Felix Salmon

Dennis Berman’s ethics

Felix Salmon
Apr 18, 2011 21:10 UTC

Last week, Ira Stoll took issue with Dennis Berman’s column on SharesPost and SecondMarket, on the grounds that Berman lied about his own identity: he pretended to be his late grandmother. Stoll likened Berman’s behavior to Project Veritas’s entrapment of NPR — something the WSJ itself said failed to “meet the ethical standards of elite journalistic institutions, including of course The Wall Street Journal”.

Now SharesPost CEO Dave Weir has written his own take on the Berman column, and it goes much further than attacking Berman for lying about his identity. He also accused Berman of misrepresenting SharesPost’s policies, “leaving readers largely misinformed and our company unfairly maligned”.

I asked Berman if he had any response to Weir, and he replied by sending me a copy of his response to Stoll:

As you can appreciate, the integrity of these markets is based in part on honest disclosures by both buyers and sellers. My intent was to probe the strengths and weaknesses of a system that relies almost exclusively on buyers’ own disclosures for establishing whether they are “accredited.” That self-reporting standard enabled my grandmother to slip through. So might other people with intent to dodge the rules.

My approach and objectives were discussed in detail with the companies prior to publication. As you can see, the story also praises SharesPost for cutting off my access.

We take ethics and fairness very seriously at the Journal. We are in the business of truth-telling, not deception. In this case, applying a simple test to an entire way of doing business helped shed light on an important topic for investors and markets that ultimately serves the public good.

Weir was well aware of this response when he wrote his email, and aware too that it doesn’t come close to answering his substantive criticisms. In fact, Berman’s response to Stoll only serves to exacerbate the misinformation in his original column, since he says that the SharesPost system “relies almost exclusively on buyers’ own disclosures”. This simply isn’t true, as Weir explains:

-Mr. Berman failed to mention that his fraud only enabled him to view information on our site. Had he attempted to transact, he would have been required to undergo a second level of compliance review and direct dialogue with one of SharesPost’s FINRA registered brokers;

-Had he actually entered into agreements with a seller, those agreements would have required him to make multiple contractual representations to the seller, the company and SharesPost that he had provided accurate information and was in fact an Accredited Investor;

-Had he actually entered into a contract to purchase shares, the transaction would have been processed by U.S. Bank, a third party escrow agent, which first verifies buyers’ and sellers’ identities by collecting all the documents required under the Patriot Act and Anti-Money Laundering regulations.

Berman’s response is barely adequate as a reply to Stoll. There are many legitimate concerns about SharesPost, but the fear that people are lying about their identity to trade shares on the system is not one of them. Berman gives no reason to believe that has ever happened, or that anybody is silly enough to even attempt it: after all, no one wants to end up running the risk of having valuable shares taken away from them on the grounds that they were acquired under false pretenses.

The rest of Berman’s response is even weirder. Whether Berman subsequently talked to the companies under his own name is beside the point — and if the WSJ is “in the business of truth-telling, not deception”, why did Berman lie and deceive? His only defense is that doing so “ultimately serves the public good”. And that defense, as we’ll see, doesn’t stand up.

If Berman’s statement is weak as a response to Stoll, it’s clearly inadequate as a reply to Weir. If Berman’s intent was “to probe the strengths and weaknesses” of the SharesPost system, as he says, then why didn’t he mention any of the strengths of the system, which would clearly have prevented his late grandmother from buying shares?

And more generally, if Berman’s “in the business of truth-telling”, then why did he end up publishing a column which, as Weir says, “ignored and embellished the facts to suit his story line”?

There are lots of errors in Berman’s column, starting with its headline: “Meet My Departed Grandma, Fledgling Facebook Investor”. This is false: Berman’s grandmother failed utterly to invest in Facebook.

Berman goes on to say that his grandmother was “cleared” to buy Facebook shares, and that SharesPost certified her as an accredited investor. But as Berman himself admits later on in the column, in the first instance buyers certify their own credentials; the minute that the process reached the point at which SharesPost had to do any clearing or certifying, the company suspended the account.

