Democracy Inaction

Truth is stranger than fiction. So is Wall Street

• by Moshe Silver — author of Fixing A Broken Wall Street

Slouching Towards Wall Street… Notes for the Week Ending Friday 28 October 2011

Democracy Inaction

Social reform is the most barren and tiresome subject of discussion amongst us, except aesthetics.

- William Graham Sumner, “The Forgotten Man”

Truth, in addition to being stranger than fiction, is grimmer than parody.

On Tuesday morning we wrote the following tickler note, intending to flesh it out in today’s offering: “When will Occupy Wall Street have its first death?” News reports that evening 24 year-old Scott Olsen, a Marine veteran of two tours of duty in Iraq, his skull fractured as Oakland, CA police fired tear gas into a crowd of protesters.

The accidental nature of the injury and Oakland Mayor Quan’s visit to Olsen’s hospital room notwithstanding, it was an outcome that should have been anticipated by both sides in the confrontation rather than being considered an “Unintended Consequence.” Said Oakland’s acting chief of police, “I wish that it didn’t happen.” We are not sure what awards category this statement qualifies for.

Media coverage of the protests appears to be purposely avoiding the heart of this very serious matter. The established media in this country are like stockbrokers — they need to do something every day or they don’t get paid. This explains the impatience that many mainstream commentators display, and the vapidity of others. Occupy Wall Street has become a media theme du jour. If you have a deadline and not a clue what to write about, you can write a “local color” piece about your visit to the Great Unwashed 99%. If your paper’s editorial policy forbids you to criticize Wall Street or to write truly penetrating analysis about society’s ills, you can scribble a peevish column or go on television wearing a withering smirk as you scoff “they don’t even have a single demand!”

Even those coming out enthusiastically on their side are writing prescriptions for What OWS Should Do Next. Rolling Stone’s Matt Taibbi has put up tips for the protestors. His latest is a suggestion that the protestors vote with their cash cards (taibblog, 28 October, “Weapon For OWS: Pull Your Money Out Of BofA”), referencing a ZeroHedge story (27 October, “Ten Reasons Not To Bank On (Or With) Bank Of America”). Despite being the poster child for everything that is wrong with America’s financial markets, B of A still holds over $1 trillion in deposits. According to ZeroHedge, customers who marched into a BofA branch to close their accounts were told “you cannot be a protestor and a customer at the same time.” So now you know.

If you think a $5 monthly fee for access to your own money is steep, you probably are not aware that you are now also a personal guarantor for what may be as much as $53 trillion in derivatives contracts from B of A’s infamous Merrill Lynch acquisition. According to Bloomberg (18 October, “B of A Said To Split Regulators Over Moving Merrill Derivatives To Bank Unit”), counterparties to the Merrill derivatives contracts pressured B of A when the bank was recently downgraded by Moody’s. Fearing a further downgrade would jeopardize their ability to collect on the contracts, the unnamed counterparties got B of A to shift the exposure out of the bank holding company, which suffered the most from the ratings downgrade, into the retail bank division, which carried a superior credit rating. Had the bank holding company suffered a further downgrade, B of A would have to post an additional $3.3 billion in collateral. We can just hear the head B of A’s board of directors say “Jeeze! We don’t have that kind of money lying around!” “But hey!” clamors some bright young up-and-comer — “we’ve got customers who do!”

The Bloomberg story includes this stunner: “We had worked very hard over the course of the last nine months to be prepared to the extent that we did receive a downgrade, and feel very good about the way that we’ve minimized the potential impact.” This sentence is remarkable in being both utterly incomprehensible grammatically, yet at the same time delivering its message unambiguously. It is further remarkable in that it was delivered by B of A’s Chief Financial Officer in an upbeat call with analysts. “Since the downgrade,” he went on, “we have not seen any change in our global excess liquidity sources.” (Our Financials Sector team of Josh Steiner and Allison Kaptur have produced an analysis of B of A. For more information contact sales@hedgeye.com.)

“Excess liquidity.” That would be us. The retail bank holds over $1 trillion in deposits insured by the FDIC. If some of that trillion dollars belongs to you, you have just moved into the recherché world of global high finance. You are now a partner. Congratulations.

