I’d love to see much more written about. But weirdly, the authors seem to go out of their way not to delve. They compare the business lines of the two companies, but take Fink at face value when he downplays any rivalry:

Fink brushes off the Goldman Sachs comparison—”They’re in such a different business,” he says. “I don’t want to be in that business.” …

“Goldman Sachs is a great partner of BlackRock’s, and yet we compete bitterly against each other, too, in the asset management side. We use them as a counterparty, and we do a lot of trades with them.” But, he says, “we are very different. This is who we want to be.”

Weirdly, this passage comes right after Fink goes out of his way to compare himself favorably with former Goldman executive John Thain, who beat him out to become CEO of Merrill Lynch:

When BlackRock rearranged its offices earlier this year, expanding onto several additional floors on East 52nd Street, Fink decided not to radically redecorate his new space. “Same furniture, exactly the same maker,” he says, gesturing around the room and chuckling. No $2 million renovation? “No. I don’t believe in that.”

If you only read one profile of Fink, the best one remains last April’s piece by Suzanna Andrews in Vanity Fair, which includes all the information in the more recent profile, plus much more about Fink the man:

Fink is also one of the best gossips on Wall Street. In an industry where information is power, he is regarded as the king, someone who gives to get. “Larry’s a real yenta,” says one bank executive who has known him since the early 80s. “There’s a lot of hinting at how much he knows. It’ll be ‘Oh, Bear Stearns, that portfolio is … ’ and then he won’t say it—he’ll just hold his nose.” Or “As I told Washington,” a phrase he is known to insert into conversation. “Larry has always wanted to be important,” says this bank executive. “And now that he’s more important than he ever dreamed of, he’s loving it.”

During six hours of interviews with Fink in December and January, all of these qualities were on display. Seated at the long cherrywood table in his conference room on the seventh floor of BlackRock’s headquarters, on East 52nd Street, he spoke about his firm, Wall Street, Washington, and himself. At times coolly analytical, and surprisingly reflective, he was at other moments defensive, emotional, and startlingly blunt. He gesticulates when he speaks, in a voice that sometimes verges on shouting but can suddenly drop to a whisper as though he were talking to a child or a lover. Both trenchant and gossipy in his insights—with a mind that moves at 90 m.p.h.—it is obvious what draws people to him. He’s open and unguarded, but only up to a point. There is another side of Fink—cautious and veiled—that monitors every word that comes out of his mouth.

Andrews was willing to probe Fink’s relationship with Thain:

Asked about that, and about accounts that he was “desperate” for the job and “furious” when, in November 2007, it went to his nemesis Thain, Fink says, “I was never desperate for the Merrill job. I can say I was interested in exploring it, but I didn’t want to go into a snake trap. I said for me to even consider it I needed to have my team go in and look at the balance sheet. And I was never allowed to do that. The whole process was infuriating.” He also says that his issues with Thain—who was recently hired to run the commercial finance company C.I.T. Group—“go back a lot of years,” but he will not discuss them. Asked, too, about reports that Fink, in his disdain for Thain, calls him “John-boy,” he smiles.

She’s also much more explicit about BlackRock’s mistakes, beyond the obvious StuyTown fiasco:

Despite the perception that Fink hasn’t made any mistakes, there have been some major missteps. There was the strong backing of Lehman Brothers’ management as the bank was imploding, kicked off by BlackRock’s purchase of a large block of Lehman stock at $28 a share, three months before the firm went bankrupt. And shortly after Bear Stearns collapsed, Fink advised investors to put their money into riskier, high-yield debt, just before that market tanked. BlackRock, as Janet Tavakoli points out, also contributed its share to the toxic-asset morass—with close to $8 billion of collateralized-debt-obligation deals that defaulted in 2007 and 2008.

And Fink’s relationship with Goldman is quite explicit:

He makes no secret of his distrust of Goldman Sachs—“He hates Goldman,” says one former Goldman partner—and, indeed, although he uses the firm for trading, he does not use them for investment banking.

Both pieces ultimately tell the same story: FInk loses $100 million at First Boston, leaves under a cloud, learns his lesson, becomes determined to bring sophisticated risk-management tools to fixed-income investment, founds BlackRock in partnership with Blackstone, has a fight with Steve Schwarzman, builds BlackRock into the world’s largest fund manager, and now aspires to some kind of public office.

Both also neglect some obvious questions: if he’s so dedicated to BlackRock, why was he talking about moving to Merrill? Would Obama ever really give him some kind of plum political job? And how much of BlackRock does he own? (Answer: 1,759,603 shares, or 2.7% of the company, worth $322 million at today’s closing price.)

More generally, rather than weakly recapitulate the VF piece, I think it would have been better for Bloomberg Businessweek to delve into some wonkier questions. Can unleveraged asset-management companies in general, and/or BlackRock in particular, pose a systemic risk? Given the size and sophistication of BlackRock’s trading operation, how can it not, like Citadel, start quacking very much like a broker-dealer in its own right? And are there any concerns about the de facto Pimco/BlackRock duopoly in the fixed-income asset-management business?