Berman then says that trading on SharesPost is “especially prone to insiders’ whims”. It’s unclear what the literal meaning of that phrase is meant to be, but the message is crystal-clear: SharesPost is a Wild West haven for insider trading.

In case you missed the message the first time, Berman goes on to add that the SEC “is investigating potential abuses in these secondary markets, including conflicts of interest and insider trading” — a statement which as far as I can tell simply isn’t true. There was a story back in February about the SEC looking at “potential conflicts of interest” at SharesPost and SecondMarket, but there was nothing in it about insider trading. Berman’s assertion, which comes without any sourcing, is dangerous precisely because it’s unfalsifiable. But if he did have good sources, you’d think that he’d lead with the SEC’s insider-trading investigation, rather than with his dead grandmother.

In between musings about insider trading, Berman declares that on SharesPost, “prices can swing on just a few trades” — but again it’s unclear what he means exactly. Does he mean that SharesPost has seen wild price swings? I doubt it, since he doesn’t give a single example. He probably just means that in theory there can be big price swings — but that’s true of any market. Again, the real meaning is clear, even if the literal meaning isn’t. Berman’s saying that prices on SharesPost are particularly volatile. Is that true? Again, he doesn’t give us any reason to believe that it is. Instead, he looks at a wide bid-offer spread for eHarmony shares, which just says that the market in eHarmony shares isn’t clearing — and you can’t have price volatility in a non-clearing market.

What else? For one thing, Berman says that SharesPost and SecondMarket “give young companies and their employees new ways to raise capital” — simply not true. No company has raised capital on either platform.

He also says that “players in these companies’ shares couldn’t care less about the intricacies of market regulation”. Which is self-evidently not true: if you’re buying shares in these companies, you care deeply about who you’re going to be allowed to sell the shares to, and how, and when.

And he massively misrepresents how close he and his dead grandma managed to get to actually playing in this market:

A few have made small fortunes, cleverly snapping up shares of companies like Facebook and Groupon and riding into the sunset. Last week Grandma and I joined their ranks, spending a few days loitering, testing and playing in these private markets.

If I were to test a market, I’d test it by making some small trades to see how they went. That’s obviously not what Berman did, though: he never got anywhere near being allowed to make trades. So what he means by “testing” the markets is far from clear. As is what he means by “these private markets” plural, when in fact he only signed up for one market — SharesPost.

Berman even contrives to quote Ben Horowitz saying that he “expects these marketplaces to founder”, without mentioning Horowitz’s massive conflicts: Horowitz’s fund is a high-profile alternative option for investors wanting to get access to private equity, and indeed Horowitz bought a significant $80 million stake in Twitter on the secondary markets himself.

And as I said when Berman’s piece came out, his claim that “investors need to be comfortable that they can trade at will” manages to completely miss the point of these markets.

Most amazingly of all, Berman manages to miss all the good, real reasons to mistrust these markets while he’s busy spinning his silly yarn about the connection between his dead grandmother and insider traders. Quoting Ben Horowitz but not Tim Geithner — that’s just plain weird.

All of which makes me very sympathetic to Weir, who says reasonably enough that “the Wall Street Journal can and should do better”. Is what Berman did unethical? Yes — if you’re going to lie in the service of reporting a story, you need to be able to get information that way which you couldn’t get through normal reporting channels. It’s no great secret or revelation that people can put whatever information they like into a web form, and then start lurking in SharesPost forums, calculating bid-offer spreads and reading investors’ whines about not being able to buy into Groupon.

If Berman’s late grandmother had actually been allowed to buy shares, that would have been a serious security breach. But she wasn’t. So the ends don’t remotely justify the means here.

And this wasn’t some kind of deep investigation on the part of Berman: rather, it was a cheap stunt, designed to confirm Berman’s pre-existing prejudices. Something which can be justified in the former case can still be a very bad idea in the latter.

