Bankers' Bonuses, Roman Style

Now this may sound very repetitive but  I'm always puzzled by how people forget history and start running around like headless chickens as soon as a recession happens. I've lived through three now, the Russian and Asian crisis of the 90's. Then the tech crash of the early 2000's and now this current credit crash. And people keep on banging on and on about it. Scratch around for obvious villains and throw rotten vegetables at them. Even Jesus got upset with bankers and guess what? They still exist.

I hope you've read the extraordinary popular delusions book son. Required reading. And oh yes. Do keep an eye out on Cicero and Cato the elder's work. Very interesting. Both of them were brilliant writers on history, economics and how people operate. I'm sure you'll come across them in your studies.

Anyway, here's a professor from your university talking about how Sulla managed to bugger up the Roman Empire when he didn't support the financial system.

Love

Baba

Bankers' Bonuses, Roman Style | History Today
http://www.historytoday.com/stephen-clarke/bankers-bonuses-roman-style
(via Instapaper)

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Posted 12th January 2015, 9:15

Since antiquity, moneymen have been the target of vitriol.

Quintus Antonius Balbus (c. 82-83 BC)Today’s bankers are widely reviled. Bonus season – usually in February – gives rise to headlines such as: Fat cats getting fatter? Bankers’ bonus culture lives on as millionaires’ club tops 2,700 and It’s a very Happy New year for Goldman fat cats! The financial crisis has only increased the opprobrium.

It was ever thus: since antiquity moneymen have been the target of vitriol. Cato the Elder, writing in the second century BC, likened the act of lending money to that of murder and many literary works of the period portrayed the argentarii (bankers) as immoral.

Yet the argentarii were a vital part of the Roman economy – just as they are today. Recent research reveals that the failure of Rome’s leaders to support the bankers had a devastating effect upon the economy just as it was experiencing a period of unprecedented growth.

Dr Philip Kay of Wolfson College Oxford has produced the most detailed analysis of Rome’s economic development in the late Republic period and this week speaks at the Legatum Institute about his work. Following the Second Punic War (218 – 201 BC) Rome experienced a period of exceptional economic growth. Military success saw the Romans collect indemnities from the Syrians, Macedonians, Carthaginians and Seleucids amongst others. In the 50 years after the war 1,050 tonnes of silver arrived in the city. The result was an expansion of the money supply; partly in the form of an increase of Denarii in circulation, from 68 million in 150 BC to 240 million in 50 BC, but also in the form of bank deposits, as banks and wealthy individuals extended credit to those who wanted it. This fuelled investment in urban infrastructure and agriculture, increasing demand and stimulating Mediterranean trade, which is estimated to have increased by over 500% between 249 and 50 BC.

Now there’s my bank

I am proud of serving the community, whether with cash or with hay

The problem with high frequency trading

I was working in Solomon brothers son when I first came across algorithmic trading. This is around 2000. You were 5 years of age then. We launched 4 of these models and the limit was 50000$ per day. 3 would propose trades and one would decide and then launch the winning trade. 

Life has moved on hugely since then son. It's become something like skynet from the terminator days lol. The equity markets are really strange. There is no money to be made. Take a look at the major players, hardly anybody on the sell side makes any money because there's no margin. Spreads are so tight. And therefore it's difficult. Good for retail investors like you and I but for the big boys it's getting stupid. The buy side, the asset managers and fund managers, who buy and hold for longer periods are still around and will be so as well but it's going to be a difficult time for equities son. So do think again about your career option of being a stockbroker. Not enough money. 

Be somewhere where technology supports you. Like you come up with new complex instruments and strategies while technology helps. Or go into the advisory business where you need to take nonlinear decisions. Combine your mathematics knowledge with knowledge of technology, philosophy, politics, economics and something that you will pick up later on - psychology. That's what's will help pay huge dividends son. 

Love

Baba

The problem with high frequency trading | Felix Salmon
http://blogs.reuters.com/felix-salmon/2012/10/06/the-problem-with-high-frequency-trading/

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Last night, on BBC Radio 3, I was featured reading an essay about high frequency trading. I hope it’s fun to listen to, but if you want to read it, here you go.

One of the many consequences of global warming is that it’s now, for the first time, possible to drill under the sea bed of the Arctic ocean. The oil companies are all there, of course, running geological tests and bickering with each other about the potential environmental consequences of an oil spill. But they’re not the only people drilling. Because there’s something even more valuable than oil just waiting to be found under the Arctic.

What is worth so much money that three different consortiums would spend billions of pounds to retrofit icebreakers and send them into some of the coldest and most dangerous waters in the world? The answer, of course, is information.

A couple of days ago, I called a friend in Tokyo, and we had a lovely chat. If he puts something up on Twitter, I can see it immediately. And on the web there are thousands of webcams showing me what’s going on in Japan this very second. It doesn’t look like there’s any great information bottleneck there: anything important which happens in Japan can be, and is, transmitted to the rest of the world in a fraction of a second.

But if you’re a City trader, a fraction of a second is a veritable eternity. Let’s say you want to know the price of a stock on the Tokyo Stock exchange, or the exact number of yen being traded for one dollar. Just like the light from the sun is eight minutes old by the time it reaches us, all that financial information is about 188 milliseconds old by the time it reaches London. That’s zero point one eight eight seconds. And it takes that much time because it has to travel on fiber-optic cables which take a long and circuitous route: they either have to cross the Atlantic, and then the US, and then the Pacific, or else they have to go across Europe, through the Middle East, across the Indian Ocean, and then up through the South China Sea between China and the Philippines.

But! If you can lay an undersea cable across the Arctic, you can save yourself about 5,000 miles, not to mention the risk of routing your information past a lot of political flash points. And when you’re sitting in your office in London and you get that dollar/yen exchange rate from Tokyo, it’s fresh from the oven, comparatively speaking: only 0.168 seconds old. If everybody else is using the old cables and you’re using the new ones, then you have somewhere between 20 milliseconds and 60 milliseconds when you know something they don’t.

