Those Who Don't Learn from History... 11 comments
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Last week I discovered a natural cure for low blood pressure when I attended a conference for securitization and structured finance professionals. For those readers who have been in a coma for the last 15 months, it is the securitization and structured finance professionals who pimped the capital markets and destroyed the global economy. These professionals include the “guilty” and their co-conspirators who engineered all sorts of new types of “investments” that benefited no one but themselves. Their ranks include the rating agencies, investment bankers, lawyers, accountants, money managers, issuers and investors. They put our future and the future of our children in jeopardy and their only remorse seems to be that they didn’t take more for themselves when they could.
I was at the securitization conference because I was a “speaker/panelist”. I went with great anticipation because I hoped it would be different than past conferences. I am a regular speaker at securitization industry conferences and more often than not, in recent years, I have been booed and even threatened for speaking out in favor of integrity, transparency, fundamental credit analysis and common sense. As an example, my comments during a recent speech were not well received when I suggested that other speakers and attendees could end up “serving time” after bragging that they stuffed worthless bonds into a French “widows and orphans” pension fund. Apparently mentioning that international securities fraud is a crime was considered “over the top”. But I keep getting invited back……
This year I had high hopes that things would be different and that I would fit in. I was hoping after the events of the past year, that those still standing would have “gotten religion” and started seeing things my way. Surprisingly, I still feel that I don’t belong among the so-called elite of the securitization professionals. Below is a summary of a few of the more “interesting” conversations that I had at the conference and my thoughts.
One of the major rating agencies told me that they were more progressive than their competitors…they were “agnostic” as to whether or not borrowers should use all OPM (”other people’s money”) or put some of their own equity at risk. So, I asked what they meant by agnostic. The very nice and very earnest representative of the rating agency said that they would no longer “ding” issuers for putting their own equity at risk even though they still felt that 100% OPM reduced the odds of a conflict of interest. After all, if the issuer has its own money at risk, management will focus on maximizing equity returns rather than acting in the best interests of their bond holders. Of course, the rating agency official couldn’t explain how maximizing equity returns could possibly mean anything other than paying off debt and how paying off debt could be bad. The conversation seemed like a Twilight Zone episode where the star goes to sleep and wakes up in the world of opposites; good is bad, left is right, up is down and right is wrong. After this conversation I went back up to my room to take some blood pressure medicine before I “stroked out” in front of the rest of the “professionals”.
My panel was asked how we could restore confidence in the system and one of my co-panelists suggested (with a straight face) that apologizing to investors that lost billions would do the trick. The panelist who suggested apologizing was a senior executive from a name brand money management firm. He had managed three or four arbitrage CDO/CLOs (see below to understand what these transactions are) that had lost a few hundred million dollars. Despite the losses, he still managed a group that had more than $11 billion of assets under management. My co-panelist suggested that when his firm apologized, the investors felt better and confidence was restored. I suggested that while “apology” was very “Japanese,” a more robust approach would be Seppuku (ritual suicide by disembowelment). He indicated that Seppuku (either literal or figurative) had not been considered (we didn’t discuss whether it had been requested). As it turns out, contrition has its limits. Once again, I was very unpopular when I suggested that apology just didn’t really do it for me and stronger medicine might be required to restore investor confidence.
The “4 guys and a Bloomberg” model of credit management is still alive and well. The panelist who refused to commit Seppuku told me his money management firm managed $11 billion of assets that are bank loans. They didn’t originate any of the assets, didn’t underwrite any of the assets and couldn’t provide loan administration or workout service for any of the loans. What the money management firm does is raise money from investors to purchase loan participations from banks and investment banks that do all of those things, i.e., the hard work. The senior executive told me that they purchased about 300 separate loan participations and that the average size of each loan participation is approximately $36 million.
Interestingly, the money management firm’s primary criteria for purchasing loan participations isn’t the maximization of investor returns but rather the minimization of the costs of money management. Investor returns are a secondary consideration. I affectionately call this business model the “4 guys and a Bloomberg” money management model and is based upon 100% OPM and great investor marketing. The money manager makes the maximum amount of profit for himself by doing the minimum amount of work.
