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HomeIs Wall Street On the Up and Up?
Posted by Larry Doyle on October 3rd, 2009 11:57 AM |
The core of that question resides within the regulatory oversight of our financial industry. The American public is beginning to learn a lot about this financial regulatory oversight. How so? A month ago, SEC Inspector General David Kotz released a report, Investigation of Failure of the SEC to Uncover Bernard Madoff’s Ponzi Scheme (embedded here). Yesterday, the Wall Street self-regulatory organization, FINRA, released Report of the 2009 Special Review Committee on FINRA’s Examination Program In Light of the Stanford and Madoff Schemes.
What did we learn from yesterday’s report? Plenty. For that, I commend all those involved in this effort. With all due respect to FINRA employees who have legitimately tried to fulfill their obligations to the best of their abilities, yesterday’s report is nothing short of a massive indictment of FINRA’s management, FINRA’s board, and the SEC which is charged to oversee FINRA. Why? Having read this report twice and studied critical components of it, FINRA is exposed as nothing more than a collection of crossing guards . . . said with all due respect to crossing guards. Have the supervisors of the crossing guards been so heavily influenced by Wall Street so as to render large parts of the FINRA mission ineffective? Many believe this to be true, including me.
Why so harsh? Let’s navigate and be a little more aggressive than the mainstream financial media in analyzing this report. In the process, I think you will appreciate my assessment and also realize there are many more questions which need to be answered.
The FINRA report is largely divided into the organization’s dealings with the financial frauds encompassing Allen Stanford and Bernard Madoff. Referencing the massive regulatory failings on FINRA’s behalf in these two cases, the authors provide recommendations which FINRA’s management will present for approval or ratification at the December 2009 Board meeting.
For purposes here, I will not regurgitate the numerous individual failings of FINRA examiners and management in each of these cases. Rather, I will highlight those failings which I find most egregious. In turn, I want to focus on highlighting the recommendations so the American public can truly understand how woefully inept, incompetent, and ill-prepared this financial self-regulatory organization has been and currently is to uphold its mission to protect investors. Against that backdrop, I will then lay out questions which I deem to be critically important for FINRA to answer if the American public can ever regain a degree of confidence in the oversight of Wall Street.
>> Stanford Case
1. In 2003, the Stanford broker-dealer generated 68% of its revenues from the sale of Stanford International Bank CD’s. Are you kidding me? Red Flag!! That finding did not prompt the examiner to dig deeper?!
2. A 2003 Anonymous Tip Letter laid out the Stanford scheme in detail.
3. In 2005, a FINRA examiner learned that the Stanford broker-dealer is paid an annual fee of 3% of the deposit sum for every CD. Another red flag! Standard practice would have bankers or securities salespeople earning a one-time fee of maximum .25%.
At this point, Stanford International Bank had raised approximately $1.5 billion in what would grow to a $7.2 billion scam.
With all due respect to FINRA employees who may have continued to look into Stanford over the 2005-2008 time period, truth be told FINRA did not further aggressively pursue this case until the Madoff situation broke in December 2008.
>> Madoff Case
1. FINRA largely limits its review of the Madoff scam to the 2003-present time period. Why not go back further? FINRA had longstanding oversight of the Madoff enterprise.
2. FINRA largely reduces the extensive relationships between Bernie Madoff and family members with FINRA to nothing more than a footnote. That footnote on page 46 provides a cursory approval of FINRA’s relationship with the Madoff firm and family. Why aren’t these relationships more deeply explored?
3. The report acknowledges what we always knew about FINRA having oversight of Madoff’s operation. FINRA representatives, including Mary Schapiro, have willingly and intentionally misrepresented the fact that FINRA had oversight of Madoff’s enterprise. Did Mary Schapiro perjure herself on this topic during her confirmation hearings to be Head of the SEC? Well, she may not have perjured herself, but she and others have willingly misrepresented FINRA’s required oversight of Madoff over the long time period when Madoff was strictly a registered broker-dealer and ran this massive Ponzi scheme within that framework.
4. FINRA failed to detect the full breadth of the relationship between Cohmad Securities and Madoff. Bernie Madoff and his brother Peter owned 24% of Cohmad, and the Cohmad broker-dealer operated within the same office space as Bernard Madoff Investment Securities. Cohmad was largely a front for feeding customers into Madoff’s scam. The report provides:
Cohmad was registered as a broker-dealer and reported having approximately 750 to 850 customer accounts, which were held by and cleared through Bear Stearns Securities Corporation. These accounts usually generated roughly 300 transactions per month, mostly in equities and, to a lesser extent, municipal bonds.