Quite an interesting list – oldest banks in the world

this was quite an interesting list to see and read. HSBC appears on number 10. I quote:

HSBC Trinkaus originally known as HSBC Trinkaus & Burkhardt AG operates as a general financial company in Dusseldorf, Gremany.  It is also one of the members of HSBC Group and was established in 1785. HSBC Trinkaus has its operations in various sectors for instance private, commercial and asset management and investment banking. A majority stake in Trinkaus & Burkhardt was acquired by the UK-based Midland Bank in 1980, but five years later, Trinkaus & Burkhardt converted to a partnership limited by shares and was listed on the stock exchange. In 1992 HSBC acquired Midlanbank along with its stake.

HSBC also has its own museum and it is an amazing place to visit. You can see old ledgers. You can see World War 1 staff registers where, in fading ink, you can see bank workers and managers leave to join the armed forces and how their entries were closed off due to death on the front. You can see manifests of young men going off to man bank counters across the world, sea trunks full of clothes. You can see thin flimsy’s requesting instructions. Seeing photographs of workers sitting on bales of Chinese silk on the docks of San Francisco from early last century which we funded. Not a history of big men but of people like me and me.

Islamic vs. conventional banking: Business model, efficiency and stability

This paper was quite an interesting one. I quote the abstract:

How different are Islamic banks from conventional banks? Does the recent crisis justify a closer look at the Sharia-compliant business model for banking? When comparing conventional and Islamic banks, controlling for time-variant country-fixed effects, we find few significant differences in business orientation. There is evidence however, that Islamic banks are less cost-effective, but have a higher intermediation ratio, higher asset quality and are better capitalized. We also find large cross-country variation in the differences between conventional and Islamic banks as well as across Islamic banks of different sizes. Furthermore, we find that Islamic banks are better capitalized, have higher asset quality and are less likely to disintermediate during crises. The better stock performance of listed Islamic banks during the recent crisis is also due to their higher capitalization and better asset quality.

Given the financial crisis, this new model has quite a lot of lessons for the modern Anglo Saxon world of banking. I've been keeping track of Islamic Finance for some time now and this has changed quite a lot since the early days.

 

The profit sharing element has quite an interesting behaviour as they end up being better capitalised with lower loan losses. In other words, they become a sort of private equity type of firm. Interesting, I wonder if these lessons will be learned by the regulators? Or force bad performing loans to be converted into equity like the CoCo’s? Not for the banks but for the firms to which the banks have lent to?

How to Save American Finance from Itself

In a previous email Kannu, I told you that we are living in a complicated world which is getting even more complicated. The grand poobahs recognise this. Instead of simplifying they decide to add to complexity by adding giant rafts of regulation. Adding much more complexity. And that's just now. 

Here's an economics Nobel prize winner talking about his student who is the fed chief and asking for a more complex set of instruments to manage the economies and financial markets. And taking a gratuitous swing at hedgies. 

The result? Another crash is coming. Guaranteed. Before you are 25. So what can you do? Avoid debt son. As much as possible. Have your investments in good solid sectors and companies who will keep on operating despite downturns and crashes. Have a technical skill son that will always give you a job. Or if you are running a firm, then be in one which will always have demand. Keep an eye on your cash flow. Or marry a rich girl :) 

But the article is interesting from a macroeconomics perspective. It's people like these who will be running the world when you graduate and start looking for work or are working. It takes time for macroeconomic prescriptions to work it's way through the economy and hit individuals. So decisions taken today will impact you in 3-5 years time. 

I studied wave theory once. Ocean waves. The science is poorly understood even now. Which wave will just give you a ripple or give you a dunking or a great surf is difficult to know. The ocean interacts with temperature, wind, continental shelf topology, currents, gravitation, climate, seashore landscape in poorly understood ways. So what does a surfer do? Understand as much as possible. Be prepared. Take chances. 

Love

Baba. 

How to Save American Finance from Itself | New Republic
http://www.newrepublic.com/article/112679/how-save-american-finance-itself

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TODAY’S EDITION

Other stories from April 27, 2013

BOOKS APRIL 8, 2013

How to Save American Finance from Itself Has financialization gone too far?

BY ROBERT M. SOLOW

Central banking is not rocket science, but neither is it a trivial pursuit. Excellent books have continued to be written about the art and craft of central banking, from Walter Bagehot’s Lombard Street in 1873 to Alan Blinder’s Central Banking in Theory and Practice in 1998. Running a central bank is in one way a little bit like flying a plane or sailing a boat: much of the time standard responses and small adjustments will do just fine, but every so often a situation arises in which fundamental understanding, knowledge of history, and good judgment can make the difference between riding out the storm and crashing. There was no such person in charge in 1929, and the result was disaster. There was one in 2008.

In his earlier scholarly life, Ben Bernanke, the chairman of the Federal Reserve Board, had been a careful student of the general interaction between the financial system and the real economy and especially of its working out in the Great Depression of the 1930s. So he had done his homework. His decisive and innovative actions at the Fed saved our economy from free fall with a possibly catastrophic end. I once non-joked that Bernanke was the Captain Kirk of central banking: he had loaned where no man had loaned before. In a life before turning to government service, first as a member of the Federal Reserve Board, then briefly as chairman of the Council of Economic Advisers, and then returning to the Fed as chairman in 2006, Bernanke was a well-known and highly respected academic economist. (The reader should know that I was one of his teachers in graduate school at MIT, and have remained a friend.) My opinion is that, after a briefly hesitant start as Fed chairman, probably still under the considerable aura of Alan Greenspan, Bernanke rose admirably to a difficult occasion and has been generally right in his judgments and his decisions, and in his willingness and his ability to explain both.

