Tag Archives: Short Selling

The Dirt on Attorney Generalissimo Cuomo

Oh this is nice–could be the greatest twist in New York State politics since Client Number 9. Instead of investigating short-sellers, perhaps our dear Attorney Generalissimo should investigate his own responsibility for the current crisis? According to the Village Voice: 

Andrew Cuomo, the youngest Housing and Urban Development secretary in history, made a series of decisions between 1997 and 2001 that gave birth to the country’s current crisis. He took actions that—in combination with many other factors—helped plunge Fannie and Freddie into the subprime markets without putting in place the means to monitor their increasingly risky investments. He turned the Federal Housing Administration mortgage program into a sweetheart lender with sky-high loan ceilings and no money down, and he legalized what a federal judge has branded “kickbacks” to brokers that have fueled the sale of overpriced and unsupportable loans. Three to four million families are now facing foreclosure, and Cuomo is one of the reasons why.

Read it all here.

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Whereof the Hedge Fund Speaks, Thereof the Time-Servers Must Be Silent

Joe Nocera, who has been blogging intermittently at the Times, decided to cede the floor to Cliff Asness,  the managing partner of AQR, a $30 billion hedge fund. Asness sounds off on the prohibition against short-selling: 

Frankly, I expect some confused socialism from the Brits, but not from our “small government” Republicans (for the record, on matters of economics, I consider myself from the small-government libertarian wing of the Republicans). I now feel quite party-less as I’m reasonably sure Obama would’ve nationalized all industries in similar circumstances, while “hoping” this “change” would work.

Now, after executing the short-sellers in a show trial, the S.E.C. chairman, Christopher Cox, and Treasury Secretary Henry Paulson are probably going to review a parade of soldiers and tanks with 10 old men in coats and big hats, and then perhaps go rest at their dachas in the Crimea. Then again, my socialism analogy, however accurate, may not be the best one possible. After all, I believe the last country to outlaw shorting was Pakistan.

So, while there’s a lot of blame for everyone to share, as usual a crisis caused primarily by government, is “solved” by more government. Some of it is probably needed now. But, in the case of blaming and attacking shorting, it’s very bad government and entirely not needed, quite the opposite.

So we take another step along the road to serfdom. I just hope the jump suit they make me wear at the re-education camp goes with my eyes.

Read the whole thing here.

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Attorney Generalissimo Cuomo to Einhorn: You Know Too Much!

Our man of the hour, David Einhorn, has said academic research and his firm’s experience indicate that whenever management complains about short-selling, it is a sign that management is attempting to distract investors from serious problems. Einhorn said that back in May. I would like to add a corollary to Einhorn’s principle: whenever management convinces regulators and attorney generals that short-selling is a problem, it is a sign that entrenched interests are using the state to protect their firms from the gales of creative destruction. 

Today’s story begins with John Mack of Morgan Stanley working in concert with Lloyd Blankfein of Goldman Sachs to persuade numerous federal officials to ban the short-selling of stocks. Much to their delight, I am sure, Andrew Cuomo entered from stage right, announcing he is opening “a wide-ranging investigation into short selling in the financial market.” (These New York Attorney Generals sure know how to wag a finger!) Unsurprisingly, the attorney general’s logic is impeccable: “Short selling is not illegal,” he says, “but when combined with the spread of wrong information, that is illegal.” So without offering so much as a hint as to what false information has been circulating throughout the markets–the implication of his quote is that the downfall of Lehman was unjustified, since it was based on false information–Attorney Generalissimo Cuomo deftly concludes, “I believe the SEC should freeze short selling of financial stocks on a temporary basis.”

But the problem isn’t that false information is putting undue downward pressure on the price of stocks in the banking industry. The problem is that the information available is damning. Lehman deserved to fail, short-selling of their stock notwithstanding. In fact, short-sellers like Einhorn provide a valuable service, first by trading on this information, but secondly, and most importantly in Einhorn’s case, by making this information public. So what are we to conclude from Mack’s statements? (Other than that he has some influence in the attorney general’s office?)

