| Programming note: Money Stuff will be off tomorrow and Monday, back on Tuesday. FX cartel It's been a while since we had one of these: Citigroup Inc., Royal Bank of Scotland Group Plc and JPMorgan Chase & Co. are among five banks that agreed to pay European Union fines totaling 1.07 billion euros ($1.2 billion) for colluding on foreign-exchange trading strategies. Citigroup was hit hardest with a 310.8 million-euro penalty, followed by fines of 249.2 million euros and 228.8 million euros for RBS and JPMorgan, the European Commission said in a statement on Thursday. Barclays Plc was fined 210.3 million euros and Mitsubishi UFJ Financial Group Inc. must pay nearly 70 million euros as part of the settlement with the EU's antitrust regulator. I must say, part of why everyone thinks that banks are scandalous is that they keep doing scandals, but surely also a part of it is that, due to overlapping regulatory jurisdictions, every scandal gets punished 10 different times with 10 different press releases. Back in 2015 I did a little scorecard tracking the fines that banks had paid for the FX scandal to the U.S. Commodity Futures Trading Commission, Department of Justice, Office of the Comptroller of the Currency and Federal Reserve, and to the New York State Department of Financial Services, U.K. Financial Conduct Authority and Swiss FINMA. Here are some more. The new fines are for the same conduct as the old ones, though the emphasis is a little different. The FX scandal has two separate components. One thing that happened is that traders at banks did a lot of trading ahead of daily FX fixings in ways that made them money at the expense of clients; this scandalized a lot of people, and looked like market manipulation, and provided a lot of anecdotes and dumb trader quotes for the previous round of settlement press releases, but was actually mostly fine and legal "pre-hedging," and in fact the banks will keep doing it. The other thing that happened was an antitrust conspiracy in which traders at different banks hung out in electronic chat rooms all day sharing client information with each other. This is the actual illegal thing in the FX scandal, and it's super illegal—competitors aren't supposed to help each other make money at the expense of customers—but the harm was slightly less direct and the quotes were slightly less dumb, so it always got a bit less emphasis. The European Commission's focus here, though, is strictly on antitrust, so its announcement is about "the commercially sensitive information exchanged in these chatrooms," including information about customer orders and identities, bid-ask spreads, and open risk positions: The information exchanges, following the tacit understanding reached by the participating traders, enabled them to make informed market decisions on whether to sell or buy the currencies they had in their portfolios and when. Occasionally, these information exchanges also allowed the traders to identify opportunities for coordination, for example through a practice called "standing down" (whereby some traders would temporarily refrain from trading activity to avoid interfering with another trader within the chatroom). It is always edifying and a little sad to read these notices. Here are the names of the chat rooms: The Three Way Banana Split infringement encompasses communications in three different, consecutive chatrooms ("Three way banana split / Two and a half men / Only Marge") among traders from UBS, Barclays, RBS, Citigroup and JPMorgan. … The Essex Express infringement encompasses communications in two chatrooms ("Essex Express 'n the Jimmy" and "Semi Grumpy Old men") among traders from UBS, Barclays, RBS and Bank of Tokyo-Mitsubishi (now MUFG Bank). Here's the story behind one of them: Most of the traders participating in the chatrooms knew each other on a personal basis - for example, one chatroom was called Essex Express 'n the Jimmy because all the traders but "James" lived in Essex and met on a train to London. Some of the traders created the chatrooms and then invited one another to join, based on their trading activities and personal affinities, creating closed circles of trust. Imagine being Jimmy. You go to work every day in the fast-paced, brutally competitive world of FX trading, where all the people you meet—your competitors, certainly your customers, even your colleagues on your own desk—are trying to put one over on you somehow. Your work life is stressful, friendless, hostile and paranoid. Loyalty, trust, deep personal relationships: These things are in short supply, nobody cares about you as a person, all they care about is how much money you can make for them or whether your bid is a hundredth of a penny higher than the other guy's. And then one day the boys from the Essex Express ask you to join their clique. You don't even take the Essex Express! They name their chat room "Essex Express 'n the Jimmy," just for you! You're the Jimmy! What a great day. You have an extra spring in your step, that day, walking around and thinking "I'm the Jimmy." In this cold and brutal business, you finally have a group of friends you can trust, people who have your back, people who would take a bullet for you, or at least "temporarily refrain from trading activity to avoid interfering with another trader within the chatroom." And of course you'd share the occasional customer order with them: Your customers are the enemy, constantly trying to pay you less, but these guys are your friends. Not many crimes are more psychologically tempting than antitrust conspiracy. Even more Uber The New York Times has a nice postmortem on what went wrong with the initial public offering of Uber Technologies Inc., which starts last fall with banks pitching the IPO by telling Uber that it could get a $120 billion valuation. It did not. Uber ended up marketing the IPO at about an $80 to $90 billion valuation, pricing it last week toward the low end of that range, and dropping from there; at its low point this week Uber's market capitalization was about $60 billion, just half the pitched number. The Times traces the reasons for that decline, but one big reason is of course that the $120 billion number was wholly imaginary: The banks told Uber a big number because they wanted to win the mandate and figured Uber was more likely to hire an optimistic bank than a pessimistic one. And because Uber was a big name and an exciting IPO that was still many months away, so the optimism was not, like, provably wrong. And because the penalty for being overly optimistic is relatively small: The company grumbles when you price the IPO, and people write critical articles about your performance, but you still keep your fee. The $120 billion number was especially appealing, as a number to write at the top of a pitch book, because Uber Chief Executive Officer Dara Khosrowshahi is in line for a large bonus if