Teaching Cats to Bark, Dogs to Meow

The shift of emphasis in American financial institutions from a role as a corporate strategic advisor – so-called investment banking, where financial structuring, mergers & acquisition are the drivers – to trading (buying and selling stocks, bonds and other financial instruments) has totally changed what minimal ethical philosophy defined Wall Street. Teams of mega-expensive lawyers, hordes actually, have focused on loopholes to statutes and regulations, to allow financial institutions the greatest possible freedom. No one looks beyond those laws to the ethics. It’s about getting away with it, not doing what’s right. Sell those instruments! Sell! Sell! Sell!

The government has been the Street’s greatest enabler. It slashed away the ban on combining commercial lenders with financing traders in 1999 by repealing the relevant protections of the depression-era Glass Steagall Act, allowing rogue traders (now with bank status) access to cheap Fed Funds, which many have deployed for their own benefits.   Congress deregulated those nasty and often ill-defined (at least to buyers) derivatives in theCommodity Futures Modernization Act of 2000. On April 28, 2004, the Securities and Exchange Commission took the lid off how much debt the “too big to fail” institutions could carry; Lehman and Bear Stearns went out with debt multiples of their underlying equity of over 30 to 1! The post-crash Dodd-Frank legislation was horrifically watered down and has faced a House of Representatives with a strong unwillingness to fund the empowered regulatory agencies in order to implement those soggy and minimal protections.

So we bailed out the big bad boyz, because their collapse would further threaten our economy. It was blackmail, but some form of that support was necessary. Still these financial institutions screamed for deregulation. The bad boyz quickly returned to their profligate ways. Phony mortgage foreclosures, LIBOR rate fixing, money laundering and dealing with cartels and terrorists, rogue trades slammed even the biggest players and new and improved (right!) derivatives that looked a whole lot like the ones that tanked our economy in 2007 seemed to be creeping back.

Because the biggest financial institutions (all with major U.S. subsidiaries) operate globally, they can move money around to the friendliest venues, and American regulators are under-staffed with inadequate regulatory empowerment to stop growing bad habits. “Banks have been shedding risky assets to show regulators that they are not as vulnerable as they were during the financial crisis. In some cases, however, the assets don’t actually move — the bank just shifts the risk to another institution… This trading sleight of hand has been around Wall Street for a while. But as regulators press for banks to be safer, demand for these maneuvers — known as capital relief trades or regulatory capital trades — has been growing, especially in Europe.

“Citigroup, Credit Suisse and UBS have recently completed such trades. Rather than selling the assets, potentially at a loss, the banks transfer [via a derivative] a slice of the risk associated with the assets, usually loans. The buyers are typically hedge funds, whose investors are often pensions that manage the life savings of schoolteachers and city workers. The buyers agree to cover a percentage of losses on these assets for a fee, sometimes 15 percent a year or more… The loans then look less worrisome — at least to the bank and its regulator. As a result, the bank does not need to hold as much capital, potentially improving profitability…

“The rule-writing going on as part of the Dodd-Frank financial regulatory overhaul may prevent some of these trades, but bankers say this will simply force them to structure the trades differently… Some regulators say they are concerned that in some instances these transactions are not actually taking risk off bank balance sheets. For instance, a financial institution may end up lending money to clients so they can invest in one of these trades, a move that could leave a bank with even more risk on its books.” New York Times, April 10^th. The funds include masses and piles of private pension money that could vaporize in another meltdown.

Cheap interest has definitely helped the big boyz back to the top. Stocks are soaring even as average Americans continue to watch their real buying continue the slide that began in 2002. As hundreds of thousands of workers give up looking for work, the unemployment statistics look better (because they don’t count these masses of withdrawing workers) but we still face under- and unemployment of record proportions. The top 1% seems likely to increase its 42% stake in America’s wealth in this era of continued financial deregulation.

Outrageous pressures to make more profits in this rising market have returned. A new “everybody else is doing it so I have to do it too in order to be competitive” sheep mentality has returned to the street. Nobody is calling the emperor as naked, but everyone knows there is a bubble waiting for us out there. Next week? Next year? Farther out? Anybody’s guess, but it will take a needle to pop that bubble to stop these rogue practices again… and it 100% the fault of a Congress that so needs campaign contributions – particularly the House with members who face re-election every two years – that its members steadfastly lie to the American public and tell them that regulation is stifling job growth. What regulation actually stifles are campaign contributions.

I’m Peter Dekom, and the cats are still meowing and the dogs still barking.