Schumpeter

The bad-bushel defence

Wed, 30 May 2012 14:52:27 +0000

It has not taken long for the trial of Rajat Gupta that is unfolding in a federal court house in lower Manhattan to encompass far more than a lone defendant. “The most disturbing thing about this case is what it says about business ethics,” observed Judge Jed Rakoff on May 29th, as he ruminated on various motions while the jury was sequestered out of earshot. “It’s not a case of one bad apple, but a bushelful.”

Mr Gupta, who used to head the McKinsey consulting group, has been charged with leaking details of four market-moving events gleaned from his board positions at Goldman Sachs and Procter & Gamble to Raj Rajaratnam, erstwhile boss of the Galleon Group hedge fund who is currently serving an 11-year sentence for insider trading.

Reliant on the kindness of strangers

Mon, 28 May 2012 16:47:39 +0000

OUR correspondents discuss Greece's election and potential exit from the euro, Spain's banking crisis and Ireland's referendum on the European fiscal compact

With sympathy

Mon, 28 May 2012 12:41:08 +0000

STOCK up on sympathy cards: Britain’s high street is mourning another loss. In a downsizing that began last week, Clinton Cards, a seller of greeting cards, is to close 350 shops and cut 2,800 jobs, about half of the total workforce. This was imposed by the administrators that were appointed when Clinton filed for bankruptcy a few weeks earlier.

Some fracking good news

Fri, 25 May 2012 15:28:10 +0000

The International Energy Agency has just released some data that green-minded fans of shale gas should appreciate. The organisation's latest figures show that America’s carbon-dioxide emissions from generating energy have fallen by 450m tonnes, more than in any other country over the past five years. The turnaround has been welcomed by many, and Fatih Birol, the IEA’s chief economist, ascribes much of the credit to a shift away from dirty coal towards cleaner gas, according to an article in the Financial Times.

A run they cannot stop

Fri, 25 May 2012 11:20:25 +0000

IT'S been a week since shares in Bankia plummeted on reports, later denied, that customers were pulling deposits out of the Spanish lender. Fears of a full-scale bank run in Greece have not yet materialised. But the possibility of a deposit run in Europe's peripheral states is still very much alive. It is also the thing that policymakers are least prepared for.

GoodTube

Wed, 23 May 2012 14:10:37 +0000

IT WAS an unlikely online hit. Where pop music, yawning cats or finger-biting infants generally rule, it was instead “Kony 2012”, a half-hour video about an African warlord, that caught the fleeting attention of the internet crowd. The video was much criticised for simplifying a complex issue, but there is little doubt that it succeeded in its goal: “to raise awareness”. Within a month of its release on YouTube, “Kony 2012” had been viewed some 88m times.

Battle igloo

Tue, 22 May 2012 08:11:31 +0000

FRUGAL innovation is usually associated with entrepreneurs in emerging markets using whatever technology comes to hand to develop low-cost products, ranging from small cars to household appliances and medical devices. But the process can happen in the rich world too. Which is how a small British company planning to entertain people at music festivals has ended up disrupting the business of battlefield simulation.

Driving up the cost of cars

Mon, 21 May 2012 21:39:50 +0000

OUR correspondents on a slightly disappointing IPO for Facebook, the Indonesian government's plan to increase down-payments on cars, and a survey on bosses that found more top companies are betting on outsiders

Red faces

Mon, 21 May 2012 20:39:28 +0000

MARK ZUCKERBERG, Facebook’s chief executive, had something other than his firm’s initial public offering (IPO) to celebrate this weekend when he married Priscilla Chan, his long-standing girlfriend. Unfortunately for Mr Zuckerberg, investors seem less than firmly wedded to his social network's equity. On May 21st Facebook’s shares finished trading on the NASDAQ stockmarket at just above $34 each, some 11% below the company’s $38 listing price, after dropping as low as $33 earlier in the day. (Editor's note (21:00 GMT on May 22nd): On the third day of trading Facebook's share price dropped another 8.9% to $31.) This is deeply embarrassing for everyone involved in one of the biggest public offerings in corporate history.