But wait, you say. FDIC insurance is supposed to protect me, not Goldman Sachs, or some hedge fund, or whoever is on the other side of these trades. You are right. That protection is written explicitly into Section 23 of the Federal Reserve Act, which governs transactions between banks and their affiliates. Would it surprise you to learn that the Fed has long since granted Section 23A exemptions to the banking operations of such firms as HSBC, Fifth Third Bancorp, ING, GE, Northern Trust, Citi, Morgan Stanley and Goldman Sachs? For example, Comptroller of the Currency records show that “JPMorgan’s deposit-taking entity, JPMorgan Chase Bank NA, contained 99 percent of the New York-based firm’s $79 trillion of notional derivatives.” B of A is hardly the only bank doing this. They’re just the ugliest one right now.

We guess the counterparties that pressed B of A to roll their trillions in liability onto your lousy thousands in assets are a combination of their own major hedge fund clients, and B of A’s partners on the Fed’s list of exempted institutions — the Who’s Who of Too Big To Fail. The FDIC pushed back, but with former Chair Sheila “Not A Team Player” Bair gone, the Fed prevailed. Now the nation can get back to the business of letting the biggest and worst-run banks call the shots. Taibbi quotes NY congressman Maurice Hinchey saying “What Bank of America is doing is perfectly legal — and that’s the problem,” which brings us full circle to Zuccotti Park.

Taibbi’s tactical advice for Occupy Wall Street is to suggest that a mass withdrawal of retail deposits from Bank of America would get their attention. He likens this to the disinvestment and boycott movement that challenged South Africa’s apartheid regime. We do not know how much in deposits would have to flow out of B of A before the FDIC guaranty was no longer sufficient to cover the derivatives exposure, but it is an intriguing notion. Recent reports indicate that, faced with the combination of depositor wrath and presidential overkill, the bank is rethinking the $5 monthly fee. Mr. Taibbi thinks his idea “might prove a real help to OWS” and suggests that OWS should be “educating people about the perfidy of financial institutions.”

Which brings us back to our initial point: media coverage is largely dancing around the very real, and very important issue at the core of the Occupy Wall Street non-movement. Politicians and media heads who attack OWS for its non-agenda recognize that it is precisely the lack of specific demands that is generating the non-movement’s power.

An instructive side skirmish broke out recently as some groups came out vociferously accusing OWS of anti-Semitism. The denunciations appear to be part of an agenda not to fight anti-Semitism, but to fight the forces OWS threatens to unleash. As reported in the Forward (28 October, “How A Former Lubavitcher Became A Social Activist Occupying Wall Street”) Jewish activists camped out at Zuccotti Park dismiss “the charge that the Occupy Wall Street movement is broadly anti-Semitic.” The paper cites a web video released by the Emergency Committee for Israel which it calls “a Republican-dominated group that highlighted mainstream Democratic support for the protest alongside anti-Semitic protesters.” Kobi Skolnick, an Israeli former Lubavitcher chassid, former West Bank settler, former IDF soldier turned Israeli peace activist, now actively participating in OWS, says the anti-Semitic rhetoric is “like three people. They’re not articulate enough. You bring facts, and they get stressed.” When we took our first stroll down to the Park, one man held a large sign saying Wall Street and the banks are dominated by Zionists. In the densely-packed plaza he was conspicuously alone. That same week a photo appeared of this man flanked by other protestors holding signs that read “He doesn’t speak for us.” Our contacts among observant Jewish social activists — many of whom continue to be active in the protests — uniformly reject allegations of a highly visible anti-Semitism, much less the notion that bigotry is somehow fundamental to what OWS stands for.

This is further affirmation that the non-agenda of OWS is its most powerful and, to entrenched interests, most frightening aspects: its all-encompassing non-agenda has the interest groups scare-mongering, attributing to OWS positions the group never advocated.