In March 2012, George Washington University invited Bernanke to give four lectures as part of a course devoted to the role of the Federal Reserve in the economy. The lectures are now reproduced in book form, apparently from lightly edited transcripts. Each lecture ends with half a dozen questions from anonymous “students” and Bernanke’s answers. Some of the questions are smart, some less so, in which case Bernanke exhibits the professorial skill of seamlessly answering a slightly different question. We are not told anything about the audience. I imagine a lot of people wanted to hear about the Federal Reserve and the financial crisis from the chairman himself. It’s rather like hearing Admiral Nelson reminisce about the battle of Trafalgar.

What’s in a name? actually quite a lot

Shakespeare said…

Juliet:
"What's in a name? That which we call a rose
By any other name would smell as sweet."

Romeo and Juliet (II, ii, 1-2)

But poor man was living in a different world, nowadays, the name of the company has a big impact on its performance. See this paper.

Research from psychology suggests that people evaluate fluent stimuli more favorably than similar information that is harder to process. Consistent with fluency affecting investment decisions, we find that companies with short, easy to pronounce names have higher breadth of ownership, greater share turnover, lower transaction price impacts, and higher valuation ratios. Corporate name changes increase fluency on average, and fluency-improving name changes are associated with increases in breadth of ownership, liquidity, and firm value. Name fluency also affects other investment decisions, with fluently named closed-end funds trading at smaller discounts and fluent mutual funds attracting greater fund flows.

An example that they quote is:

Practically speaking, when choosing from among drug manufacturers, people could instinctively feel more comfortable investing in a name such as “Forest Laboratories” than the less fluent “Allergan Ligand Retinoid Therapeutics.”

Hmmm, i wonder what that will mean to the financial institutions that i know and love? lol

He Who Makes the Rules

Kannu

Here's an excellent article on how the process of lawmaking happens. Or not as the case maybe. And all parts are important as its important all parties are heard. 

So now you see why financial institutions pay such close attention to what's going on in government. It can literally be the reason for success or failure. 

there is another quote which is relevant in these days, In democracy, its not the count of the vote which is important but also its important to know who counts the vote. That’s why an independent election commission is so vital. Unfortunately, we don't have something like that and therefore we end up with legal gymnastics like this. And this is the reason why I am sceptical of more regulation making economies safer.

Love

Baba

The Washington Monthly - The Magazine - He Who Makes the Rules
http://www.washingtonmonthly.com/magazine/march_april_2013/features/he_who_makes_the_rules043315.php?page=all

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Barack Obama’s biggest second-term challenge isn’t guns or immigration. It’s saving his biggest first-term achievements, like the Dodd-Frank law, from being dismembered by lobbyists and conservative jurists in the shadowy, Byzantine “rule-making” process.

In late 2010, Bart Chilton, one of three Democratic commissioners at the U.S. Commodity Futures Trading Commission (CFTC), walked into an upper-floor suite of an executive office building to meet with four top muckety-mucks at one of the biggest financial institutions in the world.

There were a handful of staff members present, but it was a pretty small gathering—one, it turns out, that Chilton would never forget.

The main topic Chilton hoped to discuss that day was the CFTC’s pending rule on what are known as “position limits.” If implemented properly, position limits would put a leash on speculation in the commodities market by making it harder for heavyweight traders at places like Goldman Sachs and JPMorgan Chase to corner a market, make a killing for themselves, and screw up prices for the rest of us. Position limits are also one of many ways to tamp down the amount of risk big institutions can take on, which keeps them from going belly up and minimizes the chance taxpayers will have to bail them out.

The financial institution Chilton was meeting with that day was a big commodities exchange, which is like a stock exchange except that instead of trading stocks they trade derivatives based on the value of actual products, like oil and gas. Chilton wouldn’t say which major commodities exchange he was meeting with that day, but suffice it to say two of the biggest—the Chicago Mercantile Exchange and Intercontinental Exchange—have a lot to lose from federally administered position limits. To them, the more derivatives traded, the better. They’ve been fighting the CFTC’s attempts to establish position limits for years.

The passage of the Dodd-Frank Wall Street Reform and Consumer Protection Act in July 2010 seemed to promise meaningful reform on this front. The law includes Section 737, which explicitly directs the CFTC to establish position limits and lays out detailed guidelines on how they should do so. “The Commission shall by rule, regulation or order establish limits on the amount of positions, as appropriate,” it reads.

Still, even with the strength of the law behind him, Chilton waited until the end of the meeting to broach what he knew would be a tense subject. He began diplomatically. Now that the CFTC was required by law to establish position limits, his commission wanted to do so “in a fashion that made sense—one that was sensitive to, but not necessarily reflective of, the views of the exchange,” he told the executives.

Chilton’s gracious overture fell flat. His hosts, who had been openly discussing other topics moments before, were suddenly silent. They deferred instead to their top lawyer, who explained that the exchange’s interpretation of Section 737 was that the CFTC was not required to establish position limits at all.

Chilton was blindsided. While other parts of Dodd-Frank were, admittedly, vague and ambiguous and otherwise frustrating to those, like him, who were tasked with writing the hundreds of rules associated with the act, Section 737 didn’t exactly pull any punches. The Commission shall establish limits on the amount of positions, as appropriate.

“You gotta be kidding,” Chilton told the executives. “The law is very clear here. The congressional intent
is clear.”

But the executives stood their ground. Their lawyer quietly referred Chilton to the end of the sentence in question: as appropriate. Those two little words, the lawyer said, clearly modify the verb “shall.” Therefore, the statute can be interpreted as saying that the commission shall—but only if appropriate—establish position limits, he explained.

A Dirty Business

An interesting read about fraud and insider trading Kannu. 

Crime doesn't pay and money earned wrongly burns a hole and creates headaches. There are much easier ways to make good money and enjoy. 