The long goodbye

Mon, 21 May 2012 15:49:57 +0000

LIKE many unhappily married couples, Yahoo! and Alibaba have not found it easy to divorce. The American online firm owns roughly 40% of the Chinese e-commerce giant, but both sides have had misgivings about the relationship for years. All of Yahoo!’s many recent chief executives have tried to find a clever way to sell off the stake. Jack Ma, Alibaba’s flamboyant boss, for his part, has been dreaming of winning outright control of the firm he founded from Yahoo! and Softbank, a Japanese firm that controls about 30% of Alibaba. But there always seemed to be something—tax issues, valuation—that got in the way of a deal.

A limited future?

Mon, 21 May 2012 10:27:55 +0000

OUR correspondents discuss Facebook's initial public offering and the future of the public company

Not top of the pops

Sat, 19 May 2012 02:01:09 +0000

INVESTORS have gotten used to a swift run-up, or “pop”, in the share price of tech firms that stage an initial public offering (IPO). But doubts swirling around Facebook’s business model meant that the giant social network’s stock failed to take off as some had expected on its first day as a public company on May 18th. Instead the IPO’s underwriters were forced to step in to prevent the shares slipping below their offer price of $38 as trading progressed on America's NASDAQ stockmarket. At the market’s close they were swapping hands at $38.23, giving the company a market capitalisation of $105 billion.

Confidence game

Fri, 18 May 2012 13:21:37 +0000

THE truism that banking is a confidence game barely needs repeating. Yet occasionally both bankers and their regulators need to be reminded of this. Two events this week show why.

Outdated logic

Fri, 18 May 2012 10:52:58 +0000

IT IS unlikely to keep Facebook's IPO rocket from taking off. But General Motors’s decision to scuttle its ad campaign on Facebook highlights the big question about the service, which now boasts more than 900 million users who log in at least once every month: Will the firm find a way to make enough money off its huge audience?

Canadians clubbed

Fri, 18 May 2012 08:22:33 +0000

ONE of the success stories in retail banking over the past decade has been the expansion of TD, Canada’s second-largest bank, along America’s eastern seaboard, fuelled by such basic ideas as longer opening hours and service that is better-than-halfway decent. But a fraud case in Florida threatens to sully the reputation of the firm known to millions as “America’s Most Convenient Bank”.

Giving away a lot of money

Thu, 17 May 2012 20:55:55 +0000

THE CHAIRMAN of Berkshire Hathaway discusses his motivations for giving wealth away, history's great philanthropists and why his tax return is not a factor

Banking goes digital

Thu, 17 May 2012 16:46:33 +0000

Our correspondents discuss how new technologies will affect the future of retail banking

The final countdown

Wed, 16 May 2012 17:24:35 +0000

“ZUCKERBERG’S rocket, ready for lift-off” was the title of our article about Facebook’s upcoming initial public offering (IPO) that ran in last week's issue of The Economist. As the first day of trading in its shares, expected to be May 18th, approaches, the rocket’s payload is getting bigger. On May 16th the social network revealed it was boosting the number of shares available by 25%, to 421m, on the back of increased demand. On May 17th it set the price of its shares at $38 each, valuing the company at $104 billion. The IPO is expected to raise more than $18 billion, making it one of the biggest in American corporate history.

An enlightening mistake

Tue, 15 May 2012 18:16:00 +0000

A RARE slip-up by lawyers has helped to shed some rather interesting light on a high-profile legal battle, the details of which some of the largest Wall Street firms have been fighting to keep under wraps. In 2007 Overstock, a Utah-based online retailer, sued a dozen big brokers, alleging that they had caused its share price to fall sharply by helping their clients to engage in “naked” short selling.

In a normal short sale, the shares are borrowed (or at least “located”) with a broker’s help before being sold. In the naked version, there is no attempt to pre-borrow the stock or even check that it exists. This can create “fails to deliver”, where the trade is not settled when it should be because there are not enough actual shares available for delivery. This messes with the laws of supply and demand, allowing shorting to take place beyond the natural limits set by the number of borrowable shares. Regulators have long frowned upon naked shorting. The rules against the practice have been tightened up a number of times over the past seven years.