I would very much like to know more details about these municipal bonds. Were they municipal auction rate securities?
5. How did FINRA miss the Madoff scam? This report acknowledges the fact that FINRA examiners merely took Madoff and his representatives at their word that Madoff was running nothing more than a broker-dealer. Are you kidding me? It was common knowledge that Madoff had a money management business. FINRA maintains that the FINRA ‘crossing guards’ checked the little boxes on their Madoff review sheets and went on their way. (more…)
No Quarter Radio’s Sense on Cents with Larry Doyle Welcomes Former SEC Attorney Genevievette Walker-Lightfoot, Sunday Night at 8PM EDT
Posted by Larry Doyle on October 2nd, 2009 11:44 AM |
UPDATE: This episode of NQR’s Sense on Cents with Larry Doyle has concluded. You can listen to a recording of the episode in its entirety by clicking the play button on the audio player provided below. Once the audio begins, you can advance or rewind to any portion of the episode by clicking at any point along the play bar.
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Please join me this Sunday evening for NQR’s Sense on Cents with Larry Doyle as we dig deeper and work harder in navigating the economic landscape. My special guest will be Genevievette Walker-Lightfoot.
Ms. Walker-Lightfoot was previously employed as an attorney in the Office of Compliance Inspections and Examinations at the U.S. Securities and Exchange Commission in Washington, D.C. for almost five years, where she worked on policy matters and conducted field examinations and inspections of transfer agents, brokerage firms, hedge funds, trading exchanges, ATSs, SROs, credit rating agencies, mutual fund companies and investment advisers.
Genevievette Walker-Lightfoot
Genevievette was the lead attorney on the 2003-2004 Madoff examination conducted by OCIE and identified the substantial elements of his fraud in 2004, as detailed in a July 2, 2009, Washington Post article. However, despite her attempts to pursue her findings, her supervisors directed her efforts elsewhere, missing an opportunity to have caught Madoff’s Ponzi scheme four years prior to him turning himself in to authorities.
Ms. Walker-Lightfoot received the SEC’s Chairman’s Award for Excellence for her work on the Mutual Fund Reform Team, as well as the SEC’s Capital Markets Award for her work on the Research Analyst/Investment Banking Conflicts of Interest Team. Prior to the SEC, Genevievette was employed with the American Stock Exchange’s Member Firm Regulation Division in New York and the Dispute Resolution Department of the NASDR, now known as FINRA, in Washington, D.C. (more…)
Unemployment Report: October 2, 2009
Posted by Larry Doyle on October 2nd, 2009 8:58 AM |
The widely anticipated October Unemployment Report covering the month of September was just released. Let’s dive right in and take a look at the numbers . . .
I. UNEMPLOYMENT RATE
July: 9.5%
August: 9.4%
September: 9.7%
– October Consensus Expectation: 9.8%
– October Actual: 9.8%
>> LD’s comments: as expected and only getting worse. The underemployment rate is 17%!! (High five MC). Long term unemployed (those out of work 24 weeks or more) is 5.4 million!!
II. NON-FARM PAYROLL (click here for definition of this term)
July: initial loss of 467k initially revised to a loss of 443k and now revised to a loss of 463k
August: initial loss of 247k revised to a loss of 276k, further revised to -304k
September: initial loss of 216k, revised to a loss of 201k
– October Consensus Expectation: loss of 175k
– October Actual: a loss of 263k, with revisions to the prior two months of a further loss of 13k jobs.
>> LD’s comments: decidedly worse than expected, this figure shoots a huge hole in the case of those who thought the economy would have a V-shaped recovery. Construction lost 64k jobs. The one sector of the economy that people would expect to support this number is government jobs. This did not happen as government payrolls declined by 53k jobs. This is an indication that cities, states, and towns are cutting payroll and services as tax revenues plummet.
III. AVERAGE HOURLY EARNINGS
July: 0.0%
August: +.2% revised to +.3
September: came in at .3 with the prior month revised to .3 as well.
– October Consensus Expectation: .2%
– October Actual: .1%, also worse than expected.
>> LD’s comment: This number inspires no confidence that the economy can expect a rebound in consumer spending and retail sales anytime soon. Be mindful that the prior month was revised to +.4%. That figure is largely a result of a rise in the minimum wage.