But fascinating story of how greed corrupts normal people. High level people, highly educated but common thieves at that

A Dirty Business
http://www.newyorker.com/reporting/2011/06/27/110627fa_fact_packer?currentPage=all

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In the fall of 2003, Anil Kumar, a senior executive with the consulting firm McKinsey, and Raj Rajaratnam, the head of a multibillion-dollar hedge fund called Galleon, attended a charity event in Manhattan. They had known each other since the early eighties, when, as recent immigrants, they were classmates at the Wharton School of Business, in Philadelphia. Their friendship, intermittent over the years, was based on self-interest rather than on intimacy. Kumar, born in Chennai, formerly Madras, India, was fastidious and morose, travelling at least thirty thousand miles a month for work, and seldom socializing. Rajaratnam, a Tamil from Colombo, Sri Lanka, was fleshy and dark-skinned, with a charming gap-toothed smile and a sports fan’s appetite for competition and conquest. Kumar was not among the group whom Rajaratnam took on his private plane to the Super Bowl every year for a weekend of partying. “I’m a consultant at heart,” Kumar liked to say. “I’m a rogue,” Rajaratnam once said. Kumar had the more precise diction and was better educated, but Rajaratnam was one of the world’s new billionaires and therefore a luminary among businessmen from the subcontinent. In an earlier generation of immigrant financiers, Kumar would have been the German Jew, Rajaratnam the Russian. Kumar might have felt some disdain for Rajaratnam, but Rajaratnam’s fortune made him irresistible.

McKinsey executives, in an attempt to cash in on the explosive growth of hedge funds, had recently sent Rajaratnam several e-mails proposing that Galleon hire the company to provide expert advice. Rajaratnam had ignored them. Leaving the charity event, Kumar expressed annoyance about the unanswered e-mails, he later recalled. Rajaratnam pulled him aside. “I’d much rather have you as a consultant than McKinsey,” he explained. “And I am willing to pay you half a million dollars a year.” Kumar replied that McKinsey forbade outside consulting, but Rajaratnam persisted, appealing to Kumar’s pride: “You work very, very hard, you travel a lot, you are underpaid. People have made fortunes while you were away in India, and you deserve more.” He noted that Kumar, who provided strategic advice to Silicon Valley technology companies—one of Rajaratnam’s investing specialties—possessed knowledge that was worth a lot of money. Kumar had only to keep a list of “ideas,” and to call him once a month or so. “I know you will do that if you get money from me,” Rajaratnam said. “And I know you will not remember to keep a list if you don’t get money from me.”

Daddy, you are more evil than I thought

This was a bit of a good post about a conversation that a Dad had with his son. Given that over the past couple of weeks, I have had similar ones with my son made this interesting.

I quote:

So, says my son asks you like nasty people to steal from poor investors, mutual funds (and he did not say pension funds for school teachers) so that you can join them in taking the loot by being a short-seller – and you don't want the regulators to do anything about it because there are more opportunities for you?
Sheepishly I confess yes.
And he says with a mixture of admiration and horror: “daddy you are more evil than I thought”.

Being a foreigner among domestic banks: Asset or liability?

Fascinating study. I quote the abstract

Do foreign banks perform better than domestic banks? The existing literature has come up with different answers, in part as data coverage has varied and often been limited. Studying the performance of foreign relative to domestic banks in many countries between 1999 and 2006, we find that the answer importantly depends on a number of factors. Specifically, foreign banks tend to perform better when from a high income country and when regulation in the host country is relatively weak. They also perform better when larger and having a bigger market share. Foreign banks from home countries with the same language and similar regulation as the host country also perform better. Geographical closeness, however, does not improve performance. These findings show that it is important to control for heterogeneity among foreign banks when studying their performance and help reconcile some contradictory results found in the literature.

Living in London where there is ferocious competition amongst so many banks and having seen the footprint across the world where there are foreign banks entering / withdrawing / competing, its an interesting perspective. So what do I do if I was a bank faced with competition? I would withdraw where I do not have sufficient market share. I will pour in more resources where I can bulk up and where regulation is lower/different from my home country. This is also a factor when people talk about banks moving elsewhere. Its no surprise that the profitable (not the biggest) banks usually come from high income countries. Interesting stuff.

Will you trust your colleague’s views on investments?

Fascinating article. I quote the abstract

To what extent conflicts of interest affect the investment value of sell-side analyst research is an ongoing debate. We approach this issue from a new direction by investigating how asset-management divisions of investment banks use stock recommendations issued by their own analysts. Based on holdings changes around initiations, upgrades, and downgrades from 1993 to 2003, we find that these bank-affiliated investors follow recommendations from sell-side analysts in general, increasing (decreasing) their relative holdings following positive (negative) recommendations. More importantly, these investors respond more strongly to recommendations issued by their own analysts than to those issued by analysts affiliated with other banks, especially for recommendations on small and low-analyst-coverage firms. Thus, we find that investment banks “eat their own cooking,” showing that these presumably sophisticated institutional investors view sell-side recommendations as having investment value, particularly when the recommendations come from their own analysts.

Once upon a time, I was quite taken by investment banking research reports. Used to invest based upon what a bank would say. But now that I am a bit more wiser after making some real duds, I observe these research analysis with a far more jaundiced eye, and rely on my investments with my own research and views. Only myself to blame when I invest in duds but at least I’m not being stupid to follow research which can and is frequently biased for a variety of reasons.

But this article is interesting from a different perspective. Looks like the asset management arms of these banks tend to rely more on their colleagues across the Chinese walls. Hmmm, so before you select a fund, make sure that you check whether the owner has an investment bank and what kind of analysts do they have..

High Performance Trading

I used to muck around with high frequency equities trading almost 10 years back at Salomon Brothers when I was in the front line trenches. The reason to share this graphic from CISCO is because of two reasons, first is to show a bit of the complexity of the system and second is that its a neat graphical representation, perfect for a poster on the wall…

Zooming in

Neato or what?

