Not too big to fail?

Bloomberg.com: Worldwide:

"`We need to create a resolution process that ensures the financial system can withstand the failure of a large complex financial firm,'' Paulson said in the speech excerpts distributed by the Treasury to reporters traveling with him in London.

The Treasury chief noted while there is a resolution mechanism for commercial banks, there is no such process for securities firms. Federal Deposit Insurance Corp. Chairman Sheila Bair has also urged that an agency be given power to take over and liquidate investment banks in an orderly manner. The FDIC has that power over lenders whose deposits it insures."

Let me confess that teaching Financial Institutions and Markets is not my favorite (although much better than its counterpart Money and Banking). That said, there are times that I wish I were still doing it. This is one of those times since the class room discussion over this would be very interesting. FTR I agree. I think large firms should be allowed to fail and if the current system is such that the cost of failure is too high, lowering it (either by allowing a more orderly liquidation or other means) is a worthy endeavor.

Grasso now and then. A look back to 2003.

Bloomberg.com: U.S.:

"Richard Grasso, the former New York Stock Exchange chairman who became a poster child for Wall Street excess, won a court ruling that allows him to keep his entire $190 million pay package.

A state appeals court in Manhattan today dismissed the remaining claims against him for excessive pay, and Attorney General Andrew Cuomo announced he won't appeal further"

And so it is over. At least we can hope it is. In writing this I went back to my the old (now defunct) Financeprofessor Newsletter (September 25, 2003) to see the story as it was originally written back in 2003 when it broke. Here it is in its entirety:

How much is too much? A look at the controversy surrounding Grasso’s
pay Short view: it is not just the pay!
***********************************************************

What started as a fairly minor story about a large pay plan really took
on a life of its own as the uproar over the pay package for the NYSE’s
Dick Grasso is arguably the biggest corporate and institutions story in
several months. Grasso originally was set to receive a $186+ million
pay package. The payment almost immediately drew criticism from all
corners. As the criticism grew, Grasso gave back about $48 million of
the pay, but this did not appease his critics who now included board
members, NYSE employees, and shareholder groups including California
State Pension plan, North Carolina’s State Pension fund, and the NY
State Pension plan. On top of this criticism were numerous newspaper
editorials calling for Grasso’s resignation.

On Wednesday Grasso called a special board meeting. During this phone
meeting and in the face of mounting criticism, (in the press, from the
SEC, and from various stakeholder groups mount), Grasso tendered his
resignation to the board. Somewhat to Grasso’s chagrin, the resignation
was accepted by the board of directors.

Grasso had worked for the NYSE since 1969 (he began at $82 a week!) and
had been president since 1995. Looking back at Grasso’s reign one finds
that he oversaw the NYSE during some of its most fast changing times.
While the NYSE did lose market share on his watch, things were much
better than many had feared for the NYSE. Facing competition from both
new and existing markets, Grasso helped differentiate the exchange as a
place that strived to protect investors while also offering the best
possible execution of trades. However, Grasso is probably most known
for his rallying of his “troops” following the events of September 11,
2001.

However, there were some puzzling actions (such as remaining on boards
of firms on NYSE while in the role of regulator and president of the
exchange) and failing to adequately improve the corporate governance on
the NYSE. This was problematic as how could the NYSE call for improved
governance for the firms that list on the exchange if the exchange
itself did not have its house in order. Additionally, few would argue
that Grasso’s pay was not at least quite generous. In his first full
year as president, he was paid an estimated 50% more than his
predecessor. Moreover this pay grew quickly to over $30 million by 2001
(or at least it appears that way, it is hard to say as the NYSE is
famous for its secrecy and this pay does not include any bonuses or the
like). Ironically (and maybe coincidentally) Grasso’s predecessor was
William Donaldson. Yes the same William Donaldson who is now the head
of the SEC and has publicly spoken out against the pay plan. (It should
be noted that Donaldson’s pay package while presumably lower in value,
was at least as secretive as Grasso’s).
http://www.thestreet.com/pf/markets/matthewgoldstein/10111429.html

No doubt one of the first changes that we will see is improved
transparency. At a time when investors and regulators are demanding
more disclosure and transparency, the NYSE is a bastion for information
asymmetries and a lack of transparency. This can be demonstrated by
showing what happened once the Grasso story broke. First no one knew
how the pay was set or why it was so high. Then, like sharks with blood
in the water, reporters were quick to find more examples of “excess” and
apparent conflicts of interest that occurred on Grasso’s watch.

