Watch Out: The Sell-Side Owns The Capital Market

by: Bill Cara

The Canadian Income Trust situation took over the headlines this week, and I made my general views known. I intend to write more about this because it is an important topic.

Did you know that on the advice of Canadian bankers and brokers, many average Canadians invested their life savings in these instruments, for various reasons, and did so on margin that was offered and promoted to them by their advisors?

And did you know that the industry rules, which promoted the “safety” of trusts, permitted 75-pct margin, and that many investors got deep in debt, thinking that was “good” debt?

You see, if the product is deemed to be quality and liquidity “safe”, then borrowing at 7 or 8 pct and having an Annual Total Return of say 15-pct (distributions plus capital growth) seemed to be a no-brainer.

But, somehow, despite all the warnings, the HB&B sell-side continued to push these investment practices. In the end, the old proverb – “if it seems too good to be true, it usually is” -- should never have been ignored. But, professional services registrants did ignore that basic principle, and their clients got screwed.

Think about what happened to the wealth of the average Joe who last Tuesday was 75-pct margined in income trusts. Then overnight their long positions traded down say -25-pct. Let’s, for purposes of explanation, say the portfolio value on Tuesday was $1 million with equity of $250,000 and a margin loan of $750,000. What happened on Wednesday was that the equity became zero, and the $750,000 loan was called.

But did the HB&B suffer?

As usual, the perpetrator who set up the loss “earned” the commissions on the account close-out, as well as having previously “earned” the commissions on the initial product sale to the client and the spread on the client loan, which is typically about +3-pct per year.

Moreover, HB&B earned corporate finance fees for creating these financial instruments and in advisory fees in helping companies restructure.

HB&B had a vested interest in the success of their corporate finance and sales teams, and they were assisting some clients in offshore jurisdictions, where tax advantages were greatest. So Canadian Income Trusts became an industry. The Toronto Stock Exchange, in an effort to support its members, took the extreme action of re-organizing its composite index, which gave additional credibility to the selling and lending practices of its members.

Where were the checks and balances? There were none. And that’s my point of writing this blog: the sell-side (financial services industry) has taken ownership of the capital market. Our market is run by their rules, and this is patent nonsense.

The financial system is broken; there needs to be a complete and total restructuring of the capital market system before it just collapses. I have said that before, and the brain-washed have always dismissed me.

How many trillions – yes trillions – of capital from buy-side investors to sell-side financial services must be transferred before the public just say to hell with this?

McEwen vs. Goldcorp is over –

I have spent a day in each of two courtrooms in the past two weeks observing legal arguments of McEwen versus Goldcorp and Glamis. The mind-sets of the people involved in the courtroom were diametrically opposite and clear for all to see.

There was even a statement made by the lead Goldcorp-Glamis lawyer to the senior judge on the panel who questioned him about responsibility to shareholders, and his reply was shocking – and disgusting – when he said: “Your Honour, there are other stakeholders.”

What a pile of crapola. When highly paid lawyers talk like this – as I heard them say the same words in the Stelco hearing room – shareholders don’t stand much of a chance. As I say, just stop the nonsense before it gets totally out of hand.

Sadly, with the Divisional Court appeals panel ruling (that apparently was issued a business day earlier than the court had told us), it will be.

According to resourceinvestor.com and mineweb.net, and confirmed by Rob McEwen’s own website, McEwen’s fight on behalf of shareholders is over. Rob has lost, and now he intends to sell his stake in Goldcorp.

In terms of the impact on shareholder rights -- not so preciousss, but the fight will go on.

The issue is simple: Do the owners and managers of capital (who are the owners of public companies) have the right to control their own capital, or do the managers of public companies and the financial services industry with whom they are closely aligned have the right to do as they please with that capital from year to year?

In the McEwen case, what was at stake is this: Can the capital owners, who own 99-pct of the company, turn the rights of management over for one year to fiduciary agents on the basis of facts that have been presented to them and duly studied in advance of the decision by the owners, and the next day have those agents change by one-third to a new Board of their own choosing, acquire assets and debt of approximate size to those of the company, and issue two-thirds of the company’s issued and outstanding shares to other parties – without the right of the owners to have full disclosure plus the opportunity to vote their approval of such material changes to the assets they own?

If any judge, or any tribunal of judges, agrees that the owners of the company have no right to vote their approval or non-approval on such newly relevant and material information, then all I can say is that they are idiots. They must not have any business sense whatsoever because if such an interpretation of the Business Corporations Act is put into case law, which would hardly be the intentions of the statute law, then trucks of ill-minded promoters will be driven through this loophole.

I assure my readers I know of no intellectually capable person (including judges and lawyers) who would turn over his or her wealth to a person or persons who would presume ownership rights and materially change those assets without permission.

So you can pile on all the legal sucking and blowing stuff you want, but let’s stop the nonsense.

We, the owners and managers of capital, have enough risk to concern ourselves about in capital markets without having to also worry about getting screwed by persons having fiduciary obligations to us.

We capital owners ought to go back in time to when it was up to ourselves to be responsible for our actions. By accepting responsibility, we must pay our damages.

That’s a buy-side position – pure and simple.

What the sell-side has managed to do, however, is to take control, to shift the risks to us on the buy-side, but also make us pay for their damages. And that, my friends, is not acceptable, particularly when they get to trade against our order flow, but we don’t get the same privilege with respect to seeing their buy and sell orders.

So, if you believe you got screwed over the income trusts by your bank or broker, and you paid good money for bad advice, then sue for damages, but also vote for responsible government if that’s where you feel part of the problem lies.

As an aside: Trust me, I believe all major political organizations are scallywags, and I have avoided them for most of my life. I happen to be small-L libertarian, but they never seem to get into power because of lack of corporate support.

In the case of Stephen Harper, all things considered, I think he is a better Prime Minister than either Jean Chretien or Paul Martin (who were basically pretty good) – but I didn’t vote as a personal supporter for any of them.

On the matter of shareholder rights, Rob McEwen believed the shareholders of Goldcorp were taken advantage of, so he sued on the principle. He asked for a Compliance Order respecting the Ontario Business Corporations Act as interpreted by his lawyers. He lost; life moves on.

Lawyers love these lawsuits, you know. The problem is there are few paying clients on the public side (like Rob McEwen), so you know what side of their mouth most of them are likely to speak.

Lawyers, acting as advocates, should never be permitted to overly influence capital markets. The laws, rules and regulations of capital markets should be so constructed that we know a buy is a buy and a sell is a sell, a buck is a buck, a trust is a trust, an agent is an agent, a fiduciary is a fiduciary, and corporate officers and directors are employed to serve the owners.

These things should not be debatable.

You can agree with me and try to do something about it by making your voice heard, or you can choose to be enslaved to the will of others.