Greece: the Willful Teenager of Europe

I love Greece, and I love the Greek people. They are warm and friendly and proud and intelligent. And they are as crooked as the day is long. That is part of their culture. So when Greece joined the EU and somehow squirmed in to the Eurozone, Europe should probably have known that it could cause a problem one day. Greece is like a willful teenager who is making drugs out of cough syrup in his bedroom. You ignore him and one day he is under arrest for running a meth lab. You had no idea, you say. But deep down you did.
The Greeks have known forever that their civil servants and government are crooked. But they shrug their shoulders and get on with their work. They have their families and their friends and their holidays to pay for. I worked for a Greek-nationality shipowner where I learned how easy it is to cheat the system. His office was in London, his ships were registered in Liberia, his crews were Venezuelan - paid in cash (often by me) - and only the Captains were Greek. Usually a family member.
A Greek friend once told me that there are no homeless Greeks. Someone in their family will take them in. It is a matter of pride. (All of the homeless that we saw in Athens were Albanians, according to him.) So if you have to cheat the system a little or give your brother a job that he is eminently unqualified for, that's what it takes to get by.  Their motto should be 'whatever it takes'.
And now the cushiest of cushy numbers, Greek union jobs, are under threat. The government wants to - gasp! - cut wages and hours. Strikes are rampant. But inevitably some union member's brother or father or sister works for the President or the Greek Parliament or a person of power, and words will be had. And things will go back to 'normal'. Meanwhile Germany will pretend to be Ben Bernanke and bail them out. Maybe the Greeks are more like Goldman Sachs than like teenagers.........

Men Behaving Badly

Nearly one and a half years have passed since unregulated credit derivatives nearly took the world's economies down. The lessons were supposedly learned, the regulators informed and armed to respond. And what happens? Most of the largest investment banks - now commercial banks (for the moment) - pay themselves massive bonuses for a year's growth fueled by TARP money. Stock markets rally by 50% or more fueled by high frequency trading and blind optimism. Regulators hem and haw about losing business to other countries and fudge reform until it is unrecognizable as such. And everyone - mostly CNBC it has to be said - is happy. Then along comes President Obama and his henchman Paul Volcker to take away the punchbowl just as the party is starting. They advocate real reform in the guise of the old Glass-Steagall Act, and the party starts to fizzle out. Is it their fault? No. The men - and they are mostly men - behaving badly are the CEOs and MDs and traders in the very banks and firms that were behaving badly a year and a half ago. And they don't seem to have got the point that the people are fed up with them. In the past two days alone there are some egregious examples of greed and bad taste to support my argument.
First, Michael Spencer, founder and CEO of ICAP, took 45 million pounds out of the business just as he prepared a profit warning. Saying it was to support City Index - a legal (in the UK) gambling business - is no excuse. (He should have quietly taken a bet at City Index that his share prices would fall and covered the whole 45 million - then replaced it.)
Second, Bank of America's senior executives were warned to disclose Merrill Lynch's mounting losses just two days before the shareholders were due to vote on the acquisition. According to NY attorney-general Andrew Cuomo's investigation, they ignored the advice.
Third, bank lobbyists are lining up to tackle their favorite Senators and Congressmen on the Hill to get them to water down, or kill, the Volcker Rule. Even as CME Group says it won't really have a negative impact on volumes.
And fourth, although this is a smaller story, the rumored sale of CEP provider Aleri to Sybase prompted a competitor to offer a sort of 'cash for clunkers' program. StreamBase sent out a press release saying that it was unlikely Sybase would maintain Aleri's products, so it very generously offered to trade them in for StreamBase’s under the an "Amnesty Program". Can you say "opportunistic"? Someone sent me this photo to illustrate:

Newspapers gone mad

Much like the music industry, the newspaper industry is finding out a day late and a dollar too short that its business model sucks. But, again like the music industry, very few have a clue how to go forward. The good old days of beat reporters getting the news, setting it into type, printing and distributing it are over. The internet has destroyed its value by distributing the news online - and mostly for free. The papers are hitting back, but it may be too late. Rupert Murdoch is busting a gut to figure out how to make the Wall Street Journal purchase pay off. He is even breaking up the old Dow Jones empire, selling off golden nuggets like the Dow Jones Index service, to do it. And trying to charge for online content which - to be honest - is like trying to shoot a flying fish with a pop gun. The NY Times is also going to try. And the FT just told me I have to pay to see content online after the first 10 stories, even while I pay for my home delivery of the newspaper. I am not considered a 'subscriber' unless I pay for both. But I can find the FT articles copied onto any number of websites, so....
The papers are terrified because bloggers on Seeking Alpha and real-time websites such as Dealbreaker (which the NYT wisely bought) and Breakingviews (ditto Reuters) are the first go-to for financial markets players. Some of these can even get away with charging for content - but it can only happen when the content is not available anywhere else.

The Volcker Rule and Commodities Trading

The Financial Times and Reuters both ran reports today about the possible impact of the Volcker rule on commodities trading. The FT says that commodities trading houses will "slip under" the Volcker net - this would benefit trading companies like Glencore and Vitol because the banks would cut back on physical trading. Reuters says the plan to stop banks speculating in financial markets on their own account may "spawn a host of new independent commodities houses as banks sell trading units and as dealers leave to set up on their own." They are both right. The trading houses of this world will always benefit from the banks' misfortune. It happens regularly. Commodities are a highly cyclical market, with volatile downward periods in what - as Jim Rogers claims - is an inexorable long term move upward. When the markets are on an upward romp, the banks pile in with prop trading in energy, agriculturals, metals and soft commodities. When the inevitable 'correction' happens it is almost always severe, and the banks pile out again leaving traders standing on the pavement scratching their heads. Then they call Vitol or Glencore or Trafigura for a job.
Given the current return-to-bubble feel of the commodities markets, it is likely that those getting the push from the banks will head to the established houses, or even try to start their own as the FT suggests. There is one problem with this. Credit. The trading houses have established lines of credit, of course, but many lines were pulled out from under them during the crisis. Credit remains limited for such a high-capital, high-risk type of trading business. Start-up hedge funds have been waiting in the wings for financing for over a year now, and most do not see venture capitalists or banks rushing to take on the risk. Banks have always been more willing to extend credit to oil or commodities traders if they themselves are trading. That way they have a feel for the market, and the players. They have a sense of who is solvent and who is struggling. They know each others' positions (to a degree) and can often tell when someone has made a serious loss.
Ultimately, the banks and the trading houses could be losers in the Volcker plan.

One Down - Maybe - While Another Issue Looms

The mood on Capitol Hill is pretty sour towards banks and insurance companies that trade on their own account, with good cause. Tim Geithner today finally voiced something I have wondered about since I moved here - that American insurance companies have no national oversight. I imagine that is because when they started they were all in Nebraska or Connecticut and the federal government thought these states could manage them well enough. Wrong. AIG has been playing away for years, and it is unbelievable to me that it didn't get caught by someone - anyone. Some of its forays into energy trading were world renowned - and not because they made money. A national regulator would have had some idea what AIG was up to, I would hope. (Although the SEC and CFTC have not exactly been proactive before or during this crisis.) There is now a move afoot by the House and the Senate to create a national insurance office, but these bills do not go so far as to create a regulator. The National Association of Insurance Commissioners has gone further and has proposed federal legislation of its own that would establish a National Insurance Supervisory Commission (NISC), to be created by the states under federal law, to establish and enforce uniform standards across state lines, according to law firm Wiley Rein LLP. So,perhaps after years of state-by-state 'oversight' insurance companies will have to learn to toe the line.
In the meantime, financial markets players are opening a new can of worms for regulators to get their heads around. Exchanges and high frequency trading firms are lobbying hard to be allowed to trade in sub-penny increments on equities. The markets have barely absorbed the impact of penny increments, which enabled automated and high frequency trading. And the regulators have yet to get to grips with HFT and algorithmic trading. Allowing sub-penny increments is folly at this stage. Joe Saluzzi, as always, said it best and he believes it will force more order flow into dark pools (something else the regulators have yet to figure out). Themis Trading's Saluzzi said: "HFT players want sub-penny pricing, not because the extra sub-penny executions would pad their margins, but rather because the sub penny pricing will allow HFT shops more ways to step in front of traditional institutional hedge and mutual fund orders." Ouch.