As the pre-trial discovery period proceeded, Overstock narrowed its focus to two firms, Goldman Sachs and Merrill Lynch, now part of Bank of America. Just before the case was set to go to trial in California, however, the judge dismissed it on jurisdictional grounds, ruling that not enough of the alleged wrongdoing had taken place in the state. Overstock appealed and pushed for all of the evidence to be unsealed. The defendants argued that virtually everything should remain sealed, in part because the documents contained “trade secrets”. Four media groups, including The Economist, jointly opposed a motion to seal on public-interest grounds. The judge decided that some of the documents should be released but stayed his ruling, pending appeal.

That was how things stood until the end of last week, when the defendants’ lawyers sent their opposition to a plaintiffs’ motion to the other parties in the case. One of the exhibits attached to this, presumably inadvertently, was an unredacted version of an earlier filing by Overstock, opposing the defendants’ motion to seal papers. Within this exhibit is an intriguing six-page section, “Facts Defendants Improperly Seek to Seal” (pages 14-20 of this), containing excerpts of e-mails written by Goldman and Merrill employees.

In a number of these, they discuss deliberately failing to settle client trades. One Merrill executive suggests the firm “might want to consider allowing…customers to fail,” to which a colleague replies: “We are going to look into that.” Another asks: “How and when can we prevent the delivery [of shares]?” In another e-mail he requests an update from a lieutenant on “how we are going to fix fails and I want to know what we nees [sic] to do to make 369 market makers fail.” In response to a question from a large client about efforts at “cleaning up” fails, a Goldman man says that “we will let you fail.” In another message, he refers to a senior colleague “really backing down from…cleaning up fails.”

Compliance officers repeatedly questioned this behaviour, according to the filing. A Merrill compliance person is quoted describing it as “totally unacceptable—we are failing when we have over a million shares of stock available…Is there a blanket agreement that we allow every market maker client to continue failing even if there is enough availability?” She adds that fails need to be “cleaned up regardless of who is causing them.”

The e-mails also suggest close commercial links between the two firms and at least one trading outfit that was a target of regulatory probes into shorting violations, SBA Trading. In one message, a Merrill employee forwards a sanctions order against SBA’s Scott Arenstein to a counterpart at Goldman, referring to Mr Arenstein as “our boy” and asking: “You think there will be any fallout on clearing firms?” The Overstock filing also refers to a telephone transcript in which a Merrill compliance officer and a colleague discuss the fact that Mr Arenstein’s “recycling” of short sales is “not okay”. In another e-mail, the deputy head of Goldman’s securities-lending group describes Mr Arenstein as being “the other side of a lot of our activity.”

Other missives suggest a cavalier attitude to the rules. In a 2005 e-mail, the president of one of Merrill’s stock-clearing businesses responds to internal concerns about the intentional failing of short sales thus: “Fuck the compliance area—procedures, schmecedures.” He has since assured the court that this statement was a joke, according to the filing.

Goldman and Merrill have denied throughout that they participated in any sort of naked-shorting conspiracy. Their supporters argue that the legal action brought by Overstock is a crude tactic by Patrick Byrne, the retailer’s mercurial boss, to divert attention away from its long history of underperformance. (The firm continues to struggle, despite no longer being plagued by settlement failures.) Some question the link between failed trades and naked shorting, arguing that fails are generally the result of operational problems and other factors rather than naked nefariousness.

Nevertheless, the release of the e-mail excerpts will have done the brokers no favours. They suggest that trades were being intentionally failed; that some of those involved were aware regulators would not look kindly upon some of the activity; that some of the firms’ internal policemen were unhappy with the explanations they received for the proliferation of fails; and that at least one senior executive appeared to have an unusual attitude towards compliance.

The e-mails are just a very small part of the communications and other material unearthed during the four-year discovery process. If the court of appeal unstays the partial unsealing order, there will be much more to pore over, shining more light on an issue that has hitherto been as frustratingly murky as it has been controversial.

