It's a Great Time to Invest!

It's the end of the world as we know it.
It's the end of the world as we know it.
It's the end of the world as we know it, and I feel fine.

— R.E.M., It's the End of the World as We Know It (And I Feel Fine)

Hat tip: Mrs. Dealmaker

© 2008 The Epicurean Dealmaker. All rights reserved.

Live and Let Die

La guerre! C’est une chose trop grave pour la confier à des militaires.

— Georges Clemenceau

Say what you will about the United States Congress, Dear Readers—and I know I am not alone in having said many things about it over the years which are unsuitable for publication in a family newspaper—but I must say that I am heartened by what is transpiring under the klieg lights at the Dirksen Senate Office Building this morning. The same authorities who tell us that secrecy begets tyranny are the ones who reassure us that sunlight is the best disinfectant. I am quite happy to endure some populist demagoguery and partisan grandstanding from the lunatic fringe of the Senate Banking Committee if it allows us to shine a light down the rabbit hole Ben Bernanke and Hank Paulson are desperately urging this nation to jump down into.

I am also delighted that Senator Dodd and Congressman Frank have taken the lead in negotiating with Messrs. Bernanke and Paulson over exactly what form the massive bailout they have requested will take. Clearly, the Treasury's first draft of the proposed bailout suffered from a number of minor deficiencies, including the relatively trivial one that its demand of immunity for itself—

"Decisions by the Secretary pursuant to the authority of this Act are non-reviewable and committed to agency discretion, and may not be reviewed by any court of law or any administrative agency."

—was egregiously unconstitutional on its face. (Nice try, Hank.) It is reassuring that a few of our brave elected representatives have chosen to smack the Hammer on the snout and try to come up with something more in keeping with truth, justice, and the non-fascist way.

[As an aside, I have to say that I hope the final proposal does include some provision for the Treasury to take an equity stake in any financial institution which elects to participate in the bailout by selling toxic assets to the fund. Given that we have what almost everyone acknowledges to be an intertemporal asset valuation problem—in which the current fair value of these assets and firms is opaque, widely believed to be artificially depressed, and just as widely expected to recover over time when taken out of the glare of current market pressures and mark-to-market accounting—it strikes me that the best solution is one where the bailer—that's you and me, Ladies and Gentlemen—and the bailee have neatly aligned incentives to participate in the market's eventual recovery. There is a nifty, time-proven financing method to accomplish such ends, which is called equity. Frankly, it was the height of stupidity, carelessness, and/or disingenuousness for the Treasury to have made their initial proposal without incorporating such a mechanism, especially since it has been done successfully before.]

* * *

But whatever final form this bailout proposal takes, and however it is implemented by this Administration and the one to come, I think it is absolutely critical to maintain a clear distinction between saving the American (and global) financial system from catastrophic lockup or breakdown—which should be the point of the whole exercise—and pulling any one (or more) particular financial institution's bacon out of the fire, which should not.

As an economy, and as a country, we will suffer losses. Sacrifices will have to be made. And, like in any war, it should be the soldiers on the front line who bear the brunt of the damage.

Let me be clear: financial ruin and calamity for some, if not many, market participants should be completely understood as a likely and perhaps even desirable outcome from this godforsaken mess. There is no reason on God's green earth why Goldman Sachs, Morgan Stanley, or even Citigroup cannot and should not be allowed to fail completely, utterly, and without a trace. (And to reassure you I am not being partisan, I would remain unmoved if outfits like Cerberus, PIMCO, and KKR went down the tubes as well. I just tend to think they are at far less risk that the traditional financial intermediaries currently on the firing line.)

These firms, and the people who run them and work for them, have been living by the sword for a long time. It would be no great American tragedy if some of them died by the sword today.

Would there be a great big smoking crater in our financial system from the impact of one or more of these failures? Yes. Would there be collateral damage to apparently innocent bystanders in the markets and the broader economy? Of course. Would the smoking rubble of the institutional assets and liabilities of such firms require a huge clean-up effort by regulators, lawmakers, and other market participants over a period of many years? Very much so.