One day, I would love to read a piece about the parallel rise of Bill Gross and Larry Fink, how they managed to corner the market in terms of institutional fixed-income mandates, and how Pimco and BlackRock changed the very nature of bond investing while riding the long-term secular wave of declining interest rates and, along the way, becoming dynastically wealthy. What do those two men think of each other, I wonder.


Don’t read too much into “Goldman” appearing high in word counts of Bloomberg stories. Goldman used to be the biggest Bloomberg customer, and probably still is. All reporters there know that if they want readership, they should mention Goldman, preferably in the headline.

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Mortgage modifications done right

Felix Salmon
Dec 10, 2010 16:26 UTC

David Bornstein has a great post about ESOP, an Ohio non-profit which acts as a middleman between homeowners and lenders, and which does a much better job of getting modifications done than banks and borrowers are if left to their own devices. He writes:

One thing that distinguished ESOP from the government’s program, as well as other mortgage counselors, is how it holds lenders accountable. It has gotten several large companies, including Bank of America, CitiMortgage, Ocwen Financial Corporation, and Litton Loan Servicing, to sign “fair lending agreements” which spell out the terms of their working relationship. In its agreements, ESOP requires that lenders provide a single point of contact, someone with decision making authority. Without this access, ESOP says, homeowners get bounced around the bureaucracy, making little progress, and files simply vanish, frequent complaints from borrowers who seek to take advantage of the government assistance. ESOP also insists on a defined escalation process for cases it believes are mishandled. Some agreements give it the right to appeal all the way to a lender’s chief executive.

ESOP also succeeds by adding a human element. They bring executives from banks and loan servicers on community tours, where they get to meet their homeowners and see the effects of their policies. These neighborhood tours almost always strengthen ESOP’s partnerships with lenders. Countrywide (now owned by Bank of America) signed an agreement after senior executives took a tour of Slavic Village, an area on the east side of Cleveland where a third of homes, many of them foreclosed by the lender, remain vacant, boarded up, stripped and ransacked, demolished, or occupied by squatters and drug dealers…

ESOP genuinely helps its lenders do something they are not structured to do well: communicate effectively with a large number of distressed borrowers. “[ESOP has] been instrumental in completing that last link of the communication chain without which we’re dead in the water,” explained Paul A. Koches, the general counsel for Ocwen, which services a half million mortgages, and was one of the early companies to form a partnership with ESOP.

The point here is that relationships between banks and their borrowers are fraught at the best of times, and have only got steadily worse in the wake of the financial crisis and the wave of delinquencies and foreclosures which has overwhelmed the servicers. ESOP breaks the destructive cycle of mistrust by essentially forcing both sides to negotiate in good faith.

It’s worth remembering the testimony of Adam Levitin:

A critical point in any global settlement must be removing mortgage servicers from the loan modification process. Servicers were historically never in the loan modification business on any scale, and four years of hoping that something would change have demonstrated that servicers never will manage to successfully modify many loans on their own. They lack the capacity, they lack the incentives, and the lack the will.

If we’re not going to remove mortgage servicers from the loan modification process entirelyand there’s been absolutely no indication that any policymakers are thinking seriously along those lines — then services like ESOP are the next best thing. Maybe Treasury should take some of its unspent HAMP budget and try to replicate and scale the ESOP model.


There is a vast chasm between borrowers and lenders/servicers–perhaps more accurately, borrowers are at the bottom of the chasm. At any rate, an org like ESOP can bridge the gap and give borrowers a fighting chance. But, Felix, what are the odds that thousands of ESOPs will spring up over the next few months ready to do battle with Citi, BofA, et al? Zero.

There is no will on the part of govt to solve this problem or even explain why it should be solved. The bleeding will continue until morale improves…

Posted by LadyGodiva | Report as abusive

Restructuring European debt

Felix Salmon
Dec 10, 2010 15:24 UTC

Are we going to see debt defaults in Europe? Yes—and Barry Eichengreen has a positively crystalline explanation why. It’s a first-rate example of economic concepts being explained in plain, easy-to-understand English:

The more that countries reduce wages and costs, the heavier their inherited debt loads become. And, as debt burdens become heavier, public spending must be cut further and taxes increased to service the government’s debt and that of its wards, like the banks. This, in turn, creates the need for more internal devaluation, further heightening the debt burden, and so on, in a vicious spiral downward into depression.

So, if internal devaluation is to work, the value of debts, where they already represent a heavy burden, must be reduced. Government debt must be restructured. Bank debts have to be converted into equity and, where banks are insolvent, written off. Mortgage debts, too, must be written down.

Where I part ways with Eichengreen is here:

The mechanics of debt restructuring are straightforward. Governments can offer a menu of new bonds worth some fraction of the value of their existing obligations. Bondholders can be given a choice between par bonds with a face value equal to their existing bonds but a longer maturity and lower interest rate, and discount bonds with a shorter maturity and higher interest rate but a face value that is a fraction of existing bonds’ face value.

This is not rocket science. It has been done before.