Damage control

Mon, 14 May 2012 21:42:02 +0000

A LARGE, mistaken, trading position take by J.P. Morgan, one of America’s leading banks, already costing it more than $2 billion has become a weapon in major battles in Washington and the financial markets.

In Washington a crowd of politicians has used the incident to argue for more government involvement in banking, even if the ideas floated are muddled or counter-productive. In the financial markets the response has been more focused and carnivorous as other financial firms are trying to get ahead of any move Morgan might make to extricate itself from its trade. The company’s share price, already down more than 9% on May 11th after the initial revelations, fell another 2% on early trading when markets reopened after the weekend on May 14th.

Morgan response to the incident has come on multiple levels. Jamie Dimon, its chief executive, appeared on a popular news show on Sunday to acknowledge fault for the trade (“a stupid thing that we should never have been done”), but also provide reassurance (“…but we are still going to earn a lot of money this quarter. So it isn’t like this company is jeopoardised…”). Morgan’s capital position does indeed remain strong and it is projected to earn record earnings for the year.

Internally, Morgan made key executive changes. The head of the department arranging the trade, Ina Drew, abruptly retired. A special committee to direct the response to the trade was established under the bank’s former chief financial officer Mike Cavanagh, often rumoured as the leading candidate to one day succeed Mr Dimon. This will certainly be a trial by fire.

In the financial markets, various obscure indices tied to credit default swaps moved abruptly, as other firms took bets on what comprised Morgan’s trade, and whether it was vulnerable to a squeeze. That raised the possibility of the loss quickly expanding. Under accounting rules they must be constantly marked to market.

A key questions are whether Morgan has the fortitude to withstand the short-term pain of trading-induced price movements that are not tied to the value of the assets underlying the swaps, and how much value in these assets really does exist. So far, Morgan has believed its efforts to minimise the damage from the trade would benefit from keeping information of its components from the broader market. Meanwhile, other banks have begun re-examining their own trading positions to ensure a similar problem cannot emerge.

A drop in the ocean?

Mon, 14 May 2012 16:14:55 +0000

OUR correspondents debate Greece's latest difficulties, the Spanish government's attempts to bolster the country's banks and JPMorgan Chase's controversial trading loss

Degree of pain

Sun, 13 May 2012 21:10:44 +0000

Editor's update (08:20 GMT): The Wall Street Journal reports that Mr Thompson disclosed a diagnosis of thyroid cancer to the company's board of directors. Their source contends that his medical condition influenced the board's decision to replace him.

CRITICS of Yahoo! had hoped that when Scott Thompson, a former senior executive at Paypal, an online payments company, took over the helm of the web giant in January, he would bring some badly needed stability to a business that had been struggling for years to turn itself around. But on May 14th Yahoo! announced that Mr Thompson was leaving the firm after news of his impending departure leaked on a tech blog, AllThingsD.

A billion here, a billion there

Sat, 12 May 2012 10:28:36 +0000

J.P. MORGAN, widely considered the best run of all the large banks in America, if not the world, on May 10th provided the kind of news that has become all too common in the financial industry: a $2 billion charge for errant trades. The markets responded within seconds of the opening on May 11th, sending Morgan’s share price down 9%, and its value by $14 billion. Late on May 11th, Standard & Poor’s announced it was downgrading the outlook for the company, and Fitch knocked down its ratings.

The gold medallists of growth

Fri, 11 May 2012 15:06:02 +0000

RUCHIR SHARMA, author of "Breakout Nations", explains how to predict which emerging markets will do better than others

Too little and very late

Fri, 11 May 2012 14:51:00 +0000

AS TURNAROUNDS go, this was pretty quick. Less than two weeks after the Bank of Spain sent its banking supervisors on a quick tour of financial capitals to convince investors that the country's banking system was sound, the government had nationalised the biggest of its struggling lenders and had ordered the country’s banks to set aside another €30 billion against bad loans on their property books.