Would tens of thousands of lives be ruined, just like the tens of thousands of lives which have already been ruined by the wholesale collapses and takeovers of Bear Stearns, Lehman Brothers, and other market casualties? Absolutely.

You know what I say to that? So the fuck what.

War is hell, mister.

Goldman Sachs is not more important than the national interest.

© 2008 The Epicurean Dealmaker. All rights reserved.

Simple Jacks

"You went full retard, man. Never go full retard."

— Kirk Lazarus, Tropic Thunder

So which is it?

Did Christopher Cox of the SEC and Hector Sants of the FSA simultaneously go "full retard" yesterday in temporarily banning short sales of financial stocks, or is there a secret government plot to use the markets to attack financial terrorists?

Almost every commentator and market pundit I have read this morning who has any fucking clue about the markets or what they are talking about in general has registered stunned disbelief at the SEC's and FSA's actions. The common reaction seems to be a mixture of: a) what do Cox and Sants think they're going to accomplish with this?; b) the relief/short covering/apotheosis-of-the-morons rally will be very short-lived and followed by a very long and ugly aftermath; and c) they went full retard.

Barry Ritholtz does provide some comic relief over at The Big Picture this morning by relating a conversation with a fund manager who does not think Jim Cramer was batshit crazy when he speculated that "financial terrorists" were behind the waves of selling of financial stocks over the past few weeks, but you can tell he is just casting around for some flotsam to cling to as the S.S. Capitalism goes under the waves. He doesn't want to believe her captain and first mates blew up the ship from within simply because they went full retard. I have to sympathize: it's a bitter pill to swallow.

Interestingly enough, crack financial reportrix Bess Levin at Dealbreaker puts some data out there that can be viewed by a sympathetic reader as both a) providing corroborative evidence that the War on Terror may have moved into the financial markets already and b) short sale restrictions don't make one damn iota of difference. After all, Pakistan is a key front in said WoT, and it is easy to imagine its market regulators trying to stop perceived bear raid attacks on market integrity by Islamists hostile to the government (and capitalism in general, natch), just on the off chance any hostile Islamists with sufficiently large margin accounts really exist.

What is sad to contemplate, however, is not only was banning short sales insufficient to keep the Pakistani market from continuing its long-term slide, but also one can argue that the short-selling Islamofascists—if there are any—may have actually surpassed their goal of weakening Pakistan's financial system by getting the country's own government to undermine the very principles of unrestricted trading and unhindered price discovery that system is built upon. It is beyond depressing to imagine that our market regulators may have handed financial terrorists a similar victory with their own boneheaded moves.

Let's hope, instead, that Cox and Sants simply went full retard. While it is scary enough to contemplate the two leading overseers of modern financial capitalism simultaneously having spontaneous frontal lobotomies, it is somehow less disturbing than thinking we have cut off our own heads to avoid the guillotine.

Roger: "I don't like the games you play, Professor."
The Professor: "War is hell, Mr. Thornhill, even when it's a cold one."
Roger: "If you fellas can't lick the Vandamms of this world, without asking girls like her to bed down with him and fly away with him and probably never come back, perhaps you ought to start learning how to lose a few cold wars!"
The Professor: "I'm afraid we're already doing that."

— North by Northwest

© 2008 The Epicurean Dealmaker. All rights reserved.

Burn Before Reading

Some days, Dear Readers, when the world is crashing down around your ears, your livelihood and net worth is going up in smoke, and your dealer is calling to say he is out of Xanax, it becomes hard to resist the impulse to push back your chair, rub your temples in dismay, and stare uncomprehendingly at the carnage playing out before your eyes.

Today is one of those days.

I have seen one or two others like it.

