Performance Tension

"Tension is who you think you should be.  Relaxation is who you are." 
~Chinese Proverb
A considerable amount of predictable tension was revealed in yesterday's global market trading. With the US Dollar up +1.5% on the day, the interconnectedness of global asset flows was revealed. Dollar up = lots of stuff that's priced in Dollars down.
After one US market down day from the YTD high, should we all freak out and run for the exits? Some tried. But managing money hysterically on the first day of the week (after global markets hit fresh 2009 highs last week) isn't going to get you paid. Price action was obviously negative across global currency, commodity, and equity markets, but it came on extremely light volume and nothing other than the noises people make when they don't understand macro correlation.
Relaxation is what you can thank your Asset Allocation to cash for. Tension is what you get when you're choking on a "fully invested" mandate AT THE YTD high for the SP500. Did I have a down day in the Asset Allocation Model Portfolio yesterday? Sure. When the market's breadth is 16% advancers to 82% decliners and you don't have shorts, you're not going to have an up day! That's what Asset Allocation is - it's not a hedge fund.
Post registering those YTD highs, hedge funds have been snagging a lot of headlines as of late. People in this business love to talk about performance, especially when it's good - and they should. This is a game where we keep real-time score. But don't forget that in the last 18 months that many a hedge fund manager has proven to be nothing but a glorified levered long investor.
Inclusive of yesterday's "oh my God - the market is going to crash again" calls to arms by the manic media, for the quarter to-date (Q209') the Dow is +13.2%, SP500 +15.8%, Nasdaq +18.8%, and Russell 2000 is +21.1%. Even a clanging monkey like me can make money on the long side in this environment!
So if you're having a great quarter - congratulations. Riding the REFLATION trade has been nothing short of bliss. I get that, and I fully support the message. What I don't get is the perpetual tension associated with anything that goes red. Just relax, and buy them when they are down. The next narrative of a "Great Depression" will be reserved for those who haven't come to grips with The New Reality: Buy red, sell green, and remember that calling for crashes AFTER they occur doesn't work.
Until the crescendo of consensus crushes it's R-Square, the most dominant global macro factor across asset classes will remain the US Dollar Index. Keep it dialed up on your screen - maybe play some classical music as it gyrates. It's one quote. It's easy to see. It's your massage table. Take deep breaths...
The US Dollar Index is trading down -0.79% this morning, and global equity, commodity, and currency markets are stabilizing again as a result. Asia's overnight equity market selloff came before we saw this morning's US Dollar weakness. Europeans woke up to the predictable, which was Russian rhetoric going back to beating the drums with their "colleagues" (the Chinese) and comrades about a new world currency reserve.
Putin Power broker, Dmitry Medvedev, took the conch to kick off the BRIC (Brazil, China, Russia, India) Summit in Russia this morning. What his finance minister (Kudrin) rattled people's cages with yesterday was a one-day, immediate term, TRADE. The Research Edge, intermediate term, TREND is the one that matters. The US Dollar remains broken across durations and it will remain the target of what we have been calling Replacement Rhetoric, for months and quarters to come.
The US Dollar's Credibility Crisis is what we get for paying off American Bankers, Politicians, and Debtors via the REFLATION trade. The world gets it, and with every tick on your screens on Dollar up days, most of the "I don't do macro" guys get it too. Don't stress about it. Just deal with it. "Tension", when it comes to "who you think you should be" isn't productive. Until the US Federal Reserve and Treasury systems lose their political polarization, the US Financial System will be as credible as the bed that said leaders of this system have made it to be.
My immediate term downside support for the SP500 is now 917. If that line were to break alongside a US Dollar Index breaking out to the upside above $81.89, I'll start making some sales. Otherwise, I'm going to stick with what's been working for the last 6 months, and get "longer of" REFLATION  on market weakness as the US Dollar rallies to lower-highs.
Best of luck out there today,


SPY - SPDR S&P 500 - The S&P500 corrected on 6/15 from the YTD high on low volume.  The S&P 500 is positive from both a TREND and TRADE duration. This is a market that has a very predictable range, one we'll trade with a bullish bias.