For instance the NY Times reported that this plan was “six times as
generous as those at major financial services companies.” And MSNBC
uncovered that charities who were associated with board NYSE board
members received significant donations from the NYSE. These payments
may not be problematic, but without disclosure, it seems like they are
hiding something which is not a good thing.
http://www.nytimes.com/2003/09/18/business/18PLAC.html
http://www.msnbc.com/news/968992.asp

However, in the end, Grasso may still have a last laugh. If he can
prove that he was dismissed without good cause (an unlikely event), then
his forced resignation could trigger an additional $57 million payment
for dismissal “without cause.”
http://www.usatoday.com/money/markets/us/2003-09-24-grasso-severance_x.htm


So who will be the next president? Not many people are stepping up in
line. For now John Reed, the former chairman of Citigroup, is serving
as interim president. His pay? $1.00
http://www.marketwatch.com/news/yhoo/story.asp?source=blq/yhoo&siteid=yhoo&dist=yhoo&guid=%7B68FDB434%2D5BBE%2D4B97%2D812C%2D9CED074E5B4C%7D

http://www.forbes.com/2003/09/22/cx_da_0922topnews.html
http://www.nytimes.com/2003/09/19/business/19CHIE.html
http://www.nytimes.com/2003/09/19/business/19BOAR.html
http://www.nytimes.com/2003/09/19/business/19NORR.html
http://www.washingtonpost.com/wp-dyn/articles/A35519-2003Sep19.html
http://news.bbc.co.uk/1/hi/business/3122508.stm

If indeed this type of pay plan is a problem and an indicator of more
serious governance problems at the exchange, then reforms are needed or
the next president will be the same. (As Fool.com points out this is a
nice definition of fungibility). While the exact shape of the reforms
for the NYSE are unknown, it is easily within the realm of possibility
that the NYSE may be forced to give up its role as a regulator.
Additional changes may be to limit conflicts of interest by not having
NYSE board member from firms who trade on the NYSE. In the short term,
the next in line of fire will almost assuredly be the board of Directors
who approved the pay plan. Stay tuned.
http://www.nytimes.com/2003/09/18/business/18PLAC.html
http://news.bbc.co.uk/1/hi/business/3122508.stm
http://www.businessweek.com/bwdaily/dnflash/sep2003/nf20030918_9486_db035.htm

http://www.fool.com/news/commentary/2003/commentary030923dg.htm

Many of the large pension funds that pushed for Grasso’s resignation are
now pushing for more lasting reforms. CALSTRS (Calpers’ sister fund)
took the lead but shortly many others joined in pushing for a breakup of
market function and regulation functions.
http://biz.yahoo.com/rf/030923/financial_calstrs_nyse_1.html
http://sanjose.bizjournals.com/sanjose/stories/2003/09/22/daily22.html
http://news.ft.com/servlet/ContentServer%3Fpagename%3DFT.com/StoryFT/FullStory%26c%3DStoryFT%26cid%3D1059480057505

http://www.philly.com/mld/inquirer/business/personal_finance/6819978.htm

Longer term the NYSE is also facing many operational decisions. Not
least of which is how it is going to continue to compete with the
multitude of electronic trading platforms. As many have pointed out
specialists do provide important services, but this service is most
valuable in market downturns, and whether investors will pay for this or
not is still up for debate.

In an attempt to determine how widespread the large pay plans are, the
SEC (Donaldson) is asking that all of the financial markets disclose
their executive pay. Seeing what each is paid will be interesting.. In
the background are those markets that are already publicly traded and
hence already disclose their executive pay. For instance the Chicago
Merc’s James McNutty’s pay while lower than Grasso’s, is still pretty
high by most standards and above most of his peers when options are
included. Thus, the question arises as to whether more disclosure would
in fact dramatically lower the pay.
http://www.nytimes.com/2003/09/24/business/24PLAC.html
http://www.forbes.com/markets/newswire/2003/09/24/rtr1090379.html