Yes, this has been done before, but I’m not at all convinced it can be done in Europe, even with financial backing from Germany and the IMF.

To oversimplify a bit, there are two different ways you can do a restructuring like this: “market-friendly” and “coercive.” There’s a bit of a grey area between the two, but one way of looking at the difference is that in a market-friendly restructuring, old bonds get swapped directly into new bonds, with the implied threat that if bondholders don’t accept the deal, then the old bonds will simply default and stop making payments. In a coercive restructuring, the old bonds stop paying first, and then that defaulted debt gets swapped into new bonds which actually have a cashflow associated with them.

As a rule, the haircut on a coercive restructuring (think Argentina or Ecuador) is much greater than the haircut on a market-friendly restructuring (think Uruguay or Pakistan).

But in Europe, the necessary haircuts are big, just because the debt ratios are so big. The richer the country, the higher its debt can go before it has to default—and European countries, if and when they default, will be the richest countries ever to do so. What kind of debt-to-GDP ratio would Eichengreen like to see in Greece, say, post-restructuring? Is it even possible to get there with par bonds? (I’m not sure it is.) In any event, it’s hard to see how a “market-friendly” restructuring could do the trick. In order to concentrate bondholders’ minds, you’d need to actually default, rather than just threaten to default.

Because here’s the real crux: no one knows who would win the game of chicken if the European periphery attempted a “market-friendly” restructuring. If bondholders said no, would European governments make good on their threat and go ahead and default, with all the chaos that would imply? The temptation to refuse anything but a very generous offer will be very great, since the moral-hazard trade has worked out so well so many times in the past: in extremis, bondholders always seem to get bailed out.

But given the periphery’s debt levels, a very generous offer isn’t good enough—not even close. Remember that the point of a restructuring is to get countries like Greece to a place where they have regained access to the markets, at sustainable interest rates which don’t result in spiraling debt ratios. I find it very hard to believe that bondholders will ever voluntarily accept a deal which cuts their holdings that much—and I wonder, too, how many of them, upon receiving such a large haircut, would then turn around and start lending to Greece again, on the grounds that hey, its debt ratios look so much better now.

Engineering a successful sovereign debt restructuring in the eurozone, then, is rocket science. It hasn’t been done before, and it might not even be possible. But as Eichengreen shows so clearly, that doesn’t make it any less necessary.


I appreciated your article but let me express some distress about the focal point in discussion.
It seems to me that the particular problems affecting european countries right now are quite different among each other: can we talk about a unique sovereign leveraged debt burden ? it´s absolutely clear that debt leverage is not an exclusive euro-periphery problem.
Then a lot of emphasis has being placed on competitiveness and productivity but we should remember that these are long-term goals that must be adressed right now but which entails necessarily delayed results.

Posted by southmed | Report as abusive

Annals of CDS manipulation, Goldman Sachs edition

Felix Salmon
Dec 10, 2010 14:03 UTC

A politician whipping up a storm over artificial manipulation of the CDS market? So far so boring. But this time it’s different: the politician in question is Senator Carl Levin, and he has explicit emails from Goldman Sachs (oh yes) which show bond trader Michael Swenson trying to engineer a short squeeze in CDS:

Goldman Sachs’ trading activities in the credit insurance market in 2007 have come under attack from a US senator after e-mails revealed a senior trader urged colleagues to “kill” some investors’ positions.

Carl Levin, chairman of the Senate permanent subcommittee on investigations, told a hearing on Wednesday that the alleged activity “looks like a trading abuse to me”, although he added that at the time in question the credit insurance market was unregulated.

If you look a bit closer into this story, it turns out to be doubly ironic. For one thing, the squeeze was meant to drive down the price of credit protection. The WSJ misses this, saying that Goldman “wasn’t the only player in subprime mortgages to bet that the market would suffer”; in fact, the scheme was designed to bolster the market and make it look artificially healthy. If it had worked, Goldman would have made money on bond values going up.

Which raises the second irony: the scheme, in the end, despite being “do-able and brilliant”, in the words of Swenson, the strategy didn’t work. Which allows the bank to wheel out the rare Goldman Sachs Incompetence Defense:

Goldman said on Thursday: “This type of language sounds awful and is very disappointing, but it does not reflect the reality of what happened. There was no short squeeze.”

Which is true, but not for lack of trying.

One question raised by all this, though: was the trade put on by Goldman’s prop desk, or was it the kind of thing which Goldman could still attempt with its present, post-Volcker rule, setup? It’s clearly proprietary trading in fact. But so long as Goldman was giving great prices to clients looking to short the market, it could colorably claim to have been working on behalf of clients all along.


From the WSJ:http://online.wsj.com/article/SB1000 1424052748703380104576015984159647972.ht ml

“Many mornings before Bernard Madoff’s arrest, Mark Madoff would arrive at his trading desk before 7 a.m. On the Friday before he died, he was still following Wall Street news, sending to friends and ex-colleagues around 5 p.m. a Reuters blog item about Goldman Sachs and Sen. Carl Levin.”

Posted by JohnCoogan | Report as abusive