Here’s a good Sonic Charmer post about how JPMorgan could have prevented the London Whale loss by imposing a liquidity provision on the Whale’s desk:

Liquidity provision means: ‘the more illiquid the stuff you’re trading, the more rainy-day buffer we’re going to withhold from your P&L’. And since one way a thing becomes illiquid is ‘you’re dominating the market already’, you inevitably make it nonlinear, like a progressive income tax: No (extra) liquidity provision on the first (say) 100mm you own, half a point on the next (say) 400mm, a point on the next 500mm, 2 points on the next 1000mm, etc etc. (specific #s depend on the product). Problem solved. In fact, it’s genuinely weird and dumb if they didn’t have such a thing.

The London Whale’s problem (one of them) was that he traded so much of a particular thing that he basically became the market in it. That means among other things that even if on paper “The Price” of what he owned was X there would have been no way for him to sell the position for X. A liquidity provision is a rough and dirty way of acknowledging this fact.

This suggestion isn’t a matter of GAAP accounting: JPMorgan wouldn’t report its asset values, or its revenues, net of this liquidity provision. It’s just an internal bookkeeping mechanism: his bosses informing the Whale that, for purposes of calculating his P&L and, thus, his comp, they would take the GAAP value of the things he had and subtract a semi-arbitrary number for their own protection.

It is weird and dumb that they didn’t do this although you can sort of guess why: the Whale portfolio started very small, and by the time it got big the Whale was both profitable and a (mostly imaginary) tail risk hedge, so it would have been hard for a risk manager to take a semi-punitive step to rein in his risk-taking. “Just tell the Whale to take less risk” does in hindsight seem like a sensible suggestion, but I suppose if he’d made $6 billion it wouldn’t.

Something else though. Here you can read about an exchange between the SEC and JPMorgan about the Whale newly released yesterday. Read more »

  • 15 Mar 2013 at 3:27 PM

SAC Puts Ten Days Of Insider Trading Behind It

So Mathew Martoma: pretty bad investment for SAC, no? He “was unable to generate … winning trades or outsized returns in 2009 and 2010, and did not receive a bonus in either of those years. In a 2010 email suggesting that Martoma’s employment be terminated, an [SAC] officer stated that Martoma had been a ‘one trick pony with Elan.’” Now we know what the trick was – it was insider trading! – and it looked like a good one in 2008 anyway, making SAC some money on the way up, saving it $276 million by selling out just before Elan announced negative drug trial results, and earning Martoma $9.3 million in what turned out to be his last bonus at SAC.

The trick looks less good today: Read more »

1Q2013 must be I Love The ’80s Quarter at the SEC. Two weeks ago we learned that they were pestering ’80s icon and junk-bond inventor Michael Milken for maybe providing investment advice for money after agreeing not to do that, and today they announced a settlement with “New York-based private equity firm Ranieri Partners, a former senior executive, and an unregistered broker” for letting that unregistered broker solicit investors for Ranieri’s new Selene funds. Ranieri Partners is of course Lew Ranieri, the Liar’s Poker hero, mortgage-backed-security inventor, and general man-about-the-1980s.

The situation, according to the SEC’s orders, is pretty straightforward: former Ranieri senior MD Donald Phillips enlisted his buddy, William Stephens, to fly around the country pitching potential investors on Ranieri’s Selene funds, which were busy buying up non-performing mortgages. Stephens seems to have done a good job, signing up corporate pensions, university endowments, and state retirement systems. He brought in a total of $569 million in capital commitments, for which he was paid fees of $2.4 million.

The problem was that the Selene funds were a massive Ponzi scheme. No, I’m kidding, that’s not the problem at all! Ranieri and Selene were and are on the up-and-up, Selene is still buying non-performing mortgages, and as far as I can tell doing so in 2008-2010 was a good trade and made those investors happy. The problem was actually that Stephens ran into some trouble with the SEC a decade ago over some unrelated kickback allegations, and ended up losing his license to be an investment advisor. And since then “Stephens has not been registered with the Commission in any capacity, including as a broker or dealer.”

But he went and brokered and/or dealt anyway. Read more »

The people who run stock exchanges say they’ve become too hard to run, and routinely blame the many, many errors made on too many regulations.

The regulators have a solution: more regulation. And, their earlier gripes notwithstanding, the exchanges agree. Read more »

To get a sense of how old and long-drawn-out the SEC’s insider trading lawsuit against Mark Cuban is, consider this: the company in which he allegedly insider traded was The .com was right there in the name. Future generations – hell, present generations – will indiscriminately add “.com” to the end of words to create an old-timey feel, the way we doeth with “-eth.”1

Actually it happened in 2004, and I don’t even need the “allegedly”: there’s no dispute that Cuban insider traded. Everyone agrees that:

  • was planning to sell some stock in a PIPE offering which would, inevitably, drive down its stock price;
  •’s CEO called Cuban and told him about the planned PIPE offering in advance, hoping to get Cuban to buy more stock;
  • Cuban instead sold the stock he already had, prior to the public announcement of the PIPE deal; and
  • Then the PIPE was announced and the stock dropped.

So he had material nonpublic information, and he traded on it, and he avoided losses by doing so. INSIDER TRADING. The only debate is whether he insider traded illegally, which, as I often find myself reminding people, is a separate question. The SEC’s lawsuit2 turns not on the facts above, but on whether Cuban agreed not to trade before learning the inside information. Here the evidence is less clear, but there’s enough evidence that he did for the SEC to survive summary judgment today and take the case to trial. Here is that evidence:3 Read more »

Remember, back in 2009, when Phil Falcone realized he’d forgotten to set aside enough cash to cover his taxes and came up with the idea to loan himself the money from a gated investor fund? And investors got all bent out of shape about it and the SEC did too? If the former was looking for some sort of an apology and the latter was looking for some show of groveling (in an attempt to avoid paying a fine/having a judge rule he can’t come within 200 feet of a public company), sorry, ’cause Phil’s not sorry. Read more »

I like taking cheap shots at the SEC as much as the next guy, maybe more, so when I see a headline like “The SEC is investigating Michael Milken” it’s tempting to say “oh, yeah, he supposedly did some insider trading in the mid ’80s, so it makes sense that the SEC would be getting to it now.”1 But no, turns out they got that one already; this is new (newish) news:

Milken’s settlement with the SEC for his role in the 1980s Wall Street scandals allows him to manage his own money. But he is banned from acting as an investment advisor or broker. The SEC is looking at whether Milken is violating that ban by effectively acting as a manager of Guggenheim [Partners] investments beyond his own, according to sources familiar with the investigation. The question is: Has Milken provided advice in exchange for some form of compensation? The SEC is looking at a number of transactions that Milken has done with Guggenheim. In one instance being investigated, Milken and the firm jointly invested in an energy company called Milagro, which says the infusion helped it buy the Gulf Coast operations of Petrohawk Energy for $825 million in 2007.

From this brief description it sounds like there is a genuinely interesting issue here, which is: what is advice? Also, what is compensation? So two interesting issues I guess.2 Read more »