QQQQ - PowerShares NASDAQ 100 - We bought Qs on 6/10 as a better way to be long the US market than the SP500. The index includes companies with better balance sheets that don't need as much financial leverage.

FXA -CurrencyShares Australian Dollar Trust-Thanks to recovering Chinese demand for commodities, the sure handed management of RBA Governor Glenn Stevens and comparatively modest consumer debt levels -Australia's GDP continued to expand in Q1 while other industrialized economies saw double digit declines.  As with Canada, we like the Australian economy as an offset to the toxic US balance sheet. 

XLV - SPDR Healthcare -Healthcare looks positive from a TREND duration and moved to negative territory for a TRADE. We bought XLV on 6/08 to get long the safety trade. 
EWC - iShares Canada - We want to own what THE client (China) needs, namely commodities, as China builds out its infrastructure. Canada will benefit from commodity reflation, especially as the USD breaks down. We're net positive Harper's leadership, which diverges from Canada's large government recent history, and believe next year's Olympics in resourcerich British Columbia should provide a positive catalyst for investors to get long the country.   

XLE - SPDR Energy - We bought Energy on 6/05. We think it works higher if the Buck breaks down.  Bullish TRADE and TREND remain. 

CAF - Morgan Stanley China Fund - A closed-end fund providing exposure to the Shanghai A share market, we use CAF tactically to ride the wave of returning confidence among domestic Chinese investors fed by the stimulus package.  To date the Chinese have shown leadership and a proactive response to the global recession, and now their number one priority is to offset contracting external demand with domestic growth. 

TIP- iShares TIPS -The iShares etf, TIP, which is 90% invested in the inflation protected sector of the US Treasury Market currently offers a compelling yield on TTM basis of 5.89%. We believe that future inflation expectations are currently mispriced and that TIPS are a compelling way to own yield on an inflation protected basis, especially in the context of our re-flation thesis.

GLD - SPDR GOLD -We bought more gold on 5/5. The inflation protection is what we're long here looking ahead 6-9 months. In the intermediate term, we like the safety trade too. 


SHY- iShares 1-3 Year Treasury Bonds - If you pull up a three year chart of 2-Year Treasuries you'll see the massive macro Trend of interest rates starting to move in the opposite direction. We call this chart the "Queen Mary" and its new-found positive slope means that America's cost of capital will start to go up, implying that access to capital will tighten. Yields are going to continue to make higher-highs and higher lows until consensus gets realistic. 

UUP - U.S. Dollar Index - We believe that the US Dollar is the leading indicator for the US stock market. In the immediate term, what is bad for the US Dollar should be good for the stock market. Longer term, the burgeoning U.S. government debt balance will be negative for the greenback. 
EWW - iShares Mexico - We're short Mexico due in part to the repercussions of the media's manic Swine flu fear.  The country's dependence on export revenues is decidedly bearish due to volatility of crude prices and when considering that the country's main oil producer, PEMEX, has substantial debt to pay down and its production capacity has declined since 2004. Additionally, the potential geo-political risks associated with the burgeoning power of regional drug lords signals that the country's economy is under serious duress.



Mainland police have smashed an online gambling racket in Hubei, China.  Police believe that 50bn yuan was wagered on soccer matches, horse races, and other events nationwide through the operation.  The racket allowed people to gamble without having to travel to the casinos in Macau and elsewhere outside the mainland.  Online gambling is proving to be a difficult problem for the authorities.  Xinhua reported that gambling websites in Taiwan, Macau, Myanmar, the Philippines, Singapore, and Malaysia had all made money from mainland gamblers.



The Zaia show in Macau tonight is part of a global celebration of Cirque du Soleil.  The acrobatic group has been entertaining for 25 years.  The Venetian Macau, where the group performs, will be hoping that the occasion this evening will help to boost visitors.