Honest, Mr. President - We Won't do it Again

The Financial Times says this morning that bankers are going to head to Davos to lobby regulators for 'softer reforms'. No surprise there. The thing that caused me to laugh out loud was one banker and Alistair Darling's claims that "inter-connectivity" would solve the problems. Darling says that breaking up the banks and creating separate entities, like President Obama has strongly recommended, is not the point. "The point is the connectivity between them in relation to their financial transactions." Ummm, no that is not the point Mr. Darling. Bankers saying they will use connectivity in future to prevent any further pesky risk issues between departments is akin to your teenaged son saying he promises to use a condom after he got half the Junior class pregnant. You know you can't just lop it off, but surely you would do something fairly draconian to prevent further expensive mistakes.
Preventive measures in the banking industry - the so-called 'connectivity' - have been there for a long time. When I started reporting this technology lark in 1998 there was a massive push for removing product silos using straight through processing and enterprise-wide technology. These solutions have come a long, long way and it is now possible to monitor and control risk on a sub-millisecond basis. Risk across departments can be accessed, measured, monitored. Senior management only has to look at a web page and then say - "Hey, we might be betting the farm here, let's slow down." But they won't. Because moral hazard risk - the biggest risk of all and the one that got us into all this mess - cannot be measured or monitored. Greed is stronger than prudence. Always has been, always will be. Until greed is reined in, moral hazard remains far too tempting. The only way to rein in greed is by tackling the compensation culture of trading firms. Making them stop trading on their own behalf, or at least containing it, is a start. Publicly owned and government regulated banks should not be giving away half of their profits to the traders and management. They should not be betting the farm to make sure those bonus pools stay comfortably bloated. Only when this is under control can the regulators gain control.

Prop Desks are the Tip of the Iceberg

I'm already tired of hearing the bleating from financial markets pundits that 'prop trading was not to blame' for the credit crisis. Prop desks are the tip of the iceberg that was once called an investment bank. Prop traders gauge the mood of the client trading going on in their own banks (Chinese Walls don't mean a lot between the prop and client facing desks - they are usually in the same room) and in others, take the trends and run with them, using a bucketload of the bank's money. Their interest and highly visible movements create demand for the products they favor - such as buying energy or commodities or taking short positions in banks that are about to fail. The client desks then get requests from their customers for instruments that they too can trade to get on board. ETFs and derivatives are created and securitized to enable this. The prop desks now have even more to play with - they can take the arbitrage between the underlying instruments and the ETF or derivatives and scrape off profit. They can employ high frequency trading tools to take the froth off the top of the more liquid markets. They know when their own interest in something is fading - the market is oversold or something is about to crack(cue CDOs) and short them while the bank still sells them to unwitting clients. There is no law against this. But the prop desks and client desks and market makers and internal hedge funds and private equity funds feed off of each other. It wouldn't work very well otherwise. When the LIFFE floor close in London in 2005 the dealers and floor traders lost their trading mojo, trading on the screen did not allow them to 'feel' the market. Trading floors today are the same. Most of the business is now electronic, but there is a buzz and a 'feeling' that comes from being in the same busy room. That can't be hidden with Chinese Walls or technology.
The proliferation of internal prop trading and hedge funds etc. came about due to pressure from outside forces. When stacks of traders were laid off after the dot com bust they started their own firms - HFT, hedge funds that could short client money, agency brokers with high speed platforms. The banks had to compete with this, which they did by building their own versions of them. And, although, prop trading did not kill the golden goose it was almost certainly what helped take the banks to the too-big-to-fail level.
I agree with President Obama (and since when is it OK to call him 'Barack' on TV? Bush was never called 'George' by the talking heads on CNBC). It is time to unscramble the eggs that are investment/commercial banks today. This is not politics, it is common sense.