IV. AVERAGE HOURLY WORKWEEK
July: 33.0 hours
August: 33.1 hours
September: 33.1 hours
– October Consensus Expectation: 33.1 hours
– October Actual: 33.0 hours, another big disappointment
>> LD’s comments: this number is a confirmation that businesses see no pickup in new orders. This number may be the most disappointing of all components as it hits directly at what business owners view as the future business climate.
V. FURTHER COLOR
Although many Wall Street based economists, media mavens, and government pundits are reporting these numbers as disappointing, the mere fact is prior reports were reported in a far too ebullient fashion. Our economy is trying to adapt to a lack of credit. Meredith Whitney highlights this fact in today’s WSJ in writing, The Credit Crunch Continues. Expect an increased call for greater fiscal stimulus. The fact is the government programs have largely created safety nets and pulled consumer demand forward while the major structural unemployment issues in the economy loom very large.
VI. MARKET REACTION
At 8:10am:
2yr Tsy: .87%
10yr Tsy: 3.15%
S&P 500 Futures: -3.2
DJIA Futures: -27
U. S. Dollar Index: 77.22
At 8:50am, Post-Report:
2yr Tsy: .85%
10yr Tsy: 3.14%, we did get as low as 3.10% immediately after the report.
S&P 500 Futures: -12.00, which indicates that the stock market will open up down approximately 1.2%
DJIA Futures: -104
U.S. Dollar Index: 77.30…basically unchanged. Recall that a lot of hedge funds and speculators are short dollars and long a host of risk-based assets. The dollar may improve as those risk-based markets sell off.
Questions, comments, constructive criticisms always encouraged and appreciated.
If you like what you see here, please subscribe to all my work here at Sense on Cents via e-mail subscription, an RSS feed, Twitter, or Facebook. All the links are on every page.
Thanks.
LD
I Got Good News and I Got Bad News
Posted by Larry Doyle on October 1st, 2009 10:00 PM |
To regular readers of Sense on Cents, I thank you for your support. Whether through word of mouth or other channels, your legions are growing. This is good news and I appreciate it.
The fact that more people are regularly coming to Sense on Cents is also bad news from the standpoint that the traffic is overwhelming the server. I am working to rectify that situation and beg your indulgence if/when there are temporary periods when the site is down as I continue to address this issue.
LD
Wall Street “Skin” Needs to Thicken
Posted by Larry Doyle on October 1st, 2009 3:11 PM |
I have little patience for dealing with thin-skinned people. In a similar fashion, I have little regard for those who would care to generate benefits and rewards without putting ‘skin’ in the game. I respect individuals who are willing to expend the effort, the values, and the capital to grow an ownership stake in an enterprise. Wall Street boards and management need to take a full and honest accounting of their firms on these fronts.
Any business enterprise can be chock full of tremendous effort, pristine values, and employee capital but still fail. Other enterprises can have an abundance of some of these qualities and still fail. For example, the employees of both Bear Stearns and Lehman owned in excess of 30% of their respective firms. Despite those ownership stakes, the excessive greed of senior management within those institutions along with outsized risks brought those once proud firms to their knees. All this said, any enterprise which puts more ‘skin in the game’ has added incentive to more aggressively and prudently manage franchise risk. To this end, welcome to the debate centering on Wall Street compensation practices.
I am not in favor of the government dictating compensation practices. However, if boards willfully neglect their corporate governance responsibilities then those institutions should be subject to aggressive capital regulations and restrictions. I do not pretend to think these compensation issues are easily addressed, but they are part and parcel of the Uncle Sam economy.
I addressed this topic on August 21st in writing “Will Goldman Sachs Be Bulls, Bears, or Pigs?” In that post, I wrote specifically of Goldman’s compensation, but my premise would hold for all Wall Street banks. I continue to maintain;
The fact is the public sees Goldman specifically and Wall Street in general benefitting from taxpayer dollars injected into the system along with a host of Fed and Treasury programs. While Goldman has paid back its TARP funds, they have still benefitted from financing backed by the FDIC. Moreso than direct benefits to the firm, Goldman has clearly benefitted indirectly from the gamut of Uncle Sam’s largesse.
Uncle Sam clearly has a large amount of ’skin in the game.’ Goldman can address its image and burgeoning reputation problem by increasing its own ’skin in the game.’ How can they achieve this? They should compensate employees in stock to a much greater extent and have that stock vest over a longer time period.