To make matters worse still, Berman isn’t some kind of overenthusiastic kid reporter who stepped a bit too far. He’s the deputy bureau chief for Money & Investing, helping to shape large chunks of the WSJ’s finance coverage. What he does is a clear signal to everybody who works for him about what is and isn’t acceptable in WSJ reporting. Unless, of course, he makes it clear that he has lower standards for his own work than he does for the work which he edits.


Dennis Berman hit the nail on the head. These secondary markets are relatively unregulated yet currently have disproportionate influence on potential primary market offerings. Without transparency there is the opportunity for manipulation and for investors to be hurt. Kudos Berman!

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The implications of a downgraded US

Felix Salmon
Apr 18, 2011 15:51 UTC

Paul Krugman, looking at Japan, says that today’s S&P news is “no big deal”, based on the fact that Japanese long-term interest rates stayed low even after the country was downgraded in 2002. But of course if the fate of the US over the next 9 years is remotely similar to the fate of Japan over the past 9 years, that’s going to be a very big deal indeed — for the US economy, for its fiscal ratios, and for the entire world.

The potential global downside here is large, as Mohamed El-Erian explains:

The world looks to America for a range of “global public goods” — including the reserve currency, the deepest and most liquid government debt markets, and the “risk free” standard. With no other country able and willing to step into this role, the result would be global efficiency loses and a higher risk of economic and financial fragmentation.

That said, however, there is a silver lining if you look hard enough. “Efficiency”, after all, is a nice way of saying “fragility”. As a general rule, the more efficient something is, the easier it is to break. So if we want to move to a more robust world with fewer major crises, there will necessarily be a price to pay in terms of global efficiency loses.

A slow move away from the dollar’s reserve-currency status might not be such a bad thing, seeing as how that status has allowed the US twin deficits to grow to previously-unimaginable levels. Just as car traffic expands to fill the road space available, national debt ratios naturally tend to go up rather than down, unless and until some kind of external constraint is imposed by the markets and/or ratings agencies. In that sense, the news from S&P is simply a necessary part of how the US is going to get its fiscal act together.

US treasury bonds are always going to be the most liquid government debt market, simply by dint of their sheer size. As such, they will always be the benchmark off which all other debt is priced. It’s conceivable that one day a debt instrument somewhere will trade through treasuries. That’s fine — there’s no particular harm in that. Does it mean that US debt is not risk-free? Yes, that’s exactly what it means. But realistically no one has ever considered US debt to be risk-free: there has always, for instance, been the very real risk of inflation.

El-Erian is absolutely right to worry about where the world’s growth is going to come from as we move from a unipolar global market to something which looks more like a G-Zero world. But I suspect that transition is inevitable in any case, no matter what happens to the US credit rating or its national debt. And there’s precious little that the US or its legislators can do about it.



You must have just got out of the wrong side of the bed this morning and it has followed you into the afternoon.

Felix pointed out the errors in Krugman’s suppositions, even to the point of suggesting a G-Zero paradigm shift in the world’s economic relationships.

For what it’s worth, I’d argue with the last sentence of the article which states that there isn’t anything that America ‘can’ do to alter that course. It would be more correct to state that there isn’t anything that America ‘will’ do.

I think there are actions that could be taken that would, in a decade or so, restore America’s position atop a unipolar world economy, but those actions would be drastic.

There is no reason for us to engage in those drastic measures because we already had six decades in that pinnacle position and during that time our system of government, law and finance failed miserably at keeping even our own house in order.

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Will S&P downgrade the US?

Felix Salmon
Apr 18, 2011 14:04 UTC

It’s known as Stein’s Law: if something can’t go on forever, it won’t. And it’s the reason S&P has now revised its outlook on the US sovereign credit rating:

Because the U.S. has, relative to its ‘AAA’ peers, what we consider to be very large budget deficits and rising government indebtedness and the path to addressing these is not clear to us, we have revised our outlook on the long-term rating to negative from stable.