Uber's public-market valuation gets and stays above $120 billion. If you are pitching an IPO to a company, you are specifically pitching it to the company's CEO; if his own wealth is tied to a particular number then that is a good number to talk about. But there are other reasons for Uber's slippage, relating to the economic environment and its own business and its competitors. Here's a weird one: One growth headache was connected to Uber's biggest investor, SoftBank. The Japanese company, which has a $100 billion Vision Fund that it uses to invest in all manner of companies, has poured capital into technology start-ups including Didi Chuxing, China's biggest ride-hailing company, and 99, a transportation start-up in Latin America. In January 2018, Didi agreed to acquire 99. Both SoftBank and Didi also started directing funds toward pushing deeper into Latin America; SoftBank eventually created a $5 billion fund earmarked specifically for investing in Latin American companies. For Uber, the timing was terrible. The region was one of its most promising growth areas, and its competition had ramped up. By this February, the damage in Latin America had begun showing up in Uber's results in the form of slowing growth. We talked the other day about one Uber shareholder's pure speculation that "SoftBank may feel pressure to ask the companies in its investment portfolio that compete with Uber to ramp down cash burn," which would be good for Uber, though bad for consumers, and sort of the opposite of SoftBank's approach so far. The broad story here is not so much either "SoftBank owns all the ridesharing competitors and uses that power to limit competition between them" or "SoftBank owns all the ridesharing competitors and rather cruelly pits them against each other," but just that SoftBank gets to decide. It is a big influential active shareholder of multiple big ridesharing companies, so has an unusually concentrated ability to determine the level of ridesharing competition (and prices and profitability) in each market. One more reason for the dud IPO, which I suggested might be a problem last week: Anyone who wanted to buy Uber already had. From the Times: Some investors were also resisting because they had earlier invested in Uber at cheaper prices. Since its founding in 2009, Uber has taken in more than $10 billion from mutual fund firms, private equity investors and others, meaning that its stock was already widely held among those institutions that traditionally buy shares in an I.P.O. So the I.P.O. essentially became an exercise in getting existing investors to purchase more shares — a tough sell, especially at a higher price. At Stratechery, Ben Thompson wrote this morning: Investors like Fidelity or T. Rowe Price are not new: they have been buying tech stocks forever, but usually as part of an IPO, not before. The question raised by Uber — and this is a question that should occur to all unicorns — is if it is better to bring in a Fidelity or a T. Rowe Price in a private round or as part of an IPO. All things being equal, it certainly seems more valuable to have these institutional buyers as part of an IPO, no? That is the time when perceptions matter as much as price, but Uber burned their backstop by refusing to go public for so long, and instead bringing in these investors for private rounds. If you had asked me this question a year ago I would have said, nah, who cares. Uber—and, to a lesser extent, many other tech unicorns—had found a new way to be a company. It was technically a private company, but it was a giant multinational household name that had raised many billions of dollars from traditionally public sources like mutual funds and individual investors at high-11-digit valuations. Its quarterly financial statements were more or less public, fluctuations in its valuation were closely tracked in the media, and activist investors had already pushed out its founder-CEO and replaced him with an outside professional manager. The stuff that happens with an IPO—access to capital, unlimited public-market valuations, the discipline and professionalization of quarterly reporting, the pressures of independent shareholders—had happened for Uber already. I would have expected the corollary of that to be: The IPO just wasn't that important. Nothing would change that much. It would raise some money, sure, and Uber needs money, but it wouldn't even raise as much as a private investment round that SoftBank led last year.[1] The psychological importance of going public at a high valuation, or of the stock quickly and steadily going up, would be less, just because Uber was already kind of public. Sometimes Facebook Inc.'s stock goes up and sometimes it goes down, and of course people care a lot about the underlying reasons for that and the stuff that is happening in Facebook's business, but nobody writes stories like "How Facebook's Stock Went From Over $200 to Under $130," because the specific structure of demand for Facebook's stock is just not an interesting part of Facebook's story anymore. I kind of thought that the same thing was already true of Uber. Maybe it is? Maybe we are just talking about the Uber IPO a lot because it is a thing that happened,[2] and because it is traditional to talk about IPOs a lot, but in fact none of this matters and the negative perceptions will fade in a week and be replaced by just, you know, thinking about Uber's actual business. Slack Inc. still plans to go public with a direct listing, the strongest possible endorsement of the "IPOs don't matter" thesis: Slack, like Spotify Technology SA before it, will just sort of shrug onto the stock exchange without the hype and marketing of an IPO. It won't worry about achieving a high IPO price, or about falling below that price in early trading, because there won't be an IPO price. But right now the Uber IPO does seem to have made things gloomy in the Enchanted Forest of the (Remaining) Unicorns. This is partly because those unicorns are realizing that public markets really might value fast-growing money-losing companies less generously than private markets do, but they might also be realizing that the unicorn model of corporate existence is coming to an end. Eventually you have to go public, eventually even Uber went public, and being a unicorn, it turns out, really isn't quite the same thing as being public. The Enchanted Forest is a pleasant idyll, but it is not the real world. Litvak One thing that bond traders sometimes do, or did anyway, is buy bonds for 75, tell customers that they had paid 80, and then sell them to the customers for 80.5. The customer thinks he paid a small markup over the dealer's price; the trader knows that he actually got a big markup. Different people, I think it is fair to say, have different attitudes about this practice, including[3]: - This is criminal fraud and the trader should go to prison for it.