Talk of Wynn Resorts listing their Macau business on the Hang Seng has resurfaced, almost a year from the initial speculation in July 2008.  Given current market conditions, compared to last year, it would seem more likely to happen at this stage.  While the sustainability of the current upturn in the market is yet to be seen, it is clear that Wynn stands to gain significant funds via share sales.  This is far from a sure bet, but could have serious implications should it go through.

Bush v. Gore . . . Iranian Style

The key geopolitical event over the last few days was, of course, the Iranian "election".  We had a number of astute clients ask for our take on the election late Friday.  Over the weekend we reached out to many of our Middle Eastern contacts, and the answer is nuanced at best.  There are two general interpretations.  The first is that this is a step forward for democracy and pro-Western sentiment in that the anti-establishment voices in Iran have spoken, and even if they have not been heard, the Ahmadinejad administration will have to heed them.  The second interpretation is more dire and suggests that Ahmadinejad has consolidated power and now has the mandate to more aggressively pursue his anti-Western policies, which could include the aggressive pursuit of nuclear weapons.

With 2/3's of the vote counted, the Islamic Republic News Agency reported that current Iranian President, Mahmoud Ahmadinejad, is purported to have earned 66% of the popular vote in the Iranian national election, while the runner up, Mir-Hossein Mousavi, received 33% of the popular vote.  Ahmadinejad represents the conservative movement in Iran, while Mousavi, a former Prime Minister, represents the reform movement.  The reform movement galvanized around Mousavi, particularly the youthful and democratic supporting component, in the days leading to the election.   Mousavi's base is made up of wealthy, urban and more educated Iranians, and he has promoted a free market economic approach with tight fiscal policy and privatization of industry.   Ahmadinejad, on the other hand, has a base that is comprised primarily of the rural poor and government employees (policeman, teachers, etc) with the objective of fighting poverty, a key part of his campaign platform (~25% of Iranian citizens live below the poverty line).

Immediately following the announced results, Mousavi issued a statement implying that the voting was rigged and that he would not, "Surrender to this charade."  We have a limited ability to determine how, or if, the results were fraudulent.  In the United States, and most western democracies, allegations of fraud tend to be localized in nature, such as Florida in 2000 and Ohio in 2004.  National allegations of fraud are typically more difficult to perpetrate because polls leading to the election, in aggregate, are typically a good leading indicator of sentiment and how the election will play out.  In countries such as Iran, polling is more of a political tool, and far from systematic.  In the roughly 15 polls in the two months prior to the election, Ahmadinejad was expected to win anywhere between 24 - 63% of the popular vote (ironically, he "won" more than any poll expected him to win), which is a spread so large that it suggests the polling is largely inaccurate.

Nate Silver, the well known poll analyzer from, had the following comment about fraud as it relates to the Iranian election:

"Although widespread allegations of fraud, manipulation, intimidation and other all too common elections tactics have been common, statistically detecting fraud or manipulation is a challenge. For example, while mathematicians have been evaluating vote returns for irregularities in normal situational random number distribution, determining what the "correct" results should be is very difficult.

However, given the absolutely bizarre figures that have been given for several provinces, given qualitative knowledge - for example, that Mahdi Karroubi earned almost negligible vote totals in his native Lorestan and neighboring Khuzestan, which he won in 2005 with 55.5% and 36.7% respectively - there is room for a much closer look." 

In effect, proving fraud is virtually impossible without knowing the accuracy of the data.  That said, there are major irregularities versus the 2005 election. The call out above relating to Lorestan would be comparable to George W. Bush getting no votes in Texas in 2004.  Given that Texas is his home state and he carried Texas by a wide margin in 2000, this is  virtually impossible.