Additional sources used:
http://www.msnbc.com/news/967497.asp
http://www.msnbc.com/news/967365.asp
http://www.msnbc.com/news/967359.asp
http://news.bbc.co.uk/1/hi/business/3114616.stm
http://money.cnn.com/2003/09/17/markets/grasso_meet.reut/
http://news.bbc.co.uk/1/hi/business/3117786.stm
http://www.forbes.com/2003/09/11/cx_da_0911topnews_2.html
http://www.washingtonpost.com/wp-dyn/articles/A62752-2003Sep11.html
http://www.forbes.com/newswire/2003/09/09/rtr1077345.html

What others are saying:
“Each troubling detail of the package: its basis on cash; the lack of
comparability with CEO's of other major financial institutions (let
alone the heads of quasi-regulatory agencies); the apparent dozing on
the job by the NYSE compensation committee; not to mention the size of
it, is so appalling as to be almost comical. The type of mathematical
and moral calculus that structured the compensation package, and
Grasso's twisted logic in explaining it, is more in keeping with the
leadership of the Enron's and WorldCom's of the world, than it should be
with the executive of the world's most prestigious stock exchange”
http://www.tompaine.com/feature2.cfm/ID/8910

Financier Starts Sentence in Prostitution Case - NYTimes.com

It has not been a good year for Jeff Epstein. A billionaire money advisor who owned his own island in the Caribbean as well as a large townhouse in NY, Epstein used to be known for his secrecy, smart friends, dislike of suits and ties, and yoga. That has changed in the past year. In fact, it has changed in a big way! Read on:

Financier Starts Sentence in Prostitution Case - NYTimes.com:

"On Monday morning, he turned himself in and began serving 18 months for soliciting prostitution....It is a stunning downfall for Mr. Epstein...a tabloid monument to an age of hyperwealth. Mr. Epstein owns a Boeing 727 and the largest town house in Manhattan. He has paid for college educations for personal employees and students from Rwanda, and spent millions on a project to develop a thinking and feeling computer and on music intended to alleviate depression.

But Mr. Epstein also paid women, some of them under age, to give him massages that ended with a sexual favor, the authorities say."

In addition to these charges, he was also recently was identified as a major investor in Bear Stearns' (where he used to work) hedge funds that collapsed last year:

From NY Times DealBook:

"The New York Post reported Monday that he was the “Major Investor No. 1″ described in a recently unsealed indictment as one of the three largest investors in two Bear Stearns hedge funds that collapsed. A spokesman for Mr. Epstein confirmed to the Post that he was the investor, who wasn’t identified in the indictment but was said to have had $57 million tied up in the funds shortly before they imploded early last summer.....The indictment said that in April 2007, the investor — whom we now know to be Mr. Epstein — told Mr. Cioffi he was thinking about pulling his money out of the fund. The funds had a bruising February and both funds lost money in March of that year."

So he was at least right on wanting to pull his money out of the fund.

For more on the charges see the Wikipedia entry.

What Really Killed Bear Stearns? - Mergers, Acquisitions, Venture Capital, Hedge Funds -- DealBook - New York Times

Remember a month or so ago when the WSJ had a series of articles on Bear? I thoght they were great. Well this may be better! By Bryan Burrough who helped write "Barbarians at the Gate" (one of my all time favorites).

What Really Killed Bear Stearns? - Mergers, Acquisitions, Venture Capital, Hedge Funds -- DealBook - New York Times:

One look in:

"According to Mr. Burrough’s account, Bear did not have a liquidity problem, at least at first. In fact, he said it had more than $18 billion in cash to cover its trades when the week began. There were no major withdrawals until late in the week, after rumors flew that the company was in trouble.

A top Bear executive told Mr. Burrough, “There was a reason [the rumor] was leaked, and the reason is simple: someone wanted us to go down, and go down hard.”

Bear executives frantically tried to find the source of the rumors, but failed to do so in time. They have their suspicions, and they have turned over the names to federal authorities that are investigating the matter."

If that was all the article would be great, but there is so much more. Granted some is based on rumor and sort of one sided and designed to sell magazines, but who cares? A very good read!

And the NY Times Deal Book goes even further providing links to Fed meetings on the collapse. This will definitely be used in class!

Fed's Minutes from March 14 Meeting (PDF):

Fed's Minutes from March 16 Meeting (PDF)

A Hedge Fund Struggle for CSX Is Left in Limbo - NYTimes.com

Update: A few weeks ago we saw the case of The Childrens' Investment Fund (TCI) vs. CSX. If you remember the hedge fund was in the midst of a proxy battle with CSX. Here is that story.

Well the vote was yesterday and while the vote was close, TCI is acting like the victor.