So what caused the financial crisis? We don't know

I thought you would be interested in this article written by Andrew Lo. I found this quote fascinating, specially since he managed to pull in Rashomon as a metaphor. (wonder why he missed out on the Blind men and the Elephant metaphor)).

it may seem like sheer folly to choose a subset of books that economists might
want to read to learn more about the crisis. After all, new books are still being published
today about the Great Depression, and that was eight decades ago! But if Kurosawa were
alive today and inclined to write an op-ed piece on the crisis, he might propose Rashomon as
a practical guide to making sense of the past several years.

Here is the abstract, the article is worth reading in full.

The recent financial crisis has generated many distinct perspectives from various quarters.
In this article, I review a diverse set of 21 books on the crisis, 11 written by academics, and
10 written by journalists and one former Treasury Secretary. No single narrative emerges
from this broad and often contradictory collection of interpretations, but the sheer variety of
conclusions is informative, and underscores the desperate need for the economics profession
to establish a single set of facts from which more accurate inferences and narratives can be
constructed.

Careers in Finance–Voices of Finance

One of my common lectures to the various business schools is to describe an investment bank. Students,for some reason, just think of investment banking as either trading or M&A banker. There is much more to it than just this and frequently I tell kids, you can actually end up making more money over your lifetime in other banking areas than just being in trading or M&A. Anyway, the Guardian is running a series on voices of Finance. Very nice one. Here are the various links to various jobs:

Most recent

• Industry journalist: 'The bond market is like my baby'

  24 Dec 2011: The head of bond coverage for a bond market publication tells all, as part of Joris Luyendijk's Voices of finance series6 comments

• Law firm partner: 'at major banks there's a token Brit in each division'

  22 Dec 2011: Joris Luyendijk gets the inside story from a mergers and acquisitions lawyer, as part of the Voices of finance series41 comments

• Voices of finance: IT consultant and developer

  12 Dec 2011:

  'I find the level of disorganisation in banking astonishing, especially considering its place in UK commerce'

  56 comments

• Voices of finance: risk analyst for a major high street bank

  8 Dec 2011: 'What has really surprised me, coming out of university, was how few people in finance understand statistics in any depth'42 comments

• Voices of finance: insurance broker

  5 Dec 2011: 'I have been in several incidents of physical and verbal harassment. The thing is, you can't go public with it, because people talk'37 comments

• Voices of finance: quant

  1 Dec 2011: 'It's very tempting to just stay in the world where everything can be understood in mathematical language'
  75 comments

• Voices of finance: fund manager at asset management firm

  27 Nov 2011: 'One of the greatest pitfalls for fund managers is thinking we are more important than the clients whose money we are managing. That's why there are not a lot of Gordon Gekkos among us'123 comments

• Voices of finance: salesman for a brokerage firm

  23 Nov 2011: 'You have to be very thick-skinned and insanely optimistic about life to get through without too many breakdowns, or alcoholism'117 comments

• Women in finance

  3 Nov 2011:

  Twelve women give the inside view of working in the testosterone-fuelled City

  298 comments

• Voices of finance: risk and compliance consultant at a major bank

  3 Nov 2011:

  'My sense is that a lot of people in finance hate what they do. There's no passion. But they are trapped by the money'

  21 comments

• Voices of finance: employee relations manager at a major bank

  2 Nov 2011: 'I do none of the fun things. I don't hire people, I don't give bonuses. I tell people they have lost their jobs'56 comments

• Voices of finance: fundraiser at sharia-compliant venture capital firm

  31 Oct 2011:

  'Some people need to see that you have made a pact with the devil, compromised something. They want me to be one of those lonely career women'

  35 comments

• Voices of finance: chief operating officer (equity division) at a bulge bracket bank

  30 Oct 2011: 'Why can't women be proud of those who made it in finance? Feminism for me is the opportunity to do whatever you want'76 comments

• Voices of finance: the institutional stockbroker

  28 Oct 2011: 'People need to understand that we are essential to their pensions and lives … but I am in favour of a tax on financial transactions, and for more regulation'122 comments

• Voices of finance: partner at a major accountancy firm

  27 Oct 2011: 'Suppose the trader is a typical alpha-male and he shouts down the back-office guy, who, intimidated or unsure, goes along. This is how rogue trading could happen'23 comments

Archive (16-30 of 33)

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• Voices of finance: IT business analyst (vice president level)

  25 Oct 2011: 'I'd never tell my friends back home how much I make. They are all working-class, like me. I really feel a bit fraudulent'29 comments

• Voices of finance: investment management adviser

  23 Oct 2011: 'I know when I walk past the desks at some divisions in an investment bank, the guys are instant messaging each other with score cards'49 comments

• Voices of finance: head of marketing

  21 Oct 2011:

  'Try not to make men look too stupid. That would be my advice to women entering this profession. And try not to become a man'

  44 comments

• Voices of finance: recruiter #2

  19 Oct 2011: 'It can get tough. I know of a candidate who handed in her resignation and returned to her desk to discover that everyone had been instructed to ignore her'30 comments

• Voices of finance: bond pricer

  16 Oct 2011:

  'I wish more women took an interest in finance – knowledge is an extremely important part of being financially independent'

  18 comments

• Voices of finance: recruiter

  13 Oct 2011:

  'I never thought I'd become the person I am now. I used to work in a job where I'd help people improve their lives. These days I am cheating, lying, manipulating – all in the name of targets'

  51 comments

• Voices of finance: banker's ex-girlfriend

  10 Oct 2011:

  'Bankers like him have this need to impress, and when they can't use money to do that, they don't know what to do'

  162 comments

• Voices of finance: investment bank intern

  4 Oct 2011: 'You have to be your own harshest critic. Unless you have a good relationship with a colleague, you'll never be told if you are underperforming … but everyone will have noted it'37 comments

• Voices of finance: competition lawyer in mergers and acquisitions

  15 Sep 2011:

  'Boring is good, for lawyers. We sell reliability, solidity and caution. We want our presentation to mirror that'