Earlier today, Supreme Leader Ayatollah Ali Khamenei announced there would be an investigation into vote rigging claims.  This, of course, followed Sunday's announcement by Khamenei in which he urged the nation to support Ahmadinejad and characterized his election as a "divine assessment."  Ultimately, Khamenei rules Iran legally as dictated in the constitution of Iran.  The Supreme Leader appoints a Guardian Council, which is responsible for approving candidates for any election.  While the Supreme Leader may feign an investigation into vote rigging to appease protesters, the fact remains, he has ultimate spiritual and legal power in Iran and as such will determine who becomes President and what, if any, influence that President may have.  As Genieve Abdo wrote in the Christian Science Monitor this weekend:

"In his victory speech this past weekend, Ahmadinejad said his reelection marked a new future for Iran. But, in fact, by clarifying the supreme leader's power, it signals a future that looks much like Iran's darkest past."

While the popular upheaval in Iran is encouraging, we find it difficult to believe, as Abdo writes above, that much if anything will change in the Islamic Republic of Iran post this election.


Daryl G. Jones
Managing Director

Daily Trading Ranges

20 Proprietary Risk Ranges

Daily Trading Ranges is designed to help you understand where you’re buying and selling within the risk range and help you make better sales at the top end of the range and purchases at the low end.



We are being reminded today that home builders remain cautious and concerned about prospects for the housing market.  The NAHB Housing Market Index (HMI) declined one point to 15 in June.  According to Bloomberg the median forecast was a reading of 17.  This is the second time in as many trading days that a reading on consumer behavior was less than expected.  Last Friday, consumer sentiment continued to improve in the month of June, although the University of Michigan index rose by less than expected. 

The NAHB index gauges builder perceptions of current single-family home sales and sales expectations for the next six months as "good," "fair" or "poor." Although the outlook for home sales has improved somewhat in recent months, home builders are facing a few headwinds, including: the expiration of the tax credit at the end of November, an upturn in interest rates, and especially the bottleneck in the loan approval process.

Tomorrow we will get another gauge on housing when the Commerce Department releases housing starts.  The median forecast is for 485,000 versus the prior reading of 458,000.  Given the supply of unsold homes and the number of homes in foreclosure, and now the sequential decline in the HMI, why are housing starts going to improve sequentially?  In fact we could be reading tomorrow that builders broke ground on the fewest homes on record in May!  

Howard W. Penney

Managing Director



Chart Of The Week: Chinese Bulls?


Position: Long China via the CAF (closed end fund)

 We're fairly certain that being bullish on China is no longer a unique concept. The question now is can consensus continue to be right?

Taking a step back, in December of last year one of our Top 3 Macro Themes for Q109' was "Chindia does not exist." While Indian industrial production growth has finally turned positive in recent months (see chart), The New Reality remains - China's absolute year-over-year industrial production growth continues to both beat expectations and outperform their Indian counterparts.

Today, as we start to coagulate our thoughts on Q3 Macro Themes, we are posed with a very different question than that which we asked ourselves 6 months ago. Calling China from here is no longer about the delta of growth improving and outrunning the rest of the world. Calling China from here is more about ascertaining whether or not they can keep this momentum going.

Last week's Chinese economic data provided the latest facts, and they support an answer of yes for the Chinese bull case. If half of being right on global demand recovering in 2009 was about Chinese demand re-accelerating, the other half was about REFLATION. At a price level, we are mindful that the latter will ultimately have a negative impact on the former.

May's China data showed a continued acceleration in growth (see chart, Chinese industrial production growth shot up to +9% y/y) alongside further deflation in Chinese Consumer Prices (CPI was -1.4% y/y). This is as near perfect an economic cocktail as you can get. But perfect is as perfect does, and we need to stay on top of REFLATION's impact on both potential Chinese inflation creep, and slowing growth.

For now, we remain bullish on China.


Keith R. McCullough
Chief Executive Officer


Chart Of The Week: Chinese Bulls? - china23

Where There’s Smoke… Notes for the Week Ending Friday, June 12, 2009


The Power Of The Dark Side

If you only knew the power of the Dark Side.

- Darth Vader


The Efficient Market Hypothesis rests on the notion that all information is fully priced into the marketplace at all times.  Like the human brain, the market does not need to be consciously aware of the information for this process to have its effect.  This means there is no advantage to having inside information, or to running the billions of dollars worth of software and algorithms on which the world of finance revolves.


