Kevin Drum

Third Time's the Charm?

| Thu Oct. 22, 2009 4:56 PM EDT

Back in 1998, Long Term Capital Management, the most famous hedge fund on the planet, blew up and nearly took all of Wall Street down with it.  It was pretty spectacular.  But what was even more spectacular was what happened next: less than a year after LTCM's collapse, its founder, John Meriwether, started up a new fund.  And people invested in it!

Well, fine.  It was a more innocent time, after all, and there were people who really believed that LTCM had just run into a once-in-a-century spell of bad luck.  Can't blame a guy for that.  But last year Meriwether's new fund went belly up too.  So that's twice.  He must really be a pariah now, right?  Right?

Hedge fund manager and arbitrageur, John Meriwether, is setting up his third fund, The Financial Times reported. The man behind Long-Term Capital Management is making the move just three months after he chose to close his second fund manager, JWM Partners.

I guess you saw that coming, didn't you?  But it's even worse than you think:

JWM Partners closed last year after losing 44% amidst the market turmoil of 2008. Hedge funds typically have "high water marks" which means that investors don't pay performance fees to the fund manager in subsequent years unless the fund surpasses its highest point. Thus, the solution for fund managers whenever they have a bad year is to liquidate, wait a bit, and form a new fund?!?! Anyone who was invested in the old fund and the new fund thus pays fees twice: you paid when JWM Partners reached its high water mark, and now you'll pay again if/when Meriweather Cubed (not the real name) manages to make money — the same money JWM Partners effectively lost after reaching its high water mark.

Damn.  Words fail.  Via Felix Salmon.

Advertise on MotherJones.com

Bonus Chart of the Day

| Thu Oct. 22, 2009 12:32 PM EDT

This is a cool chart.   Using a fairly slick technique, Boris Shor and Nolan McCarty have come up with a way of comparing state parties on a common ideological scale.  Andrew Gelman explains:

The estimates are based on state legislative voting, which might make you wonder how you could possibly compare legislators in one state with those in another. The trick is that some state representatives (for example, Barack Obama) also end up in Congress. There are enough of these overlap cases that you can put legislators from all 50 states on a common scale.

It's not clear how the states are ranked, but if you look hard enough you'll see that California is at the bottom.  This is appropriate.  In fact, the chart goes a long way toward explaining why the Golden State sucks so bad these days: we have both the most liberal Democratic Party and the most conservative Republican Party.  The state GOP, in particular, is way more conservative than any of its peers, beating out even Texas and Oklahoma by a sizable margin.

The error bars are pretty big here, so take all of this with a grain of salt.  Still, it demonstrates pretty vividly that California really is two states.  Not North/South, but Coastal/Inland.  They're practically different countries.

Stopping the Trials

| Thu Oct. 22, 2009 11:58 AM EDT

Via Andrew Sullivan, the Washington Independent has a story by Daphne Eviatar about attempts to bring five of the 9/11 conspirators to trial in federal court.  Naturally, there's opposition:

The administration has promised to make its final decision on where to try the 9/11 suspects by Nov. 16. Fearing that the administration is inching toward bringing them to New York City or the Washington, D.C., area, opponents of trying high-level terrorists in U.S. federal courts are stepping up their efforts to keep the five men out of the United States for any purpose. On Oct. 9, Sen. Lindsey Graham said he’d attached an amendment to an appropriations bill that would prohibit the Obama administration from spending money on prosecuting and trying these five alleged terrorists in U.S. civilian federal courts.

Hmmm.  Would this even be constitutional?  Congress can do a lot through its appropriations power, but can it use that power to deny someone a trial in federal court?  Any lawyer types care to chime in on this?

Chart of the Day

| Thu Oct. 22, 2009 11:34 AM EDT

In yet another triumph of Science™, a remarkably large group of researchers has discovered that it's a bummer when your candidate loses a presidential election:

While past studies have shown that men's testosterone levels differentially change in response to winning or losing an interpersonal dominance contest, the present study provides novel evidence showing that vicarious victory and defeat via democratic elections has similar physiological consequences for male voters as do interpersonal dominance contests.