  60 comments

• Voices of finance: computer programmer at a trading company

  15 Sep 2011:

  'Humility is essential for programmers like me. You must always assume something is your own fault'

  64 comments

• Voices of finance: financial journalist

  15 Sep 2011:

  'If for political reporters Watergate is the gold standard, the scoop financial journalists dream of is Enron'

  19 comments

• Voices of finance: MD, mergers and acquisitions, at an investment bank

  15 Sep 2011:

  'The sorts of deals we do are very, very important to our clients. Crudely put, we can make them very rich'

  33 comments

• Voices of finance: MD, corporate finance, at a major bank

  15 Sep 2011:

  'You are doing deals worth millions. Almost every deal is a truly major event in the life of the company concerned'

  61 comments

• Voices of finance: primary research firm manager

  15 Sep 2011:

  'The financial sector is not rocket science. You have to be willing to put in really long hours – it is an endurance game'

  8 comments

• Voices of finance: analyst at a private equity and corporate finance boutique

  15 Sep 2011:

  'We do some of the things that major investment banks do, but for smaller players'

  19 comments

• • Voices of finance: PR officer for a brokerage company

    15 Sep 2011:

    'I am a barometer of the City. I follow developments, go for lunch, am on the phone a lot … People skills are everything'

  • Voices of finance: research analyst at a primary brokerage firm

    15 Sep 2011:

    'One of the things I like about the financial sector, it's meritocratic … the boardrooms are often really multicultural'

  • Voices of finance: sales manager for data management services

    15 Sep 2011:

    'If clients seek out my view on a project of theirs, it means they value my expertise and take me seriously'

The Welfare Impact of Microcredit on Rural Households in China

So? does it? Read the abstract.

Microcredit has gained worldwide acceptance in recent years as a flexible mechanism to expand individuals’ (especially the poor's) access to financial services, which is considered as an efficient way to achieve poverty reduction and other social development. A large number of empirical studies have been done to examine the welfare effects of microcredit on the borrowers and such effects are well documented in many other countries such as Bangladesh. However, the impacts of microcredit on China rural households’ livelihood are not well documented. This paper attempts to empirically evaluate the impact of microcredit on household welfare outcomes such as income and consumption in rural China. The estimation is based on the difference-in-difference approach which is an increasingly popular method of tackling the selection bias issue in assessing the impacts of microcredit. The study uses a two-year panel dataset, including both primary and secondary data collected through a household survey in rural China. Our empirical results favour the wide belief in the literature that joining microcredit programme helps improve households’ welfare such as income and consumption. Despite the optimistic findings on how microcredit has changed the rural households’ living conditions, our results show that the vast majority of the programme participants are non-poor, which casts some doubts on the social potential (such as poverty reduction) of China's microcredit programmes.

So the results are, it helps in improving welfare, but its usually aimed at the non poor. So sort of half way house, that little bit of credit helps but not the absolute poor. Perhaps Bolsa Familia?

Just what is a 25 Standard Deviation Move?

I had mentioned this level of movement last year at several lectures. Mr. Viniar who was the CFO of Goldman Sachs said in 2007, we are seeing things that were 25 standard deviation moves, several days in a row.

What does a 25 Standard Deviation mean? Does it really mean anything? These chaps actually tried to put some context around this 25 SD move. I am going to quote some extracts:

a 5-sigma event corresponds to an expected occurrence of less than just one day in the entire period since the end of the last Ice Age; a 6-sigma event corresponds to an expected occurrence of less than one day in the entire period since our species, Homo Sapiens, evolved from earlier primates; and a 7-sigma event corresponds to an expected occurrence of just once in a period approximately five times the length of time that has elapsed since multicellular life first evolved on this planet

So we are at 7 sigma and we are already way back into the mists of time on this planet. “ok ok, so get on with it”

These numbers are on truly cosmological scales, and a natural comparison is with the number of particles in the Universe, which is believed to be between 1.0e+73 and 1.0e+85 (Clair, 2001). Thus, a 20-event corresponds to an expected occurrence period measured in years that is 10 times larger than the higher of the estimates of the number of particles in the Universe. For its part, a 25-sigma event corresponds to an expected occurrence period that is equal to the higher of these estimates but with the decimal point moved 52 places to the left! 

They explain this in a different way.

UK  National Lottery is currently was offering a prize of £2.5m for a ticket costing £1. Assuming it to be a fair bet, the probability of winning the lottery on any given attempt is therefore 0.0000004. The probability of winning the lottery  n times in a row is therefore 0.0000004 n , and the probability of a 25 sigma event is comparable to the probability of winning the lottery 21 or 22 times in a row.  
And we should not forget Goldman’s losing streak – Goldman did not just experience a single 25-sigma event, but experienced several in a row – or forget that other institutions also experienced 25-sigma events. If the probability of a single 25-sigma event is low, the odds of two or more such events are truly infinitesimal. For example, the odds of two 25-sigma events on consecutive days are equal to 3.057e-136 squared, which is 9.3450e-272. This is as likely as winning the lottery about 42 times in a row. The corresponding expected occurrence period is the square of 1.309e+135 years – that is, 1.713e+270 years – a number so vast that it dwarves even cosmological figures. As Oscar Wild might have put it: to experience a single 25-sigma event might be regarded as a misfortune, but to experience more than one does look like carelessness

So before you decide to beat up the banks, have a think about what they were faced with. But then again, one can question, just what kind of a business are you running where extremes of this kind are present? How do design contingencies of this nature? Or put in scenario’s of this kind? Scenario Analysis is one of the most common ways of trying to analyse how things might happen in the future, but if you had to have some scenario’s of wildly cosmologically oriented events like this will need several universe sized computers to analyse.

The mind boggles.

International equity portfolio allocations and transaction costs

I got an email out of the blue.

Dear Dr. Bhaskar,

Hope this email finds you in best of your health and spirit.

