The Crooked Cockroach

How Wall Street’s making its billions barely a year after a crash that almost brought the global economy to a halt

Posted in Uncategorized by cready on October 22, 2009

I had promised you to give an answer to this question in my last post.

This is where you’ll get your answer. Please go through the comments too [I would recommend the views of a certain ‘Sam’ and ‘John Doe’ among the group of commentors]. There certainly has been a very productive discussion in the comments’ section. I especially liked John Doe’s following argument in favor of Wall Street-ers specially when everybody everywhere [including me, sometimes [:)]] is hurling slurs at them –

You’re right when you say finance activities will not “result in long-term economic growth in the same way that Intel chips, GE jet engines, or Honda automobiles drive economic growth”.

They certainly don’t drive economic growth in the same way and fashion. But both are critical. One is not better or more important than the other. Wall Street has never claimed to be in the manufacturing space…it knows it is a service industry, pure and simple. e-bay connects buyers and sellers of goods. Wall Street connects people who need capital with people who have capital. Regardless of what people might read in the press, this is actually a very important and highly non trivial service for the economy.

And as for the “nuts and bolts” companies you mentioned… Who did GE turn to last fall when it needed to raise 15 billion dollars in capital? It turned to Wall Street. Without capital, no jet engines are made, no cars are built, no fabs are constructed to build chips. Again, both types of companies are important to each other–let’s not draw an arbitrary distinction between their relative worth.

I agree [and almost anybody on the planet will agree] that Wall Street is greedy and rich and blah, blah, blah, but I must confess that I do not agree with what Philip Greenspun’s [the writer of the post] views about how exactly it is getting rich. The way in which he has put it only sounds like some sort of a sweet arbitrage is happening out there [which as you must be knowing is impossible in the markets]. However, I may be wrong in understanding what he has said. Its for you to judge.

Now to balance out my arguments, I must say that I also believe that the Shadow Banking System is one big recklessly risky thing and that some sort of regulation must be put on these kind of banks. Paul Krugman, the winner of last year’s Nobel Prize in Economics famously called Shadow Banking as the ‘core reason’ for the crisis of last year, and here’s some data which will make it obvious to you as to why.

Leverage ratio is a ratio that measures the risk taken by a firm. Here’s the leverage ratio of the five ‘big’ investment banks prior to last year’s crisis [of which Lehman has went bankrupt since and Bear Stearns and Merill Lynch have been sold out]. Note that the traditional conservative banks have a ratio of 10 to 15. A higher ratio obviously makes you more vulnerable to market shocks.

Leverage Ratios

If anybody has recent data for the leverage ratio of the existing banks after the crisis, please share in the comments below. It would be interesting to see the trends.

Now here’s another vehement argument by a well-placed Wall Streeter about how the ‘insane’ executive pay in this industry is actually justified [this issue was and still is being one of the most talked about issues and is something which has created an international outrage]. This guy, Mr. Brian Griffiths, thinks, “We have to tolerate the inequality as a way to achieve greater prosperity and opportunity for all”.

Now Mr. Griffiths, nobody is arguing here whether one should believe in the free market system or adopt Communism. But it certainly is a no-argument when one says that people’s taxes being used to give huge bonuses to the top layer of the banking industry is wrong and unjustified, especially when the economy’s downturn has been blamed on those very same men. It is just one of those twisted, rather diplomatic and yet curt arguments that the rich guys always make to get their way.

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The new stink on the block…

Posted in Uncategorized by cready on October 20, 2009

There’s something new cooking out there in the financial world. And guess what, it stinks. It stinks real bad.

Raj Rajaratnam Raj Rajaratnam, a Sri Lankan origin New Yorker, and founder-owner of  Galleon Group, a hedge fund management group, was arrested along with a couple of other executives from companies like IBM, McKinsey etc. yesterday on charges of insider trading. Now if you don’t really know what ‘insider trading’  is, just wait for a little while until I get there.

One of the persons who has been arrested with Mr. Rajaratnam is a certain Mr. Anil Kumar, a member of the executive board of the famed Indian School of Business (ISB) and also a director at McKinsey. For the ISB, this is another damning insult. Close to the heels of the resignation of one of its other director, Mr. Mendu Rammohan Rao on charges of fraud when the Satyam scam broke out a couple of months ago, comes another allegation which is ought to damage at least the moral reputation of this internationally funded business school which prides itself so much in bringing in the best of global management practices. Just imagine the dilemma that the students of that institution, unblemished yet by that greed floating out in the world, must be facing while facing their teachers and Institute founders. It must be a very sweet realization looking into their fat, chubby faces that ‘Ha! Ha! One day, on some level, I too am gonna be one of you’, isn’t it?

And for the other pillars of corporate honesty and responsibility [read : IBM and McKinsey] too, this must be a rude jolt, as this CNN iBN report speculates. Now Mr. Rajaratnam has vehemently denied any wrong-doing [obviously!] and it is also being alleged that the rich fat cat funded LTTE’s operations in Sri Lanka [which, I think are far graver allegations than the fraud ones], but it is only for the law to decide who’s right and who’s wrong. Now let me get back to what is ‘insider trading’.

The phrase ‘insider trading’ is fairly explanatory. Roughly speaking, it means trading of a company’s stocks etc. based on inside information obtained beforehand or which has been deemed classified to the public. A corporate insider [from whom the trader gets the inside information] is defined as a company officer who owns more than ten percent of a class of the company’s equity securities


. For example, if the CEO of a company learned beforehand that another company is going to take over his present company and bought shares in his present company knowing that the share price would likely rise after the takeover, then it is a fraud. In the real world, the CEO may not buy the shares himself; he may tell his close relative [like a brother or something] to buy and then they may split the profit later based on the mutual agreement, but this too, is deemed illegal. Some very famous investors, businessmen etc. who have faced criminal prosecution against above mentioned fraud are

George Soros [billionaire American investor]
Martha Stewart [American business magnate and TV host]
Jeff Skilling [former CEO of Enron Corp.]

Now, there is a fair share of critics [the prime-most example being Milton Friedman, winner of the 1976 Nobel Prize in Economics] who argue that ‘insider trading’ is not that bad as it is made to sound, that its illegality should be reconsidered. I seem to agree a bit with his argument – that buying and selling pressure itself is information for the market. Another argument in favor of insider trading put forth nicely by Wikipedia is this –

Legalization advocates also question why activity that is similar to insider trading is legal in other markets, such as real estate, but not in the stock market. For example, if a geologist knows there is a high likelihood of the discovery of petroleum under farmer Smith’s land, he may be entitled to make Smith an offer for the land, and buy it, without first telling Farmer Smith of the geological data. Nevertheless, circumstances can occur when the geologist would be committing fraud if he did not disclose the information, e.g. when he had been hired by Farmer Smith to assess the geology of the farm.

I believe the argument is really complex. Also, the guy who makes the money will always argue in its favor and the one who loses will say its unfair. But the world of finance is so very complex that even a small ripple in some remote place may cause a meltdown somewhere else. For example, the arrest of Mr. Rajaratnam caused the Sri Lanka stock exchange [CSE], one of the best performing stock markets in the world, to crash like a pack of cards [read here]. So while making decisions about what is right and what is wrong, or what is permissible and what is not, Governments world over should take into consideration all possible factors and make sure that at least minimum overall damage is caused.

Note : Coming up next – How Wall Street is making its millions [sorry, billions] barely a year after a crash that almost brought the global economy to a grinding halt.

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