We believe there is a material risk that U.S. policymakers might not reach an agreement on how to address medium- and long-term budgetary challenges by 2013; if an agreement is not reached and meaningful implementation does not begin by then, this would in our view render the U.S. fiscal profile meaningfully weaker than that of peer ‘AAA’ sovereigns.

Note the internal contradiction here: S&P first says that the US already has a significantly worse fiscal situation than its AAA peers, then there’s a slight backpedal to say just that it might be weaker than its peers, fiscally speaking, if it doesn’t bite the budget bullet by 2013.

The first statement is the more accurate. S&P has three macroeconomic scenarios: baseline, where the US debt-to-GDP ratio reaches 84% in 2013; optimistic, where it’s 80%; and pessimistic, where it’s 90%. “Even in our optimistic scenario,” they write, “we believe the US’s fiscal profile would be less robust than those of other AAA rated sovereigns by 2013.”

With debt-to-GDP north of 80%, it becomes very hard for the US to pay for another large shock. According to S&P, fully recapitalizing Fannie and Freddie could cost 3.5% of GDP, other government-guaranteed debt (like student loans) could also cause enormous losses; and another banking crisis could cost a whopping 34% of GDP. And that’s before you even start thinking about the inexorable rise in Medicare costs as healthcare costs rise and the US population ages.

Meanwhile, the US might not have foreign debt, but it has a very large amount of external debt — its external debt as a proportion of current account receipts “is one of the highest of all the sovereigns we rate”, says S&P.

Where S&P does not go into any detail is on the question of how any of this might end up with a debt default. That’s probably sensible: there are so many conceivable ways to get there from here, all of them very unlikely, that it’s silly to try to game them out. The US can always avoid default if it wants. But as the options for avoiding default become increasingly painful, in terms of fiscal cutbacks and/or inflation, the probability of a default, while always low, is liable to rise.

Now that the US is on negative outlook, there’s at least a one-in-three chance that the US will lose its triple-A credit rating in the next two years. Or that’s what S&P is saying, anyway. I’m not convinced: the entire S&P business model is based on the idea that creditworthiness is a one-dimensional spectrum which ranges from risk-free, at one end, to defaulted debt, at the other. If US Treasury bonds aren’t risk-free, then nothing is risk-free, and the triple-A bedrock on which the S&P ratings apparatus is built crumbles away.

Conceptually, that’s no bad thing. The search for risk-free assets was a major contributor to the global financial crisis, and forcing investors to navigate a relativistic world where risk can be allocated but not eliminated is a great way to help address the fundamental treachery of debt.

And the US losing its triple-A now, post-crisis, would not be nearly as harmful as if it had lost its triple-A before the crisis, just because at this point the ratings agencies have lost most of their credibility.

Still, it would be a huge shock to the financial system. Because of the way that sovereign ceilings work, a US downgrade would probably mean that just about everything else in the US which is rated AAA — including all municipal bonds, and thousands of structured products — would also get downgraded.

What would escape the scythe? Foreign sovereigns, perhaps, like France, Germany, Canada, and even the UK. (But does anybody really believe that the US would be less creditworthy than the UK or France, no matter what S&P says?) Maybe some multilaterals, like the World Bank. But certainly not enough to stop the global supply of triple-triple assets (that is, bonds which are rated AAA by three different ratings agencies) being essentially wiped out at a stroke.

As I say, I like the idea of a world where nothing is triple-A and everything is relative. But there’s a large and real cost of getting there from here. And a lot of that cost would be borne by S&P itself. Which is why I suspect that while the agency might threaten a US downgrade, it will ultimately hold off from pulling the trigger.


Does this cast doubt on those economic studies that are based on the assumption that US debt is a risk-free investment? Even if they monetize the debt, as petertemplar persistently insists they might, you can’t get around inflation risk.