A Hedge Fund Struggle for CSX Is Left in Limbo - NYTimes.com:

"After the shareholders cast their votes, the funds, which together control at least 8.7 percent of CSX, claimed four of five contested seats and said that CSX had held the voting open in the hope of wrangling a few more votes. But CSX said that the vote was too close to call and that the results would take a month to tally and certify."

I doubt we have heard the end of this one!

Dealbook - A ‘Bonfire’ Returns as Heartburn - NYTimes.com

The NY Times has a gloom and doom article on the future of Wall Street one year after Blackstone went public. It is through eyes of Tom Wolfe the author of Bonfire of the Vanities.

Dealbook - A ‘Bonfire’ Returns as Heartburn - NYTimes.com:

"Blackstone’s stock has gone nowhere but down since it went public, dropping nearly 50 percent from its high the day it started trading. But that’s the least of it.

The once mighty Wall Street investment banks have been brought to their knees, sending out pink slips to more than 83,000 employees worldwide, racking up billions of dollars in losses as a results of their foolish forays into subprime mortgages. Bear Stearns all but went out of business before being “saved.” Some hedge funds have gone belly up.

Those lords of private equity, many of which were preparing to follow Blackstone into the public markets, have been put on semipermanent hiatus...."

As Mr. Wolfe nicely put it, “It sounds like even the firms that aren’t in trouble are in trouble.”"

To me what makes the article interesting is not the historical look back over the past 12 months, but the potentially prophetic look ahead:

"Wall Street is in for a radical makeover. Fewer people, lower margins, lower risk, lower compensation — and ultimately, fewer talented people. It is likely to change the culture of an industry that for nearly a century has been the money center of the world. “There would be a lot of firms leaving New York if it wasn’t for lunch,” Mr. Wolfe said"

Bear Stearns managers indicted; emails could be smoking gun - MarketWatch

Obviously many have been watching the recent arrests of former Bear hedge fund managers Matthew Tannin and Ralph Cioffi. My first reaction was that they were being made scape goats so I was somewhat surprised when I saw this article that suggests there may be a case.

Bear Stearns managers indicted; emails could be smoking gun - MarketWatch:

"'If we believe the [collateralized-debt obligation report] is anywhere close to accurate I think we should close the funds now,' wrote Tannin, according to the indictment. 'The reason for this is that if [the CDO report] is correct then the entire subprime market is toast. If AAA bonds are systematically downgraded then there is simply no way for us to make money -- ever. ... Caution would lead us to conclude the [CDO report] is right -- and we're in bad bad shape.'

But Tannin, Cioffi and other high-ranking Bear Stearns executives met with investors April 25 and assured them the funds had plenty of liquidity to survive any upcoming pressure."

Ouch. But is this just speculation? The whole thing is conditioned n an "if". Maybe they concluded that things were not as bad as suspected prior to the April 25th meeting? Would not want to be a juror on this one, it could go a while. Stay tuned.

Banking: Still a top priority in a fast-changing world

FT.com / In depth - Banking: Still a top priority in a fast-changing world:

"Steve Kaplan, professor of entrepreneurship and finance at the University of Chicago Graduate School of Business...uses the snappy acronym CFIMITYM – cashflow is more important than your mother – and points out that the subprime market crashed and burned because investors had bought something that had “less cashflow than they thought there was”.

As for the school, it does not “teach the latest and greatest fad” but feels it is more important to give a thorough understanding of the essentials of economics and finance, for both entry – and higher-level financial training."

Whenever a professor the caliber of Kaplan is mentioned in a article that focuses on teaching finance, it is clear that it must be "blogged".

Are you a stock or a bond? - The Wealthy Boomer

Interesting angle on personal finance.

Are you a stock or a bond? - The Wealthy Boomer:

"...Your human capital is "bond-like" in nature if you're a salaried employee with a Defined Benefit pension plan.... On the other hand, the human capital of an entrepreneur or investment banker is more like a stock.the implications for personal finances are clear. If you're a 'bond' you might want to balance your human capital by adding more stocks to your growing financial capital. If on the other hand you're a 'stock,' you might consider adding more bonds to your financial capital to offset the risk you take in your day to day work.

Many of us are not 100% a stock or 100% a bond; we are a blend"

Strategies - The Perils of Investing Too Close to Home - NYTimes.com

Well we knew of home COUNTRY bias, but home STATE bias? Apparently. That is the latest from Korniotis and Kumar.