I am Chandra, Sunil Poshakwale’s PhD student and you were one of my external advisors in my MRes. I would like to thank you for all your help and support at the initial stage of my PhD. I have now completed my doctorate and working as a Lecturer at the University of Stirling, Scotland. In fact you were the one to float my doctorate’s idea when you visited Cranfield University as a guest lecturer in 2007. I still remember you saying to me that one of the reasons you do not trade in emerging markets because its not worth it, given the high transaction cost. You then asked me to prove this, if I could and that would be a good PhD project.

Tapping your idea of transaction costs I have now published a paper in Journal of Banking and Finance. Please find attached the article which I published with Sunil.

Once again profound thanks for all your support. I would be very glad to have further research ideas which I can work on, pariticulary those benefiting international investors.

Kind regards

Dr. Chandra Thapa
Lecturer in Finance
University of Stirling
Stirling
FK9 4LA
Scotland
UK
Webpage:http://www.management.stir.ac.uk/people/accounting-and-finance/academic-staff/chandra-thapa
--

Quite a nice man, eh? for him to remember an off the cuff conversation from many years back. This is the paper he has written along with my old friend Sunil Poskakwale. Journal of Banking & Finance 34 (2010) 2627–2638

a b s t r a c t
In spite of the critical role of transaction cost, there are not many papers that explicitly examine its influence
on international equity portfolio allocation decisions. Using bilateral cross-country equity portfolio
investment data and three direct measures of transaction costs for 36 countries, we provide evidence that
markets where transaction costs are lower attract greater equity portfolio investments. The results imply
that future research on international equity portfolio diversification cannot afford to ignore the role of
transaction costs, and policy makers, especially in emerging markets, will have to reduce transaction
costs to attract higher levels of foreign equity portfolio investments.

Interesting article indeed and something that does touch on one of my pet bug bears, the assumption that transaction costs are zero. This is ridiculous to assume that they are zero. They arent zero, this isnt a perfect world. Economics and Finance are applied sciences, what’s the bloody point of putting in an assumption like that? Next thing you know, you will assume that investors are totally rational and follow all economic laws. heh.

Show me the money and who owns it

Over the past couple of years, there has been a steadily rising crescendo of voices, initiatives, conferences and papers, all concentrating on enhancing and improving the regulatory framework around the banks so as to avoid another banking crisis. By and large, all of the initiatives and suggestions concentrate on the risk element of the bank’s portfolios. Whether they related to the portfolio being too big (too big to fail), having badly designed instruments (toxic debt and credit instruments), bad remuneration policies (the hoo haa over bonuses), separation of prop trading from deposit making (the Volker plan aka Glass Steagal v 2.0), to globally coordinated regulation to improved liquidity standards and the like. What has not been considered, at least the little bits that I have read, is the factor of bank corporate governance. Thankfully, a recent paper sheds some light on this issue.

The authors find that bank risk taking varies positively with the comparative power of shareholders within the corporate governance structure of each bank. Their sample has 279 publicly listed banks across 48 countries, so it’s pretty much a global study of the top banking firms in the world. In other words, you can pretty much take these outcomes to the bank (if you excuse the rather laboured pun) and generalise the results. The bank corporate governance is defined as relating to control rights and cash flow rights usually expressed in terms of one large shareholder having more than 10% of voting rights. If there is no single shareholder with more than 10% of voting rights, then it’s considered to be widely held. So what they find is that banks with a single large shareholder have a statistically significant greater bank risk and this is, surprisingly so, holding for all the 48 countries in the sample. No outliers at all. Policy implications are simple, regulators should also aim to get banks to diversify their shareholding, so that there is no single shareholder who manages to have banks hold greater risk than usual.

But then, there is a different angle to this. If the regulations are too onerous, then the utility value of holding a bank reduces because of increased capital requirements, and therefore existing owners can be tempted to increase risk to show greater returns. And the authors find that this behaviour is exacerbated when there is a single large shareholder in the bank. In other words, just increasing the requirement to hold more capital may not make the banking sector less risky if there are banks with large single shareholders. By how much you ask? The regression figures show that for widely held banks, for every 1 standard deviation increase in capital stringency, bank risk falls by 0.3 standard deviations, but increases by 0.1 standard deviations if the bank has a single large shareholder.

More worryingly, the authors find that capital requirements no longer have a robust direct link with banking stability and posit that this is due to the lack of attention paid to bank governance elements. Putting it in another way, it is crucial for regulators to factor in the bank governance elements in their analysis of the efficacy of proposed bank regulations. If they do not, then their attempts to reduce bank risk will be compromised at best and be ineffectual or even negative at worst.

Quite an interesting paper.

(Laeven Luc and Levine Ross, 2009, Bank Governance, regulation and risk taking, Journal of Financial Economics, 93, pp 259-275.

My thoughts on the HSBC Bank Levy Plan

As you might have heard, the world seems to be moving towards a direction of levying a bank tax to cover for the cost of bank bailouts. In other words, like we have with other industries (such as the travel industry), every bank has to be taxed and the proceeds will be used for monies already been spent or that might need to be spent on bank bailouts. The IMF has proposed a plan, Germany is talking about a banking levy, the politicians in the UK are saying that they want to tax the banks and US President Obama is talking about imposing a bank levy. The G20 will be discussing it although some countries seem to be against the idea. The ECB is also a bit cautious about all this.

As you can imagine, the logistics of something like this is horrendous. Imagine HSBC, which works in more than 90 countries, is regulated by the FSA, but is pretty big in almost every country. What kind of levy are we talking about? Will it be applied in the UK on worldwide income or just UK income? Who holds the moneys? If we have a situation in Uzbekistan and there is a banking crisis there, how does the funding work? Which parts of the financial sector be affected? What about firms like HSBC which have both insurance and banking products? I am sure the big grand poo bah’s will work on this, but there is a bigger conceptual issue at stake.