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Felix Salmon
Apr 18, 2011 05:25 UTC

Did Cisco kill Flip to prevent it from cannibalizing Webex? — Rexblog

For the 400 U.S. taxpayers with the highest adjusted gross income, the effective federal income tax rate—what they actually pay—fell from almost 30 percent in 1995 to just under 17 percent in 2007 — BusinessWeek

Aunt Jemima Blueberry Waffles contain no blueberries — Tampa Bay

Revolving door of the day: Bank of America hires ex-SEC official Gary Lynch — Reuters, see also NYT

Lessig’s new slideshow, Code is Law — Tumblr

John Hempton on Roddy Boyd on AIG — Bronte Capital

“I realized that pretty much everyone on the front page serp of just about any competitive niche WASN’T playing by whitehat rules” — Kris Roadruck

Sock puppet du jour: Scott Adams — Gawker

Public transit’s problem is overstaffing, not wages — Market Urbanism

Jonathan Levin wins the John Bates Clark medal — Economist

David Foster Wallace and the Literary Tax Accountant — NYT

Moments of Zen In Sam Sifton’s Restaurant Reviews — Eater

Wired’s Newest iPad Issue Boasts Its Best Feature Yet: Free — All Things D

Flash dash! ETN goes from $46 to $3,486 in three minutes — Themis

Algo sales monkey — Careerbuilder

Adventures with wine lists, Apiary edition

Felix Salmon
Apr 16, 2011 20:31 UTC

I had dinner at Apiary last night, and I can recommend it: the food is spectacularly good. But, go on a Monday — free corkage night — and bring your own wine. Because the wine list — which the restaurant describes as “well-rounded and approachable” — is anything but.

Apiary is a small restaurant in the East Village; it offers a $35 prix-fixe three-course meal four days a week, and its regular a la carte menu is reasonably priced: appetizers range from $8 to $15, and mains from $22 to $29.

The wine list, by contrast, is an exercise in nosebleed pricing. It has two pages of whites and seven of reds; we fancied red wine last night, so you might think there’s a lot to choose from. But unless you’re happy spending triple-digit sums on your wine, there isn’t.

Of the 165 red wines on the list, just 49 are less than $100 per bottle, while 116 are in triple digits. At the top end, there are 24 different wines which cost more than $300 a bottle. Of the 49 wines under $100, there are exactly 7 under $50, where you’d expect to find wines to pair with a $25 entree. And don’t expect all those seven wines to be available, either. We finished off the Mas Roig, at $53; one recent reviewer at OpenTable said it took three attempts just to find a wine the restaurant hadn’t run out of.

If this is approachable, I fear to think what intimidating might be.

You’re certainly not going to find any bargains here. Take the Argentina/Chile section: there’s a 2009 Huarpe Malbec for $44 which would cost maybe $8 or $9 at retail. Then there’s a 2005 Neyen Carmenere/Cabernet for $111: it would cost you $40-$50 at retail. And finally there’s the 2006 Catena Zapata, which retails for $50-$60. It’s $176 here.

Admittedly, these wines aren’t always easy to find. But the 2007 Etude Pinot Noir can be picked up for $19.99 at Buy-Rite in Jersey City; it’s $84 at Apiary. And even something as exotic as the 1958 Borgogno ($423 at Apiary) is listed at Zachys for $200 a bottle.

In principle, I think it’s wonderful when restaurants have wine lists with a good selection of older vintages and a smattering of real rarities. There’s nothing wrong with a wine list which holds lots of appeal for wine geeks. But that’s no reason to treat the rest of us with haughty indifference.

The message this list sends is that the world of good wine is inaccessible and eye-wateringly expensive, and that anybody spending less than $50 on a bottle of wine is going to find slim pickings indeed. This is exactly the kind of wine list which puts people off wine entirely: the rational thing to do, on looking at it, is to simply order a beer for $8. In no sensible world does a glass of that Huarpe Malbec cost less than a bottle of Chimay Blue — but that’s exactly what you find at Apiary.

No good wine list incentivizes people to avoid wine entirely — which is why it’s fair to say that Apiary does not have a good wine list. It’s certainly “notable”, as various listings sites put it. But not in a particularly good way.


