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COMPLIANCE: Dodd, Where's My Car? - Car covered in Snow


 
Never forget that Wall Street makes its money by getting its hands on yours.  Whether they pride themselves on their banking, their trading, or their research, marketing is the Sweet Spot in nearly every successful investment bank.  If they make enough people believe something is worth having, its price will rise.  If you didn’t make money on it, you have only yourself to blame.
 
When Goldman Sachs or George Soros says Buy Gold, it’s a lot different than when your Uncle Sidney winks at you over the remains of the Thanksgiving turkey and whispers “Precious metals!  Shhh!!!”  It is a given on Wall Street that by the time a major brokerage firm announces on the front page of the Journal that they are bullish on a sector, their own trading desk has already unloaded most of the house position to their “first call clients,” who they now have to get out of the position gracefully.  Which is where you come in.
 
Even the “smart money” tells the press what they’re buying, because the biggest hedge fund managers have the same problem we have with our measly little IRAs: if no one will trade with us, we can’t get out of our positions.
 
If a short-selling fund manager mentions in an interview that “XYZ Corp’s financials aren’t credible,” it could trigger a Congressional investigation.  This raises the issue of why regulators and legislators never complaint when money managers appear in the media and describe in loving detail what they are buying.  We leave it to greater analytical minds than ours – or more cynically twisted ones – to work out the correlation between, for example, the coincidental media reports in late July that both Soros and Paulson were buying gold, and the almost immediate spike in the price of GLD, the gold ETF.  Market participants are well aware that a major brokerage recommendation can move a stock.  Which begs the question: did Soros and Paulson call the bottom, or did they create it?
 
When hedge fund Jedi Master Stan Druckenmiller pulled the plug on Duquesne Asset Management last week, he said it’s a burden to have too much money under management.  This is why many hedge funds run what are called “silos,” large amounts of investor money centrally controlled, and parceled out by the management company’s senior partners to an array of management groups, each of whom runs an independent trading book.  In a siloed operation there is also a central trading function, a “house book,” run by traders who trade against positions taken by the individual portfolio managers, balancing positions to protect the investors’ money.
 
We think it odd that the same entity gets to be on both sides of a trade.  In the brokerage business, this is known as stock manipulation.  In the hedge fund world, it’s called “risk management.”
 
The siloed groups are required to be segregated from one another, and any hedge fund compliance officer will gladly show you the firm’s Chinese Wall policies.  But on the trading floor, managers sometimes talk to one another, which occasionally leads to odd coincidences, such as two managers starting to build a position in the same company.  Or one manager is able to get out of a large illiquid position when another manager mysteriously decides he needs to own the same security.
 
In the Bizzarro world of Political Correctness, Wall Street has largely phased out the expression “Chinese Wall,” and now refers to “Information Barriers,” as though there were something nasty and racial-profiley about referring to this Wonder of the World by its own name.
 
It is a wall.  And the Chinese built it, and they have been around ever since.  Rumor has it their economy is breathing down America’s neck.  And one must agree that they were right to fear what would happen when foreigners entered their land.  Thus, we are not sure which word is considered insulting: “Wall,” or “Chinese.”
 
As they say in China, the art of managing money is the art of having money to manage.  Other people’s money, that is.  China has America’s money to manage, in the form of a whopping bundle of Treasury debt.  Thus its central bank risks being pegged as one of the world’s worst-performing hedge funds.  Silo this!
 
So who’s in the driver’s seat here?
 
Wall Street has our money to manage, and for all brouhaha surrounding Dodd-Frankenstein, Wall Street is still in charge.  New regulation will not change that.  The Financial Times ran a full-page piece (27 August, “No Longer A Doormat”) that paints the Schapiro era as a success in the making.  But one fundamental problem has not gone away.  The article quotes a leading plaintiffs’ attorney saying “government lawyers are reluctant to offend those who might turn out to be their next employer.”  The key to lasting change in the regulatory agencies will be finding a way to close the door leading from Washington at $85,000 a year, to Wall Street at $850,000.
 
Pardon our demur.  Chairman Schapiro doesn’t appear to be in the driver’s seat.  The guys with the money are still very much at the wheel.  In a noble bit of teamwork, Treasury Secretary Geithner browbeat a group of Wall Street execs in a recent appearance at the NYU Stern School of Business.  He said, “your core challenge is to restore the trust and confidence of the American people and your customers and investors around the world.”  Pardon us while we guffaw, Mr. Secretary.  The only challenge facing Wall Street is finding the loopholes in Dodd-Frankenstein and coming up with unregulated businesses that the new legislation can not be stretched to cover.  Given that money buys talent, and Wall Street has all the money, we are once again betting on black.

Moshe Silver

Chief Compliance Officer