Typically, senior executives, traders, and bankers are paid approximately 35% in stock and the stock would vest over a three year time frame. As such, individuals would typically have one year’s worth of compensation tied up in the firm.
Let’s see Goldman pay people 65-70% in stock and have it vest over a 5 to 6 year time frame. If Goldman is concerned about losing people, that pay structure would serve as a real disincentive for other firms to hire Goldman people. Make no mistake, Goldman employees would NOT be happy to be paid in this format . . . BUT there would be plenty of people on Wall Street who would take that pay structure right now to work at Goldman Sachs.
Goldman has the opportunity through this bonus cycle to display whether they are bulls, bears, or pigs.
Holding this position, I was pleased to read this morning Wall Street Needs More Skin In the Game by Peter Weinberg, a founding partner of Perella Weinberg and former Goldman Sachs partner. Weinberg writes:
The debate about bonuses and Wall Street pay rages on, and for good reason. Compensation is a complex issue that is essential to managing systemic risk. The asymmetrical structure of pay packages—a “heads I win, tails I win less” approach—was wrong. But overly prescriptive government intervention to solve the problem poses its own challenges and might not help us get the incentives right, either. So what can we do?
Here are two ideas that could help us replicate the discipline instilled by the old pay packages of private partnerships:
First, institute what is called a “10/20/30/40” plan. Under such a plan, junior employees would receive regular competitive pay, but senior employees would be paid as follows: 10% of annual compensation in cash now; 20% of annual compensation in cash later; 30% of annual compensation in stock now (with a required holding period); and 40% of annual compensation in stock later.
“Now” means paid immediately at the end of a compensation period. “Later” means after a period during which a cycle can be evaluated. During that evaluation, the firm’s compensation committee would perform a “look back” in which it can adjust the award or leave it at a predetermined level. This function should not be used to micromanage past bonuses but simply to make sure success in a specific year was still viewed to be success in hindsight.
Under this program, 60% of the compensation would vest over a longer time frame. As much as I would not have personally liked this system when I worked on Wall Street, people need to accept that the industry has changed. Weinberg continues:
Second, create a “Skin in the Game” plan. When an executive or a senior employee manages a trading or asset-management business which can be measured by its own profit and loss statement, those executives or employees should invest a significant amount of their own capital in that business or fund. The compensation committee of the company’s board would determine who qualifies for this plan and the definition of a material commitment.
Well done, Mr. Weinberg. I commend you. Where are your Wall Street colleagues to implement these recommendations?
LD
September 2009 Market Review
Posted by Larry Doyle on October 1st, 2009 9:31 AM |
I could wax poetic about the ebbs and flows of the various segments of the markets along with a variety of developments on and off Wall Street; however, in doing so I may detract from purely reading what the numbers are telling us. What do the numbers say? Much like last month, with the exception of the U.S. Dollar Index, every market segment once again increased in value. Wow!!
The dollar is clearly the ‘juice’ which is being used to drive an inordinate number of positive carry trades.
Are we merely supposed to enjoy the positive returns and assume they are a precursor to a brighter tomorrow? Not in my opinion. As I have been referencing, I believe we are not even a third of the way into running our ‘economic marathon,’ and thus prudence dictates we maintain our discipline and pace. Why do I feel this way? Our global banking system remains under pressure and has unrealized losses of $1.8 trillion. To this point, I wrote yesterday “When Is a $3.4 Trillion Loss Supposed to Be Good News?”:
A $3.4 trillion loss may be perceived as good news when it was previously projected to be $4 trillion. That said, when losses of this magnitude are buried in a mix of financial chicanery and accounting charades, the impact is not lessened but only extended.
How did the Financial Times characterize this IMF report and the state of global banking? The FT writes this morning:
The International Monetary Fund’s financial stability reports are losing their capacity to shock. This is a shame. . . . The shock factor may be gone, but sustaining a recovery will be no cakewalk.
Active traders may be excessively ebullient or despondent, depending on the daily swings in their profits or losses. I will enjoy the higher values in my monthly statements as they come in, but I am not changing my approach to increased discipline across all parts of my personal balance sheet. A balanced and well diversified portfolio with excess liquidity still strikes me as the best approach at this time.
Now, take a look at the numbers. Comments, questions always appreciated.
LD