Biggest markup is on carbonated beverages. Costs are under a dime. Prices, well, I’m sure you know.


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Is informationally-insensitive debt a good thing?

Felix Salmon
Apr 15, 2011 22:14 UTC

A couple of years ago, Ezra and I examined Gary Gorton’s love of what he calls “informationally-insensitive financial assets” — financial assets which (normally) don’t change in price when new information about them emerges. Gorton thinks that such assets play an important role in the financial system, and he reprised that view in a short paper which makes the same claim for corporate debt. Matt Yglesias is buying it:

Going forward we need to do something—like maintain the existence of a large pool of federal debt—to make sure that the world has the quantity of information-insensitive debt it needs to continue routine operation.

No, actually, we don’t. Informationally-insensitive debt is the best repository the world has ever constructed for housing tail risk in an invisible and impossible-to-measure manner. Because it’s informationally-insensitive, the price doesn’t move when it gets riskier — so bankers and other financial innovators the world over have every incentive to structure products which turn risky assets into informationally-insensitive debt. In the run-up to the last crisis, that debt normally carried a triple-A rating, but the rating’s just a symptom of the underlying disease, which is financial instruments which are structurally designed to be mispriced.

The big picture here, then, is that informationally-insensitive debt causes crises. As I said to Ezra, we need to get individuals, companies, and institutional investors out of the mindset that they can do an elegant little two-step around the inescapable fact that anybody with money to invest perforce must take a certain amount of risk. If you have a world where people are all looking for risk-free assets, you end up shunting all that risk into the tails. And the way to reduce tail risk is to get everybody to accept a small amount of risk on an everyday basis. We don’t need more informationally-insensitive assets, we need less of them.

So let’s cheer, then, the advent of the single-name corporate CDS — an instrument which, because it can be conjured out of thin air, has the liquidity necessary to be able to provide price discovery for corporate debt. It has also helped to increase both demand for and supply of credit analysts and traders. That too is a good thing — much better that debt be examined critically than that it gets rated and bundled into a CDO and sold off to people with no idea what they’re eating.

If the world needs informationally-insensitive debt in order to operate routinely, that’s a problem with the world, and the way to deal with it is to reduce the amount of debt and increase the amount of equity. Informationally-insensitive debt is dangerous stuff, which is highly toxic and certain to blow up at some point. Let’s identify it, by all means. But once we’ve identified it, let’s try to make it as scarce as we possibly can. Because the alternative is more and bigger crises.


“Is informationally-insensitive debt a good thing?”

If my bank issued public debt (which is doesn’t) I’m extreemly confidant that it would carry a A+ rating. (We have almost twice the capital we’re required to hold, and we pay no dividends.)

Half our balance sheet is made up of business, consumer, and CRE loans which would probably average BB (junk) on a dollar weighted basis.

That’s true of 99% of all small banks in the country.

“Extend and pretend” was a widely used term which held that banks were extending terms on existing shaky credits because they had little choice. Guess what, that’s ALWAYS true. Even in good times it’s unlikey you’ll get 80% of book value in a liquidation.

“Informationally-insensitive” debt is close to the very definition of banking.

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How Matt Zames reads Barron’s

Felix Salmon
Apr 15, 2011 14:44 UTC

The Picard complaint against JP Morgan, accusing the bank of being “at the very center “of the Madoff fraud, “and thoroughly complicit in it,” is now available in a version which names names. It kicks off in dramatic fashion:


This seems pretty damning, on its face. If JP Morgan suspected Madoff of being a Ponzi, it should certainly not have continued to abet his scheme. But where did Zames get his information? Was it by looking at the flows of cash in and out of Madoff’s accounts? No: Zames is in the investment bank, and was not involved in doing any due diligence on Madoff. Instead, his vivid but nonetheless small role in the complaint is confined to a passing statement he told Hogan over lunch.