Not everyone agrees with this theory, and securities laws take a conservative approach to this academic debate and strictly prohibit trading on the basis of information not fully disseminated throughout the marketplace.


Except when they don't.


This week the Nasdaq marketplace implemented new "Flash" orders, with the SEC's approval.  This was met by an immediate challenge from NYSE Euronext, pressing for legislation to impose exchange-type oversight on private order matching networks, or "Dark Pools" (, 10 June, NYSE Euronext Asks Congress To Press The SEC On Dark Pools").


There are two kinds of flash orders.  Routable Flash orders will be opaquely (read: "secretly") matched against the Nasdaq order book for half a second, then routed over Nasdaq's proprietary ITCH feed.  The second type of order, the INET-Only Flash Order, appears to Instinet subscribers for half a second, with any unmatched portion of the orders being canceled back to its origin.  The average investor might be forgiven for thinking this a tempest in an exceedingly small teapot.


Far from it.  Orders executed in the marketplace in fractions of a second are increasingly the norm, and technology keeps up a frantic pace in an effort to continue to shorten the time of trade executions.


Algorithm-driven "high-frequency" traders run programs that route orders into the market, sometimes thousands of times a minute.  Taking advantage of pricing inconsistencies, these statistical arbitrage programs buy stocks that their model identifies as underpriced, and sell them when they are overpriced.


Even highly liquid issues can become starkly illiquid in this fast-moving world.  As more players, managing more billions of dollars, engage in the same trades - and with the inside market based on only a hundred shares on either side of the quote - it is not uncommon for a stat arb program to identify a stock as underpriced and, by its own automatically generated buy orders, drive the price up to the point where it triggers a sell signal.


It is a violation of market rules to enter transactions into the marketplace which create market action, but with no beneficial change of ownership.  This goes back to the days when stock manipulators would create a false impression of interest in a stock by placing simultaneous buy and sell orders at different brokers.  Trading volume in the stock surged noticeably.  Meanwhile, the manipulator bore no price risk, as his orders would meet at the inside price, and the only cost was the commissions paid.


And hedge fund operators used to enter matched market-on-open buy and sell orders to reward brokers who had secured allocations on profitable IPOs, paying out commissions with no market exposure. 


In the new electronic world, a program may buy back its own trades as the algorithm identifies the stock as underpriced, then triggers fail-safe sell orders to prevent a loss from widening.  Sometimes program glitches cause this process to run in a ceaseless loop and among the tens of thousands of trades sent through in a day, it can be difficult to identify.


The exchanges have surveillance programs to identify and review these instances.  Because of the functional lack of liquidity in many trades, transactions of 100 or 200 shares often lie at the heart of these inquiries.  Regardless of the small trades at issue, failure on the part of a firm to have in place a compliance system "reasonably designed to detect and prevent" self-trading is grounds for regulatory action - fines, and perhaps censure if it is deemed a repeat violation.


One way to avoid these cross trades is to arrange with other market participants to meet in private to arrange trades.  My algorithm says BUY, yours says SELL - let's make a deal.  The new Flash Orders may become the secret meeting place of choice for high-frequency executions.


Meantime, the attraction of the established dark pools is the ability to execute large blocks without displaying orders in the marketplace.  This cloaks the orders from stat arb traders whose "pinging" and "probing" algorithms identify large blocks and trade alongside them, "picking off" the larger and less liquid orders.  Nimble-footed traders can short 600 shares in a fraction of the time it takes to sell a block of 400,000 shares.  While these operators capture pennies by trading in front of the larger order, the rush of small sell orders disadvantages the market for the block, resulting in slower execution, worse pricing, and occasional inability to complete an order.


As the name "dark pool" indicates, this process is not intended to be transparent.  The regulatory logic of the tradeoff is that cloaking these orders protects legitimate large market participants - mutual funds, pension managers and other entities managing large pools of investor capital - against predatory interference by professionals and speculators, ultimately benefitting the small investors whose interests the mutual and pension fund managers represent.  Think of the large merchantmen of yore, and the swift-moving corsairs that harried them on the high seas.  Wouldn't you want your ship to travel in a cloud of invisibility?