Slovenian philosopher Slavoj Zizek, who addressed the protesters at the Park some weeks ago, called the lack of anti-Semitic rhetoric in the aftermath of the global financial meltdown an indicator that Western civilization has matured. Cynics will insist that society can not change — that repression and inequality may be suspended temporarily, but not eradicated. Idealists (and Marxists) believe that society can improve. The OWS protesters we have spoken to are largely not opposed to capitalism per se. Like the other movements that so many in the media refuse to link them to — the millions who turned out to protest in India, the “tent-ifada” in Israel, the independence day marchers in Brazil, the occupiers in Madrid — the crux of OWS’ protest is the corruption that is deeply embedded in our system. The protesters we spoke with are not against banks, not against money — not even against Wall Street. They are against the viciousness with which the collaboration of government and money continues to eviscerate the broad society, the lack of social stewardship on the part of both politicians and the biggest business institutions. The very structure of OWS decision making points to a process where interest clusters are respected, rather than marginalized. This points to a more cooperative social structure, and potentially to a kinder, gentler capitalism. While such changes take time to germinate, it would be wrong to say they can not occur.

The media would love OWS to Get To The Point — lots of media time is spent putting down the Occupiers because “they haven’t presented their demands yet” — as though legitimacy arises from having a peevish list of specifics. The media sound like people looking at a newborn and scoffing, “he doesn’t even walk! He doesn’t even talk!” Whether attacking or supporting OWS, all these comments are aimed at taking control over the Occupiers and smothering this nascent movement in the cradle.

When we stroll through Zuccotti Park, the folks we speak to have one common theme: the system isn’t working. It isn’t working for us, it isn’t working for you — it isn’t working for anybody who isn’t the Top One Percent. When asked what should be done, they reply that we — with our years on Wall Street — should be telling the world how the system works, where the abuses lie. There seems to be a sense that, if the people of this nation really understood the specifics of how badly corrupted the system has become, they would force change.

No wonder nobody wants this dialogue to develop.

Out Of House And Home

The Obama presidential campaign (we hesitate to call it an “Administration”) has struck what must be a new low for cynicism. After HAMP (the Home Affordable Mortgage Program) and HARP (the Homeowner Assistance Refinance Program), the 2009 mortgage relief programs, failed to provide succor to the millions in their target groups, the President has trotted out Son Of HARP. The sequel to HARP is now intended to assist about 1.8 million homeowners, scaled back from the original five million our President bravely promised to help out of the hole they had dug for themselves, ably abetted by a range of abuses throughout government and the banking system.

The actual figures speak for themselves. Obama’s original 2009 HARP plan, targeting up to five million homeowners, has resulted in fewer than 900,000 new loan packages. The HAMP program, intended to allow up to four million “at risk” homeowners to cut monthly mortgage payments, has yielded a little over 800,000 modifications. In order to qualify for the new HARP assistance, homeowners need to meet a series of criteria. They must be current on their mortgage payments, and must have clean mortgage applications — no “NINJA” or subprime holders need apply. This means, as Leo Gorcey spouted in “Dead End Kids,” “The only time a bank will lend you money is when you can prove you don’t need it!”

Here’s our dim view of this latest move — Mr. Obama, make of this what you will. The folks who will benefit from HARP largely do not need the assistance. The program will not help late payers, non-payers, and people who were duped into signing on to massive subprime mortgages. We concede the difficulty of teasing out the crooked borrowers with whom negligent bankers colluded, from gullible borrowers who were the victims of rapacious bankers — but the banks’ regulatory regime makes them ultimately responsible, even for the acts of their shadier clients. (OWS take note, we are attempting to do what you asked of us.)

In short, HARP will not offer any benefit to a large group of people who either started out as marginal members of society, or who have been marginalized by a social and political process that has aggressively put more wealth into the hands of fewer people, at the expense of the rest — call it the 99% if you like. Marginalized people do not vote; those who raise the alarm that “the people will rise up” are targeting a straw populous. In making political theater, President Obama appears to be giving a financial gift to a group of people who are already participants, in an attempt to purchase their votes.

The majority of Americans, even those who hold jobs and who do vote, will discover that this program will not help them out — because they had cash flow problems and skipped a mortgage payment or two in the past year, for example. These Forgotten Men and Women could become a significant backlash against Obama as HARP will be seen as massively unfair. While the President’s campaign managers believe it is critical that he “do something on the housing front,” the fact that your next door neighbor qualifies for a subsidy, while you do not, may rankle. (When we asked why HARP does nothing to help subprime mortgages or folks who consistently miss payments — the mortgages that are really in trouble — one answer was that the government does not want to be seen as rewarding Bad Actors. We wonder who is the Baddest of the Bad Actors in this scenario…? At the same time, the Obama Campaign does not want to buy votes from just any old body.)