Here’s the longer version:

On June 15, 2007, the HFUC [Hedge Fund Underwriting Committee] met to consider the proposal [to create a product linked to Madoff's funds]. On the very same day, Hogan shared with his colleagues what he had learned from Zames, that it was well-known that Madoff was operating a Ponzi scheme: “For whatever its worth, I am sitting at lunch with Matt Zames who just told me that there is a well-known cloud over the head of Madoff and that his returns are speculated to be part of a [P]onzi scheme-he said if we google the guy we can see the articles for ourselves-Pls do that and let us know what you find.”

Hogan warned, “you will recall that Refco was also regulated by the same crowd [SEC, NYSE, NASD] and there was noise about them for years before it was discovered to be rotten to the core. Hopefully this is not the case here but given Matt’s view, I think we owe it to ourselves to investigate further.”

Nevertheless, Equity Exotics seemed eager to receive approval, and the further research on Madoff was limited to a Google search with no follow-up. Buyers-Russo asked one of her colleagues to “please have one of the juniors look into this rumor about Madoff that Hogan refers to below.” The analyst forwarded an article about a proposed change in SEC regulations that would eliminate a loophole in the regulations governing broker-dealers. He speculated the loophole allowed broker-dealers to run “a ‘[P]onzi’ scheme of sorts.”

Even though the article made no mention of Ponzi schemes and provided no suggestion as to why Madoff in particular would have had a “well-known cloud” over his head, upon information and belief, no further investigation was conducted—even after Zames told Hernandez that he believed his recollection was of a Wall Street Journal article from 2002 and therefore eliminated the possibility that the analyst’s explanation based on a recently-proposed regulatory change was correct.

There are two things missing from this story. The first is that there was no 2002 WSJ article which speculated that Madoff was part of a Ponzi scheme. The bank’s Jennifer Zuccarelli tells me that the article in question was the 2001 Barron’s piece by Erin Arvedlund, which I guess was published on sister site WSJ.com at some point.

The second is that the Barron’s piece itself gave no indication — at least not on its face — that Madoff was a Ponzi. The furthest it went was to raise questions about whether he might be front-running:

Those returns have been so consistent that some on the Street have begun speculating that Madoff’s market-making operation subsidizes and smooths his hedge-fund returns. Why would Madoff Securities do this? Because, in having access to such a huge capital base, it can make much larger bets — with very little risk — than it could otherwise. It works like this: Madoff Securities stands in the middle of a tremendous river of orders, which means that its traders have advance knowledge, if only by a few seconds, of what the big customers in the market are buying and selling. And by hopping on the bandwagon, the market-maker effectively locks in profits.

This is the reason why the Google search that Hogan asked for came up so empty, and probably explains why the analyst was scrabbling around a bit to find anything which suggested that Madoff was a Ponzi. He surely read the Barron’s article, in other words, but he didn’t see in it what Zames saw.

The Barron’s piece seems to have been quite widely read by people interested in Madoff — but mostly the takeaway seems to have been that investing in his funds was a great way of participating in genuine if ethically dubious returns.

Zames, however, read the piece a different way, and came away thinking Ponzi. This probably helps us understand why Zames is now the head of  Interest Rate Trading, Global Foreign Exchange, Public Finance, Global Mortgages, Tax-Oriented Investments, and Global Fixed Income at JP Morgan, and touted as a possible successor to Jamie Dimon — while the hapless junior analyst is probably off Wall Street altogether.

Picard clearly goes too far when he says that Hogan “learned from Zames that it was well-known that Madoff was operating a Ponzi scheme.” But it’s surely fair to say that Zames thought “Ponzi” when he heard “Madoff,” as a result of reading the Barron’s article. And since he drew that conclusion, he naturally reckoned that lots of other readers of the article had thought the same thing.