I remember in the halcyon days of my youth, when but a tender sprout reasonably fresh out of university, I decided to investigate this intriguing business known as "Wall Street" to see what I could find out about it. Naturally, my first impulse was to visit a friend of mine who held gainful employ within the hallowed halls of one of the mysterious practitioners of the financial arts. This ancient and hoary firm went by the since-remaindered name of The First Boston Corporation.

Since my friend worked in equity capital markets at the time, I sauntered through security one fine Monday morning up to the massive, open trading floor where hundreds of salesmen, traders, and support staff performed the various arcane rituals and sacrifices which seemed to be entailed in the institutional equity business. I had seen one or two movies and read one or two books about the industry, so I fully expected to be greeted with a wall of sound when the elevator doors opened onto the trading floor.

Instead, I was met with silence. Deathly, hushed, creepy silence.

It was Black Monday, 1987.

As he showed me around the trading floor, my friend tried to explain to me a little of what was going on and point out some of the various departments within Institutional Equities that were scattered about in different locations, but I must admit I paid more attention to the people and their behavior than his words. I could easily distinguish between the traders, who gaped at their terminals with the thousand-yard stare of shell-shocked infantry, and the salesmen, who were talking in hushed tones to clients over the phone. The latter sounded for all the world like crisis hotline personnel trying to talk a suicidal caller off a ledge. It wasn't pretty to listen to.

There was some sound on the floor, of course. The occasional ring of a phone, the occasional sob of despair (did I imagine that?), the occasional snort of disgust as the traders tried to read the tape, which was running about three hours behind the actual trading activity at that time. The only lively activity anywhere was in the pit, where in-house Nasdaq traders tried to reach their counterparts at other investment banks to execute or confirm trades. Since most of these counterparts were not answering their phones that morning, there was a lot of cursing and slamming of phone receivers to be seen there.

But probably the scariest part to me was the silent corner off the main floor where the risk arbitrageurs sat behind a Chinese Wall of soundproof glass. These few traders managed some of the largest true proprietary positions in equities at First Boston, and normally they cut themselves and their activity off from the main floor in order to prevent compliance breaches. That day, their glass door was open, and you could see the traders sitting silent and motionless at their desks, doing nothing but looking at the terminals before them. They sat straight and grim-faced, and their stillness was not the stillness of men who feel either confidence or serenity, nor was it the peacefulness of opportunity seen and realized. That little tableau frankly scared the pants off me, and I still see it clear as day more than 20 years later.

* * *

Today, the litany of woe seems to be neverending, and the causes for despair keep multiplying like rabbits.

I see as of this writing that the pathetic, naive little investors who pushed the market up this morning on the hopeful news that governments around the world were printing more money opening their pocketbooks to ...—do what exactly?—are giving up the ghost.

Goldman Sachs is back down around the lows of yesterday, where I pointed out the franchise-killing effects one can expect from that sort of stock price.

Morgan Stanley has decisively breached $17 per share as well, notwithstanding the desperate news that they might be selling themselves to fellow walking-wounded Wachovia or flogging a big stake to China Investment Corp. (By the way, who among you feels comfortable entrusting the long-term future of an important global counterparty to sovereign investors who hail from a culture where it passes as business as usual to spike baby milk with toxic melamine to hide protein deficiencies and then conceal the reason for recalling the milk for weeks because some fat ex-athlete in a spandex suit is pretending to fly up the side of a stadium to light a friggin' torch? I, for one, do not.)

Meanwhile, on the political front, we face a restive Congress and a couple of economically illiterate Presidential candidates, about whom the most charitable thing one can say is that they appear less foolish when they keep their mouths shut. Our standing President has decided to forgo his previously welcome silence and kick in his one and a half cents worth, which will no doubt frighten the market into another swoon once investors remember he remains the Decider in Chief for another four months.

On the M&A front, even the tumbleweeds are getting bored with inactivity, and any client who hasn't suffered sunstroke in the last three weeks is hunkered down in a fallout shelter behind sacks of rice and beans toting a loaded shotgun. A few of these will call me from time to time, to check whether it is safe again to come out and play, but they really don't expect me to say yes.