The NYSE has had its feathers ruffled by competitors for some time.  Private firms also operate dark pools.  Large brokerage firms trade for their own book and execute for customers alongside.  Most of these operate continuous pools, giving them a perceived edge over the fixed hourly matching sessions at the NYSE. 


Firms route customer orders to their own internal dark pool, while sending proprietary orders out to other firm's pools.  Unmatched portions of a customer order are routinely sent, not to the exchanges or Nasdaq, but to other dark pools where the balance of the order will be matched and not displayed.


When a firm accepts an order from another firm's dark pool, it has no way of determining whether it is actually taking back the unexecuted portion of its own order.  The practical outcome is that firms can never determine whether they are executing against their own orders, or for an arm's length customer.


How often does this happen?  There is currently no way to determine, and firms do not want to know - because if they did, they would have to report trade violations.


The NYSE appears to understand this.  One takeaway from the debate is that Flash orders are a next step in creating a multi-tiered market in which participants look down from the top to all underlying liquidity, but investors at the bottom have a very low visibility ceiling.


It should surprise no one that there is also a compelling commercial aspect to this dispute, as all these trading facilities compete with the NYSE's MatchPoint matching sessions, advertised by the NYSE as "the best environment for finding natural opaque block liquidity. Complete control of order information and execution remains in the hands of users."


The concept behind market transparency is exactly the opposite: failure to make full information available about every order unfairly disadvantages certain participants and encourages manipulation.  One of the political realities is that, with so much private money being handled through large mutual funds and pension funds, it becomes a question of trade-offs to the investor.  Which is worse: loss of transparency on individual trades, or being forced to show too much on large blocks where the individual's pension money or mutual fund investment is compromised?


Wherever you stand on this, the NYSE is not taking this lying down.  NYSE Euronext EVP Thomas F. Callahan, testifying before the House Financial Services Capital markets Subcommittee, said "Through these so-called dark pools, alternative trading systems operators have been allowed to create private markets for securities transactions."


A "private market" that exists for half a second at a time.  How big a problem might this pose?


There appears to be no control on the number of times the same order can be sent into the flash facility, and as the unmatched part is automatically canceled, orders will never be required to be sent to the open market until they are actually reported post-execution.  Those of us who remember SOES are invited to speculate on what new forms of manipulation will arise here.  Sellers - "customers", which was the way the SOES bandits flew beneath the radar - will be able to send out the same order until it is filled, without ever showing the broad market what they are doing.  Large numbers of sellers can gang up on a stock, and we predict that someone will come up with a non-traceable way to be on both sides of a trade simultaneously.


In its rush to embrace every new wave of technology, and to promote the business of the marketplace, the SEC also must come up with new working definitions of Frontrunning and Inside Information.


"We ask the subcommittee to encourage the SEC to revisit its regulatory regime for alternative trading systems and assure that ATS are held to the same standards as organized exchanges," said NYSE Euronext's Callahan.


We suggest the SEC start by figuring out what the standards of today's marketplace are.  On the hop.




Coming To AmeriKa

In the fight between you and the world, back the world.

- Franz Kafka


The Wall Street Journal (9 June, "Buddhist Monk Faces Worldly Green-Card Matters") recounts the tribulations of Phra Bunphithak Jomthong, a Buddhist monk who has been living in Southern California for four years, serving a community of émigrés from his native Thailand.  In keeping with his vow of poverty, the 47-year-old Mr. Jomthong sleeps on the floor in the temple in Pomona where he leads daily rituals, runs a 24/7 family services emergency hotline, and teaches Thai language to the children of immigrant families.  He is fed by donations from members of the community and owns nothing except his begging bowl, his robes and the blanket in which he wraps himself to sleep each night.