Strategies - The Perils of Investing Too Close to Home - NYTimes.com: "

Americans tend to put a disproportionate share of their money into shares of companies based in their own states, new research has shown, and that bias that can be exploited by sophisticated traders.

These insights come from “Long Georgia, Short Colorado? The Geography of Return Predictability,” a study by George M. Korniotis, an economist on the staff of the board of governors of the Federal Reserve, and Alok Kumar, an assistant professor of finance at the University of Texas, Austin."

The actual paper can be found on SSRN.

Offer Says, ‘This Bud’s for InBev’ - NYTimes.com

‘This Bud’s for InBev’ - NYTimes.com:

"Anheuser-Busch, which responded to InBev’s bid by saying it would review the proposal, has been exploring ways to thwart InBev’s $46.4 billion takeover offer. Busch is based in St. Louis. Anheuser-Busch, the maker of Budweiser, owns 50 percent of Grupo Modelo, the brewer of Corona, and might try to make itself too expensive to take over by purchasing the remaining half....,"

In response to this plan, InBev has asked Bud to refrain from any further acquisitions:

"“It is our strong belief that no alternative transaction that you could effectuate would create more value for your shareholders,” said Carlos Brito, the chief executive of InBev, in a letter Sunday to August Busch IV, chief executive of Anheuser-Busch, according to a statement."

Sirius-XM: It's about time - Jun. 16, 2008

Might the deal finally get approved? From CNN:
Sirius-XM: It's about time - Jun. 16, 2008:

"The two companies announced their merger nearly 16 months ago. Shareholders approved it in November. Many customers have been eagerly awaiting the chance to sign up for one package that would give it Sirius and XM programming.....And the Department of Justice gave the deal its blessing almost three months ago. So the only hang-up for the merger is a green light from the Federal Communications Commission....According to several published reports today, FCC chairman Kevin Martin has indicated that he would support the deal. The next step is for Martin to call for the remaining members of the FCC to vote on it this week."

From the NY Times:

"If the deal is approved, it would be a major reversal of the commission’s rules, the Post noted: The F.C.C. gave licenses to XM and Sirius in 1997 on the condition that the two satellite companies never merge.

Consumer groups have expressed concern that the merger would allow the combined entity to raise prices." "

Dealbook - CSX Grasping at Straws to End Battle - NYTimes.com

Yeah this one will definitely make it to class! Fighting a proxy vote, CSX management has turned it political. How? By making it a matter of national defense. Uh, yeah. And for good reason, you never know when the British (where the hedge funds are located) are going to launch a surprise attack to get the return of Fort Niagara.

A few highlights from the NY Times:

Dealbook - CSX Grasping at Straws to End Battle - NYTimes.com:

"CSX has managed to turn a proxy contest for 5 of 12 board seats (it is hardly a takeover, at least not yet) into a debate about national security.”"

"The column writes itself: CSX delayed its annual meeting — without first telling its shareholders — and then moved the meeting to a rail yard in the middle of nowhere...."

"Two of the six senators who sent the letter ....receiving $5,000 each this year....[the] chairwoman of the House subcommittee with jurisdiction over the rail industry, has been particularly vocal in trying to prevent TCI from getting on CSX’s board. She has received $38,750 since 1989, including $5,000 in the 2008 election cycle, from CSX....And CSX gave $25,000 to Edward Waters College, in Jacksonville, her alma mater. And then CSX’s chief executive, Michael J. Ward, personally donated another $1 million to Edward Waters College"

Yep. It will make class as a great example of how management can fight takeovers and proxy votes even if it hurts shareholders.

ETFs dominate Canada Cup -- and a looming threat to Canada's mutual funds - The Wealthy Boomer

ETFs dominate Canada Cup -- and a looming threat to Canada's mutual funds - The Wealthy Boomer:

"Seif said ETFs are popular because they're good for investors: 'They provide the ability to get exposure to the market and use them in multiple ways, whether for asset allocation or as a complement to stocks or active managers.'

Near the end of the session Seif took a direct shot at traditional mutual funds: 'High-fee index-hugging general mutual funds charging 2.5% a year that underperform the market just don't cut it any more. That's the reality.'"

I am always surprised that some still pay mutual funds such high fees for performance that mirrors (or worse) indexed performance.