What will the money be used for exactly? Will it go into the general taxation pool as suggested by France? Or should it go into a fund which will be ring-fenced and only used when a crisis happens as the travel industry emergency fund operates? I can see both ways, the current huge government budget deficits in so many countries has been primarily caused due to the government needing to bail out the banks, so the French proposal to push the bank levy funds to reduce the deficit is understandable. Then again, the flip side is the cynical side, where general tax pools belong to everybody and are the responsibility of none. The next time when we have another bank crisis, will the funds or the government fiscal situation be good to have a bail out? In other words, if the money raised by the bank levy is spent on say subsidies or the defence services or the health services and the welfare state which are not strictly investments (a quite possible situation), then the fiscal strength will not be powerful enough to get more monies to bail out the banks. Then again, I am unfortunately very cynical about politicians and their will power when it comes to taxes, spending and non hypothecated funds.

Which is why the HSBC proposal sounds very interesting. I quote:

HSBC is seeking support for a plan to direct any industry-wide bank levy into government-sponsored venture capital agencies, as part of a rearguard mission to change the terms of the ongoing bank regulation debate.

The bank has toured Europe seeking support for its ideas that include varying the capital buffers that banks are required to hold, depending on economic conditions. It believes banks should hold higher capital cushions in good times to absorb losses when conditions decline.

The HSBC plan would inject equity into capital-starved small and medium businesses. That would remove a big obstacle to lending – banks only lend to businesses that can prove they have sufficient equity in place. Critics say venture capital financing is not the business of government.

Now I think this is a ‘bloody’ good idea!The bank levy is thus used to encourage value addition, the investment in productive places, such as small and medium sized enterprises. Given the fact that currently the UK economy has 52% sunk in the public sector, the situation is crying out for investment to go into the private sector.

As for the critics who say that venture capital financing is not the business of government, could I point to some examples?

1. In the USA, the government has a range of funding bodies which assist in giving funding for firms, heck, the US government, in the form of Freddie Mac and Freddie Mae, assist in mortgage lending. If that isn’t capital financing, then what is?

2. In the UK, we have a similar situation. Do people remember 3i? Sounds like the HSBC plan is similar to this.

3. The French Government has funds and is definitely deeply interested in investments in industrial policy and funding for firms.

4. Then we have the whole industry of sovereign wealth funds. The wiki entry lists tens of countries which have this kind of a structure to invest national funds.

So I really don’t think that the critics are right to criticise this. If people are indeed concerned that the Governments cannot figure out the best way to invest, well, look at how the 3i firm works. Another way of looking at how to manage these funds is to look at how Sweden structured its pension fund system. Setup 4-6 different funds, ask fund or private equity or professional managers to bid for the right to run these funds transparently under a strong clear regulatory framework. If the managers don’t do their work properly or the returns are rotten, then switch them out.

I came across another post which talks about some more challenges with the plan: I quote (spelling mistakes are his):

· The first is I’ve run a venture capital backed company and I’ll happily say that some supposedly very good VC funds I dealt with knew nothing at all about running businesses. They’ve got wonderful MBAs. and not a clue how business works. Read Obliquity by John Kay if you want to know why. Entrepreneurs are foxes. VCs are hedge hogs - and poor ones at that.

· Second VCs screw entrepreneurs into the ground. There are few people on earth betting at devising disincentives than VCs.

· Third, they charge the earth for this privelige, and so requitre rates of return that usually prevent any useful business getting funding.

· Fourth, the vast majority of returns end up with the VC managers.

I am not sure how appropriate these criticisms are. Besides that rather gratuitous slagging off of MBAs (I am one myself in the interests of disclosure), the idea that Venture Capital funds have no clue about running businesses is rather interesting. All over the world we have VC funds merrily investing away, PE firms do the same, and quite often are providing business assistance to entrepreneurs. Finally, quite often the PE/VC firms are themselves run by entrepreneurs. As for the MBA’s asking for cash flows and plans, a bit of that discipline for running a business would not go amiss (again, in the interests of disclosure, I have run my own businesses).

VCs screwing entrepreneurs into the ground - hmmm, I am not really sure that this is indeed the case, because the economic incentive for a VC is to build the business, not plonk disincentives into the mix. Charging the earth is also fine, nobody is asking the entrepreneur to go ask for capital now, are they? But then, I am curious about the statement about VC’s not funding businesses. So I went looking for proof. Here’s a report by the British Venture Capital Association on how private capital injections and insolvencies work. The report finds, using a good quality quantitative study, that PE backed firms are stronger than other businesses. Also, they have over twice the debt recovery rate of publicly-owned companies. So I think we can categorically put paid to the objection that VC’s are useless in running businesses.

Now about the returns. Well, it’s a commercial arrangement, but here’s an interesting study on this situation. Good VC’s get start up equity at 10-14% discount. Now is that bad or good? If you ask me, the fact that the VC is bringing management and funding resources to the game means that a return has to be there. Here’s another study and I quote its abstract:

 Using two complementary theoretical perspectives, we develop hypotheses regarding the determinants of the return required by venture capitalists and test them on a sample of over 200 venture capital companies (VCCs) located in five countries. Consistent with resource-based theory, we find that early-stage specialists require a significantly higher return than other VCCs when investing in later-stage ventures. Consistent with financial theory, we find that acquisition/buyout specialists require a significantly lower return than other VCCs when investing in expansion companies. Furthermore, in comparison to specialists, highly stage-diversified VCCs require a significantly higher return for early-stage investments. Independent VCCs require a higher rate of return than captive or public VCCs. In general, higher required returns are associated with VCCs who provide more intensity of involvement, have shorter expected holding period of the investment, and being located in the US or UK (in comparison to those in France, Belgium, and The Netherlands).

But I couldn’t find anything which corroborates the point being made that the VC grab all the returns. So I am not sure about the objections, I am afraid.

To conclude, it’s a good idea and needs to be pushed much more. I am quite impressed that the bank came up with this idea and is pushing it. It will do our reputation as a prudent bank thinking about our society and productive sectors a world of good.