President Obama was reportedly “shocked” and “dismayed” when the banks turned up their noses at the 2009 HAMP and HARP programs — it turns out there was little financial incentive for the banks to go to the administrative trouble of resetting millions of mortgages in order for them to earn less money per customer. We think even a financial advisor who was neither a Nobel Prize winner, nor a former president of Harvard University could have figured that out if they had devoted an hour’s thought to the topic.

President HARP-O looks as clueless now as he was two years ago. Certain personality traits are considered hallmarks of leadership. Inability to learn from experience is not one of them.

MF Global Warming

As we go to press it appears Jon Corzine may be forced to accept a check in excess of $12 million for what he himself has characterized in public statements as his role in destroying MF Global. The Wall Street Journal reports (Deal Journal, 26 October, “Jon Corzine’s $12.1 Million Soft Landing”) Corzine could collect up to $12.1 if he “loses his job in connection with a takeover of MF Global.” Mr. Corzine, who cut his teeth on excessive leverage at Goldman Sachs, appears to have further refined his skills during his stint as Governor of New Jersey — a state whose own fiscal fraud was so egregious that even the SEC could no longer ignore it.

Who would want to buy MF Global? Mr. Corzine’s financial stewardship notwithstanding, there may be residual value in the MF brand and in some of its other operations. Who better to assess that than financial industry private equity whiz Christopher Flowers?

Mr. Corzine and Mr. Flowers have a few things in common. For one, they were both senior executives of Goldman Sachs. And Corzine, even while running MF Global, has been a non-compensated operating partner at J.C. Flowers, Mr. Flowers’ eponymous private equity firm, that also happens to own 6.8% of MF Global. If Mr. Corzine loses his job as the result of a transaction, MF Global may have to compensate him — it is not clear whether that excludes a transaction in which Mr. Corzine himself is on the other side.

If your head is starting to hurt from the interconnectedness of it all, it should. A piece in New Scientist magazine (22 October, “The Hard Core Of Power”) previews a study soon to appear in PLoS One, the Public Library of Science’s peer-reviewed open access journal. Three complex systems theorists at the Swiss Federal Institute of Technology took all 43,060 transnational corporations (TNC) from Orbis 2007, a database that lists 37 million corporations and investors worldwide. The researchers constructed a model of “which companies controlled which others through shareholding networks, coupled with each company’s operating revenues, to map the structure of economic power.” A project member said their analysis is “reality-based,” and not tinged by “dogma, whether it’s conspiracy theories or free-market.”

The study found “a core of 1318 companies with interlocking ownerships.” “Although they represented 20 percent of global operating revenues,” says the report, “the 1318 appeared to collectively own through their shares the majority of the world’s large blue chip and manufacturing firms — the ‘real’ economy — representing a further 60 percent of global revenues.”

Digging deeper through corporate strata, they found much of the ownership tracks to a “super entity,” a group of only 147 “even more tightly knit companies — all of their ownership was held by other members of the super-entity — that controlled 40 percent of the wealth of the network.” One researcher boils it down: “In effect, less than 1 per cent of the companies were able to control 40 per cent of the network.” Readers of the Screed, Wall Street Occupiers, and Matt Taibbi will not be surprised to learn that most of the super-entity firms are financial companies. Among the top 20 were JPMorgan Chase, Barclays Bank, and Goldman Sachs.

Another scientist quoted in the article, Yaneer Bar-Yam, head of the New England Complex Systems Institute, cautions that ownership may not always equate to control. Public company shares are largely held by fund managers, so actual lines of control within this system require deeper analysis. Bar-Yam was featured in New Scientist (27 August, “One Minute With…”) discussing his Institute’s work predicting social unrest. He observed that the 2007 housing market crash “was followed by a stock market crash, then a puzzling peak in the price of commodities.” Bar-Yam says this was the inevitable result of large markets (equities, mortgages) emptying out and flowing into small markets (wheat, metals). The role of speculators in food riots, says Bar-Yam, is unequivocal and predictable.

Perhaps as a sop to corporate contributors (we do not know who funded the study) the Zurich researchers were quick to point out that “concentration of power is not good or bad in itself.” Just ask Jon Corzine.

Copyright © 2011 by Hedgeye Risk Management LLC