Basically, the researchers asked a bunch of undergrads to collect saliva samples throughout the evening of November 4 ("participants used a stick of sugar-free chewing gum to facilitate collecting up to 7.5 mL of saliva in a sterile polypropylene vial and discarded the gum," in case you're interested).  The chart on the right shows what happened: after 8 pm, when John McCain's fate was sealed, testosterone levels among men who supported him plummeted.  Among women, nothing happened.

Put this together with the capuchin monkey experiment (which, sadly, yielded no interesting charts to post) and then ask yourself just how much difference a few million years of evolution makes.  Answer: not nearly as much as we'd like to think.

Smoke and Mirrors Wins Another Round

| Thu Oct. 22, 2009 10:35 AM EDT

I see today that the legislation to do away with the annual ritual of pretending to cut doctors' pay has failed.  So instead we'll just keep on pretending.  Ain't politics grand?

They're Back....

| Thu Oct. 22, 2009 1:10 AM EDT

And now, in news that should surprise precisely no one:

Some of the biggest Wall Street firms are back in the political-spending game after hunkering down while they were getting government bailout funds.

Goldman Sachs Group Inc., Bank of America Corp., Morgan Stanley and other large financial-services firms stepped up their political donations in September to members of Congress, for many the first time this year they have joined the fray.

....The renewed assault on Washington comes as the Capitol Hill debate begins on a broad overhaul of financial-services regulations that is strongly backed by President Barack Obama and opposed by large swaths of the finance industry. The spending could also heighten tensions with Mr. Obama, who as recently as Tuesday called on Wall Street to stop lobbying against the proposed regulations.

The battle to pass financial regulatory reform is going to be like trench warfare: a grinding, bloody struggle that's won a single subparagraph at a time against a relentless barrage of money, lawyers, and lunches at Tosca.  And that's the optimistic view.  Strap on your flak jackets, folks.

Advertise on MotherJones.com

Trading It All For Leverage

| Wed Oct. 21, 2009 11:40 PM EDT

Nate Silver predicts how the argument over banking reform will play out:

From a 30,000-foot view, the debate will be between the Volckerists and the Summersists, with the Volckerists arguing that large financial institutions need to be broken up — probably through something resembling a modern Glass-Steagall Act — and the Summersists arguing instead for more extensive regulations.

I don't understand.  Why do I have to choose?  These aren't mutually exclusive, after all.  Tightly regulated small banks seem like the sector to have come through last year's meltdown in the best shape.

In any case, Yves Smith reminds us of the obvious: when the crisis hit last year, the pure investment banks fared pretty poorly:

Remember, Morgan Stanley and Goldman, both pure investment banks as of last year, also nearly failed, and Merrill, Lehman, and Bear perished....The industry had already become so concentrated (and levered) that it had become more failure prone. So merely separating commercial banking and investment banking is not sufficient; you have to do something about the risk taking of capital market players.

....And the elephant in the room is derivatives. The big players have massive OTC derivatives exposures. You need a really big balance sheet to provide OTC derivatives cost effectively....The books are large, and most exposures are hedged dynamically.

There are lots of regulations I'd like to see implemented, but if I had a choice I think I'd trade every single one of them for a comprehensive set of restrictions on leverage.  Stronger capital adequacy standards might do part of the trick, but what I'd really like to see is some kind of flat, systemwide restriction on the amount of borrowed money (as well as the tenor of the borrowing) that both individuals and institutions are allowed to apply to asset purchases.

The credit bubble of the past eight years could never have taken off if it weren't for the huge chain of increased leverage at every step along the way.  At the individual level, mortgage loans were geared up when down payments went from 20% to 10% to 3% to zero.  The loans were then securitized and sold off so they didn't count against bank capital requirements.  The loan securities were turned into CDOs that got more complex over time and hid ever more stupendous amounts of built-in leverage.  The super-senior tranches were insured via AAA credit default swaps and moved off the balance sheet entirely.  And all that came on top of loosened capital adequacy requirements from the FDIC and the Fed.  (Basel II had the same effect in Europe.)