Michael Lewis raises a good point here. He says one positive upshot of the Lehman collapse is that we’ll finally get to see inside a big Wall Street firm. With Lehman, he writes:

 We’ve just witnessed the largest bankruptcy in U.S. history and we know neither the inciting incident (though there is speculation that sovereign wealth funds decided to stop lending to Lehman Brothers Holdings Inc.), nor the deep cause. But there’s now a pile of assets and liabilities smoldering in New York awaiting inspection.

The assets include subprime mortgage-backed bonds and no doubt many other things that aren’t worth as much as Lehman hoped they might be worth. But it’s the liabilities that are most intriguing, as they include more than $700 billion in notional derivatives contracts. Some of that is insurance sold by Lehman, against the risk of other companies defaulting.

Natural Question

The entire pile might be benign, but somehow I doubt it. We may well find out that Lehman Brothers, in liquidation, has a negative value of hundreds of billions of dollars. In that case the natural question will be: How much better could things be inside Morgan Stanley and Goldman Sachs, both of which were engaged in the same lines of business?

If things are only marginally better for Morgan or Goldman, then investors need to know. They also ought to be allowed to trade on that information. If some bureaucratic time-server manages to forbid short-selling, then contrary to Cuomo’s assertion, they wouldn’t be preventing irrational selling on false information. Oh no, good citizens–they would be preventing you from trading upon the truth.

See also Robin Hanson here. And Michael Lewis again.

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Someone Should Interview David Einhorn

Back in early summer, a friend of mine who works used to work at Lehman as an analyst told me about this New York Magazine article on David Einhorn. She said all her coworkers anticipated its publication. I wonder what they think of David Einhorn now. Einhorn began shorting Lehman’s stock last May when he uncovered discrepancies between what finances Lehman reported to the government and what Lehman discussed about those filings during a conference call announcing them. When Lehman’s CFO refused to clarify the discrepancies in a phone call, Eihorn decided to use the Ira W. Sohn Investment Research Conference as a platform to publicly announce his strategy to short Lehman. According to NYMag: 

His firm had a short position on Lehman Brothers, [Einhorn] maintained, not only because Lehman had fudged its numbers but because its recklessness had put the financial system as we know it at grave risk. He ended with a call to federal regulators to “guide Lehman toward a recapitalization and recognition of its losses—hopefully before federal taxpayer assistance is required.”

We can now rest assured federal regulators didn’t heed his advice. Anyway the article continues: 

Lehman was taking advantage of a new accounting mechanism that allowed it to book revenue based on the declining value of its own debts. In other words, because of the increasingly risky state of Lehman, loans that other firms had made to Lehman had dropped in value, and under the new accounting, Lehman could count this as a gain.

Lehman is not the only firm that employs this trick, but in Einhorn’s view, it was the least transparent about it. “Morgan Stanley announced their quarter and they did the same thing, although they were incredibly explicit about it. ‘We’re fair-valuing our liabilities, it creates a gain for us, here’s the amount of our gain.’ Lehman wouldn’t even tell you the amount of the gain. This is crazy accounting. I don’t know why they put it in. It means that the day before you go bankrupt is the most profitable day in the history of your company because you’ll say all the debt was worthless. You get to call it revenue. And literally they pay bonuses off this, which drives me nuts.” Einhorn almost sounded like he might be getting mad. But he kept his tone at the level of intense bemusement.

The final list of the origins and causes of this current economic downturn are beyond my ken. But it strikes me as worth noting that it is among the most regulated aspects of the industry that we have seen the most carnage, whereas the relatively unregulated hedge-funds remain quiet, patiently awaiting the outcome atop Mount Olympus in Greenwich, CT. I would go even further. Much has been said recently about the injustice of increasingly exponential returns to highly skilled labor. Many have lamented the salaries of hedge-fund managers. But one thing this current crisis has shown is how, among hedge-funds, the best managers are worth every dollar. Just ask David Einhorn’s clients.

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