Loan funds managed by the money management firm whose executive was on the panel continue to be marketed to new institutional and retail investors and, up until last month, were receiving new money to manage. However, this month I expect that their funds will be down between 20% and 30% as the leveraged loan market (which is where they purchased “bank debt”) tanked.
But the money manager wasn’t concerned about performance or withdrawals. After all, his investors agreed to lock ups. He only worried about keeping costs low so that the maximum amount of money management profits could be wrung out of the business. Once again I was dismayed to be at the conference.
Arbitrage CDOs/CLOs and the continuing discussion of whether the whole is really worth more than the sum of the parts. The basic idea behind arbitrage CDOs/CLOs (”CDO” means collateralized debt obligation and “CLO” means collateralized loan obligation) is that a money manager, using 100% OPM, can purchase publically traded and rated bonds and loans through a newly formed entity that has no operational capability and in turn pay for the investments by issuing publically rated and traded bonds. The money manager in the middle is supposed to unlock a large arbitrage between the bonds that they purchase and the bonds that they issue because the money manager is smarter than the rest of the marketplace and can see value where others don’t. The rating agencies, lawyers, investment banks and accountants got paid large fees for rating, structuring, documenting and selling these deals.
Unfortunately, most of the money managers who were in the business of managing arbitrage CDOs/CLOs were really smart marketing guys but not so smart money managers. While they ripped out of these deals hundreds of billions in fees and expenses, these money managers really added no value, had no real insights into the market and unlocked nothing (other than their fees). They combined the “4 guys and Bloomberg” money management model with a really good fund raising model and raised hundreds of billions for businesses that had no infrastructure and no expertise (other than marketing).
The room in which I spoke was filled with CDO/CLO managers. They wanted to know what it would take to bring back the good old days and when I said “a miracle on the scale of the parting of the Red Sea” I thought I would be lynched on the spot. I might have also mentioned that I thought that arbitrage CDOs/CLOs added nothing to society and that the gross amount of the losses in the sector are more or less equal to the fees and expenses that were charged by the money managers and their accomplices. Fear also raises blood pressure and as I left the room, I was afraid.
In retrospect I never should have gotten upset at the securitization conference. Most of the attendees were the dead and dying and like dinosaurs at the beginning of the Ice Age, they don’t have a long time to live. I just hope that the lessons learned from these insane markets are remembered so that we don’t repeat our mistakes (at least not again in my lifetime).
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This article has 11 comments:
Until they are living in a box this should surprise no one.
Unfortunately, these "dinosaurs" could care less--like the investment co. CEO's--they'll keep their personal millions and go on to future jobs.
Why were we so worried about terrorists? Harvard-educated, greedy Americans brought our country to her knees.
Your being upset about it is not enough if what you really want is to escape the upset it causes you instead of offering proactive suggestions for solution. Do better.
Our biggest challenge? Getting prospects to open there books to see what there patient acqusition goal is and how we can scale to the acquisition numbers a client wants.
Instead, clients still want to buy cheap ad units as "leads" without any guarantees of quality, no transparency in the process!
Even when I show them the numbers as to why lead aggregators manipulate the prospect data and how the model fails consistently every time, it is still hard for a prospect to digest honest, transparent business!
That is called market pyschology. The good news is that some of the upper management responsible to shareholders for growth DOES get it even if the middle management on the marketing team doesn't (how friggin hard is it to read spreadsheet?!?). So we are acquiring some very large brands that are killing marketing budget everywhere else. The time of the middle man with no value proposition and just glossy marketing materials is over. As other commentors netted out so well with "when are they going to die and get out of our way".
You have an interesting marketing challenge. I have a friend who is in a sort of similar business where they help companies work down their cost of banking services (not loans but things like wire transfers, transaction processing, merchant fees (not for credit but processing), returned check fees, etc.).
They only get paid if they save the client money and get the service done well. And, they have the same problem as you do in getting their clients to be honest and open up (and let my friend save them money and improve quality). There are marketing techniques that my friend employed with only limited success. It is a tough marketing model and mostly because the buyers of the service often have a conflict of interest (if they hire you and you do a great job it may adversly impact their job security by making it look like they weren't doing a good job before - so doing the right thing for the company often isn't the right thing for the individual).
I think that your move to integrating by buying brands is smart and intuitive.
Thanks for reading.
Mark Sunshine
Down With Clowns !!!