When you multiply it all out, how much did leverage increase throughout the financial system over the past decade?  I'm not sure anyone has any idea.  But without it, the mortgage market doesn't take off, the derivative market doesn't take off, and in 2008 the banking system suffers only a minor flesh wound when a small regional housing bubble bursts.

I'm happy to be corrected on this point, but I'm pretty sure that, even combined, all the other financial pathologies we've identified recently wouldn't have caused more than a few hiccups if not for the massively increased application of leverage we experienced over the past ten years.  That's the key pathology, and if it's rooted out and controlled everywhere and in every guise, we could probably skip most of the other stuff.

Unfortunately, it's not really clear how to do this.  Deleveraging from our current heights will take years even under the best circumstances, and leverage shows up in so many different forms than I'm not sure how you can write rules broad enough to keep it under control.  And God knows, since leverage is the common key to big paydays almost everywhere, serious rules to curb it would be bitterly opposed by every financial lobbyist in the country.  But we should at least try.  A decade after the collapse of LTCM and a year after the collapse of the planet, we should have learned at least that much.

Too Quick on the Draw

| Wed Oct. 21, 2009 6:37 PM EDT

I just got a phone call from "James" at the "National No Call List Department."  I hung up before he got any further, and now I'm sorry I did.  Was this (a) the most brazen telemarketing call of all time, or (b) a fantastically misguided effort by the federal government to survey people about the Do Not Call list?

Almost certainly (a), and now I wish I'd stayed on the line to find out was the scam was.  Unfortunately, my telephone reflexes got the better of me.  Maybe he'll call back.

A Shot Across the Bow

| Wed Oct. 21, 2009 6:02 PM EDT

I'm pretty sure that Lefty High Command has instructed us not to refer to the Obama administration's "coordinators" as czars anymore, but anyway, Obama's pay czar has apparently decided to show that he's no potted plant.  Kenneth Feinberg announced today that banks that got a big chunk of bailout aid will have to rein in their top managers:

The seven companies that received the most assistance will have to cut the cash payouts to their 25 best-paid executives by an average of about 90 percent from last year....Total compensation, which includes bonuses, will drop, on average, by about 50 percent.

The companies are Citigroup, Bank of America, the American International Group, General Motors, Chrysler and the financing arms of the two automakers.  At the financial products division of A.I.G., the locus of problems that plagued the large insurer and forced its rescue with more than $180 billion in taxpayer assistance, no top executive will receive more than $200,000 in total compensation, a stunning decline from previous years in which the unit produced many wealthy executives and traders.

There's certainly some justice in this.  But I'd prefer something less punitive and more useful: a limit on the total bonus pool at these banks.  The point isn't just that executives who imploded their companies don't deserve huge paydays — though there's a lot to be said for that — it's that financial companies in trouble should be using their retained earnings to build up their capital base, not to pay their staffs outlandish salaries.  Today's action is nicely symbolic, but insisting on a more wide-ranging cultural change that helps the entire system recover would be even better.

That Word Does Not Mean What You Think It Means

| Wed Oct. 21, 2009 1:33 PM EDT

Bloomberg listens in on a panel discussion entitled “What is the place of morality in the marketplace?”and hears this:

A Goldman Sachs International adviser defended compensation in the finance industry as his company plans a near-record year for pay, saying the spending will help boost the economy.

“We have to tolerate the inequality as a way to achieve greater prosperity and opportunity for all,” Brian Griffiths [said].

Hmmm.  I haven't personally noticed any of the rest of us prospering from Wall Street's silicon-powered, supercharged rent seeking in the capital markets.  Perhaps Griffiths could enlighten us on that score.  More here.