All of which goes to prove that financial sophisticates don’t read the financial press in the same way that the general public does. It’s entirely possible that even Arvedlund herself didn’t suspect Madoff of being a Ponzi. But Zames, perspicaciously, saw that in her piece all the same. Whether that makes JP Morgan complicit in the Madoff fraud is now the subject of some extremely expensive litigation. But there’s a lesson here for financial journalists, which is well worth remembering: bankers don’t confine their reading to the literal meaning of what you write. They infer, and extrapolate, and they assume that everybody else is doing that as well.

Financial journalists, rightly, spend a lot of time trying to be very clear about what they’re saying, in an attempt to be as accessible as possible to people who aren’t financial sophisticates. But in many ways it’s more interesting to wonder what the likes of Matt Zames will think when they read any given piece. What a story says, it turns out, depends a very great deal on who exactly is reading it.


I think you are absolutely correct:

“There’s another possibility here, which is that Zames had received additional information – beyond what he’d read in Barron’s – that convinced him that Madoff was a Ponzi. But, as a cautious and sophisticated person, he knew that it was unwise to reveal his sources. So he played it close to the vest and simply mentioned the one piece of evidence that was already in the public domain. This seems to me like an entirely plausible scenario; if true, then Picard’s case against JP Morgan could turn out to be stronger than it may look now.”

I believe his secret sources were wealthy friends in the Jewish community,…that networking is how Madoff got his clients. Zames may have heard personal stories about the great returns on investments from Madoff. Some of these investors might have been JPM clients and Zames did not want to rock the boat by revealing anything obviously embarrassing to his friends or JPM. Mentioning the Barrons article was merely a safe, publicly available source.

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Felix Salmon
Apr 15, 2011 05:45 UTC

Did bad architecture kill Flip? — Mobile Opportunity, see also Pogue

In which I talk to Joe Karaganis about IP protection(ism) — Reuters

Walker admits during testimony that collective bargaining law doesn’t save money — Cap Times

Roubini’s long-term bearish on China — Project Syndicate


“More importantly, China needs either to privatize its SOEs, so that their profits become income for households, or to tax their profits at a far higher rate and transfer the fiscal gains to households.” SOE – state owned enterprises. This is curiously like the situation in the US with the financial markets which soak up far to great a share of GDP. Although of course in our case noting is actually produced, and they probably should have been nationalized, at least temporarily.

What happens here if, as Roubini so convincingly argues, China suffers a hard landing in the next few years?

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The fortunes of Twitter

Felix Salmon
Apr 14, 2011 20:17 UTC

How much are high-value employees worth in Silicon Valley? Quite astonishing amounts of money:

Dorsey came back to Twitter after the company had tried and failed to lure two senior product managers from Google. In both cases the company was fairly close to closing the deal when Google made counteroffers, showering them with restricted stock grants that are reported to be worth more than $50 million in each case. (Clearly, product people are in high demand in Silicon Valley.)

But then again, $100 million is just 1% of what Google was willing to pay for Twitter:

Last fall Microsoft, Google, and Facebook itself all considered buying the company. Microsoft never made an offer, according to sources, but Facebook is believed to have offered $2 billion for Twitter, and Google, by far the most serious, offered as much as $10 billion.

The offers last fall came just five years after Evan Williams bought back Twitter’s parent for $5 million. Going from $5 million to $10 billion in five years is pretty impressive even by Silicon Valley standards, and especially so in a company which never seems to have had a very good CEO or a helpful board.

There’s no shortage of drama at Twitter these days: Besides the CEO shuffles, there are secret board meetings, executive power struggles, a plethora of coaches and consultants, and disgruntled founders.

That kind of thing seems to have worked wonders so far. The main lesson here, I think, is that for all the talk of “leadership” and the like, the most successful CEOs are just the CEOs who happen to sit atop the most successful companies. Sometimes they’re good managers, sometimes they’re not. And there’s little non-circular evidence to suggest that good managers do measurably better than anybody else once they get the CEO job.


I was a software product manager for seven years and never imagined anywhere close to that kind of money. I’m guessing that in the business press this is a generic title for anyone who has both “manager” and “products” in their title, which opens the door to some senior management and development folks.

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