Mr. Jomthong entered this country under an R-1 visa, a designation created to permit religious organizations to import persons qualified to perform certain religious duties on a temporary basis.  Mr. Jomthong became popular at the temple where he serves, and they requested an extension of his visa.  The extension was duly granted by the Immigration authorities - but with a retroactive expiration date, which meant it had lapsed before it was even granted.  Mr. Jomthong, who has applied for a green card, now faces deportation because, says Immigration, he "engaged in unauthorized employment" during the period in which his visa was no longer valid.


Or, perhaps to put it more succinctly, the immigration court asserts that Mr. Jomthong performed services for compensation during the period in which he would subsequently discover his belatedly-awarded renewed visa had been retroactively effectuated, with a prospectively accelerated term of expiry. 


In other words: he followed the rules, as they were explained to him by Immigration, and now he is facing deportation. 


In other other words, says a former immigration official, "we are dealing with a system in which it can be extremely difficult to play by the rules."


What was Mr. Jomthong's "employment", in violation of the terms of his R-1 visa?  Referring to his acceptance of alms, the immigration court said he had been "remunerated... albeit on a modest, non-salaried basis..." 


What policy purpose is served by expelling Mr. Jomthong from the US?  Even we are not so cynical as to suggest that the government fears he may be a sleeper cell for some as-yet unheard-of terror organization. 


Perhaps the Feds fear this is a clever ruse to bring foreign talent in under the radar.  A Buddhist monk enters the US on a religious visa, without disclosing that he also has a PhD in computer science.  Once he gets his green card, he throws off his saffron robes and goes to work for a Silicon Valley start-up where he will create several hundred new jobs.  Or maybe he will move to Greenwich and run a hedge fund...


No, this is a backlash against the offshoring of American jobs.  American citizens should come first - both as workers and as mendicants.  We applaud the court's taking a stand to protect American beggars.  There are those who claim that foreign beggars do not interfere with American beggars, because they accept pittances that any self-respecting American panhandler would spurn.  We say that Americans who toss their quarters in a blind man's cup are entitled to know that those donations are going to support American indigents. 


The insinuation of foreign beggars into the ranks of the indigent is a threat to our society.  Now, Americans will unknowingly toss their nickels, dimes, and unwanted tuna sandwiches to smiling silent beggars who will go home and feed their children while speaking to them in languages like Thai, Hmong and Bengali.


This will undermine the hard-won stability of this nation, a nation that has grown great on the hard work and sacrifice of generations of citizens who grew up speaking German, Greek, Italian, Hawaiian, Yiddish, Tagalog, Polish, Cantonese, Spanish, Japanese, Slovenian, Vietnamese...


Too Many Chiefs

When everyone is somebody, then no one's anybody.

- W.S. Gilbert, "The Gondoliers"


The most sobering expanse of newsprint we have surveyed in some time was proffered this week by the Financial Times (12 June).  Headed "Regulatory Battlefield", the page offers five separate articles analyzing aspects of US domestic and international securities markets regulation, plus a detailed diagram titled "US Financial System: Caught In A Regulatory Web".


Significant moves that we believe will be implemented include Secretary Geithner's "council of regulators", and the creation of a new office to oversee systemic risk.  The council of regulators, though the child of a purely political process, may prevent a disaster, as it will set aside the proposed merger of the SEC and CFTC.  If the current administration accomplishes nothing more than this, it will have been a worthwhile effort.


We wonder whether this will end up as the sole achievement of the Obama-Geithner program.  The FT article quotes Senator Richard Shelby as saying "There are powerful forces at work that want to preserve the existing system."  We find nothing surprising in that statement - a statement said by a politician, about politicians.


Speaking before the Council on Foreign Relations, Larry Summers raised five salient points of this Administration's approach to redrawing the map of regulation.  We believe the most significant is Eliminating Regulatory Arbitrage.

"Can it surprise anyone," said Summers, "that if institutions choose their regulators and regulators compete for jurisdiction, that standards fall and that there's a race to the bottom?  Instead of sponsoring races to the bottom, we need to drive competition to the top by insisting on strong standards."