* * *

So where do we go from here?

I will venture out a brief distance onto an anonymous limb and make a few irresponsible predictions as to what might happen over the next several months. Let us hope I am proved wrong.

We have not seen true capitulation in the markets yet. When it comes, it will come in the form of one or more days with stocks declining closer to 10% a day than 5.

Volatility is going to the moon, with the result that a lot of short sellers are going to get slaughtered, too. There will be no safe haven in this storm.

Morgan Stanley: gone. Goldman Sachs: gone, or mortally wounded.

Timothy Geitner of the New York Fed: Interim Dictator of the United States, or dead in a ditch from a terrorist bomb thrown by someone who has finally figured out who actually runs this country.

Dick Fuld, John Thain, John Mack, and Hank Greenberg: strung up in Times Square with piano wire by rampaging mobs of disgruntled shareholders.

Having fun yet?

* * *

Normally, I am a firm believer in the maxim that it is unwise to yell "Fire!" in a crowded theater. Nevertheless, when the stage and proscenium are on fire, the orchestra is embroiled in a knife fight with the stagehands, and four of the six exits are blocked, I feel that prudence compels me to issue a measured warning to my fellow members of the audience:

FIRE!!!

© 2008 The Epicurean Dealmaker. All rights reserved.

Remain Calm ...

Further to my extended woolgathering post yesterday on the potential future of the investment banking industry in general and the only two large remaining independent i-banks in particular, I would be remiss if I did not call your attention to the stock price performance of Morgan Stanley and Goldman Sachs today.

As of this writing, GS stock is trading down approximately 25% on the day, near $100 per share, and MS is sucking moose titty to the tune of minus 35%, around $18 per share.

This is important, Dear and Beloved Readers, because over the past five years Goldman Sachs' stock price has ranged from a high of $248 per share to a low of $84, with an average over the period of $146.78. The comparable figures for Morgan Stanley are $74, $18 (today), and $50.48, respectively. Given that investment bankers are usually paid a substantial portion of their mouthwatering annual bonuses in the form of restricted stock, options, SARs, and other stock-related funny money which typically vest in stages over a period of three to five years, this means that GS and MS bankers are looking at the evaporation of somewhere in the neighborhood of one- to two-thirds of their nominal deferred compensation from the last five, highly lucrative years.

I don't care how much cash you have in the bank, that'll leave a mark.

Furthermore, the percentage of funny money in your paycheck usually increases quite substantially the higher up in the organization you go and the more successful you become. Top-earning bankers can get stuffed with 60%, 70%, or sometimes even more company toilet paper in place of officially approved government tender. Therefore, you can just imagine the senior executives and big swinging dicks at these two shops probably feel like they have just undergone (another) bris today without anesthesia. Most of these will also realize later this afternoon as they pack up to go home that they're going to get another kick in the balls from their adoring spouses when they share the news that little Missy can't have a $500,000 Sweet Sixteen party at the Rainbow Room this year, after all.

So while it is probably too early to say that the majority of senior bankers at GS and MS are irretrievably disgruntled with their situation, it is far from clear that they are or will remain sufficiently gruntled for any length of time.

Further to my aforementioned thesifying, I would speculate that today's events—unless they are reversed quickly and handily in the very near future—will only accelerate the hemorrhaging of experienced investment bankers from these two remaining bastions of integrated capital markets and advisory services. Whether these bankers drop out completely and toddle off to St. Barts to squander their (diminished) accumulated wealth on hookers and blow or elect to sign up with the roving packs of predators known as advisory boutiques will depend, in large part, on how large a hole has been blown in their personal balance sheets. (Also how expensive and painful Sweetie-pie can make the potential alternative of divorce.)

Of course, there always is a more socially responsible alternative:

"Christ. Seven years of college down the drain. Might as well join the fucking Peace Corps."

— Future Senator John Blutarsky

I would vote for that.

© 2008 The Epicurean Dealmaker. All rights reserved.