We foresee an extremely noisy battle, a political Armageddon in which the forces of Total Regulation clash with the forces of Laissez Faire.  While there is a highly popular move afoot for draconian measures, we recognize the immense power of inertia.  The word "populist" has inexplicably vanished from the media, as the principle of Reversion To mean asserts itself.  Sooner or later, assaults on the Status Quo spend their fury.  In a world where practical dreamers seek to bring about fundamental change, the end result is usually most visible at the upper branches, least felt at the root.


The furor over hedge funds, for example, has already resulted in a tightening of custody and audit rules - all practices which were dismally lax, and where firms that followed Best Practices often did so pursuant to a consent decree.  Hedge funds will be required to register - but the US is the only country where this type of entity does not have to register - and some small measure of enhanced market transparency will be introduced. 


These measures are becoming more common now anyway, because the customer - from the largest state pension fund, to Mom and Pop retail brokerage account holders - are demanding them. 


Hedge funds will probably be required to make notice filings - which are reports to state regulators announcing that the fund is now doing business in their state.  This looks like a purely ministerial exercise, but may attain Summers' desired effect of blocking regulatory arbitrage by getting state securities regulators and AGs involved.


Banks and investment banks, meanwhile, are being coddled and sent off with a pat on the back.  The TARP money is being repaid, which means even Vikram Pandit will likely get his bonus this year.


At the end of the day, only two factors can truly revolutionize our securities markets.  One is investor education - which will not happen.  (Let's face it: the biggest financial disaster in modern times is already fading from memory, giving way to stories about "recovery" and "upturn" and "when will it be time to get back in?"  Shades of irrational exuberance...)


This leaves us to rely on the other curative, the appointment of strong regulators who make clear decisions and force implementation.  Thus, the most heartening of the FT stories is "Bair Lobbies For Stronger Position." 


Sheila Bair, in what has widely been seen as a highly principled, and highly effective tenure as head of the FDIC, has arrived at her Moment.  In fact, we fear it is Make or Break, as she seems to be making the fatal political mistake of playing to her actual constituency, rather than to the twin entrenched interests of Washington and Wall Street.


We have not forgotten Mr. Geithner's very public criticism of Ms. Bair as "not a team player" when, in the Paulson Panic, she refused to turn her Agency's balance sheet over to Citibank.  She has apparently not forgotten either.  Her latest public statements have been to push for Citi CEO Pandit to be removed and replaced with an executive who has actual banking experience.  This has renewed questions about her political viability.  Apparently, just as in the previous administration, there is only room for one Decider, and Mr. Geithner has already arrogated that to himself.  We wonder whether his boss realizes this.


Large and complex organizations - and a glance at the diagram of the US regulatory structure should convince any skeptic - are political battlegrounds first and foremost, and necessary programs fall victim to special interests on the outside.  The only sure-fire way to keep these organizations on message is to place powerful individuals in key decision-making positions. 


Bair is, as far as we know, the only regulator in charge of a federal agency who actually gets her hands dirty when things get ugly.  Her agency confronts massive financial failures - failures that wreck communities, shutter industries, and ruin people's lives - and Bair has waded in to join the battle on more than one occasion.  Bair's public image is that of a person more concerned with doing her job than with keeping her job.


She gets our vote.  Let's hope she continues to get the vote of the Decider In Chief.  




Friends Like These

In all my years in the business I have never seen a more toxic product.

- Angelo Mozillo


Fannie, Freddie, Bear Stearns, Merrill

AIG, Fair Value Accounting

Mortgage Cramdowns, Friends of Angelo

GM, Chrysler, UAW

Vikram Pandit, Goldman, Morgan

GMAC, JP Morgan

Chris Cox, Chris Dodd, Henry Waxman

Donna Shalala, Conrad, Jackson

Daschle, Richardson, Killefer, Geithner,

Barney Frank, Chuck Schumer, Paulson

Dick Fuld, Ken Lewis, John Thain, Jimmy Cayne


We didn't start the fire...

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