- It may not be a crime, but it is at least a dishonest and unethical practice, and if the customer finds out about it he would be justified in putting the trader in the "penalty box" for a while and not doing any more trades with him.
- This is fine and normal; everyone is trying to bluff everyone else all the time, and you can't complain if you fall for it.
- This is great, that trader is a genius, getting a 5.5-point markup is a huge accomplishment, high-fives all around.
We have talked about this practice a lot, but mostly in the context of Attitudes 1 and 2. Prosecutors and regulators brought a lot of cases against bond traders for doing this stuff; the prosecutors obviously thought it was illegal, and some juries and judges agreed with them, but other juries and judges, including appellate judges, mostly disagreed. We seem to have settled into an uneasy consensus around Attitude 2, or maybe Attitude 1.5: This probably wasn't criminal fraud back when it was common, but everyone is on notice now that regulators and prosecutors hate it, so knock it off. The poster child for all of this is Jesse Litvak, a former Jefferies Group LLC mortgage-backed-securities trader who was arrested, convicted and sent to prison for lying to customers about bond prices, and who was ultimately released when an appeals court decided that what he did wasn't a crime. He has become so synonymous with the practice that, in a criminal case against other bond traders accused of doing it, prosecutors quoted a customer saying to one of those traders "don't litvak me!" At least in some circles, "litvak" has become a verb meaning to lie to a customer about the price one paid for a bond. What's Jesse Litvak up to these days? Former Jefferies Group LLC bond trader Jesse Litvak, who became a symbol of the hobbled U.S. government crackdown on shady Wall Street trading tactics, said he refused to cooperate with prosecutors because he didn't think he had broken any laws. "I had enough faith to believe that what I did was not a crime, and I didn't want to look back and say what if," Litvak said May 15 at the New York City Bar Association's 8th annual White Collar. … In the end, Litvak said he told his kids "we fought for what we believed in. Yeah, it sucked, dad had to go for a while. But we came out the other side of the rainbow and we won." It sounds a little funny to tell your kids "we fought for what we believed in" when what you believed in was lying to your customers about bond prices. It's an unusual ethos. But I see his point! When he was doing this, he wasn't teetering between Attitude 1 and Attitude 2, knowing that what he was doing was unethical but hoping that it wasn't criminal. He was full-on Attitude 4; his job was to sell bonds for more than he paid for them, and he was good at it, using all the techniques of classical drama to convince his clients that he was taking a loss and doing them a favor when he sold bonds to them at a fat markup. Anyone who has ever won a big poker hand by bluffing will know how he felt. Dishonest, sure, but proud. The mortgage-backed securities market is a zero-sum game between sophisticated participants all of whom are trying to make a profit at each others' expense. What is ethical in a market like that depends in an essential way on the internal conventions of the market, not on the common-sense morality of outsiders. (What is legal generally depends on outside law, though often that law defers to market practice in concepts like "materiality" and "reasonable reliance.") If everyone gets together and is like "hey you know what would be fun is to try to trick each other all the time, let's do it," then, sure, why not let them? If everyone had Attitude 4, if Litvak's victims, when they found out about his markups, were like "wow well played, hats off to you," then none of this would be a problem. The actual problem was of course that attitudes about this, even within the mortgage bond market, were all over the place, and some of the people who bought bonds from Litvak were not at all amused. But the problem is not really that one attitude was right and another wrong; it's that the attitudes weren't shared. By prosecuting and drawing attention to these cases, even though they often lost, regulators have solved the problem: Everyone knows what the rules are now, and they are not the ones Litvak believed in, back on the other side of the rainbow. Things happen Women-led hedge funds try to crack the boys' club. First 'Speed Bump' Coming to U.S. Futures Markets. Quants Think Like Amateurs in the World's Wildest Stock Market. The Spectacular Implosion of Dr. Cho's 'Nefarious Network.' PG&E Caused Fire That Killed 85, California Concludes. Opioid Makers Draw Scrutiny From Hedge Funds. People are worried about stock buybacks. Booming Buybacks Aren't Likely to Wane Despite Market Volatility. SEC Slaps Blockchain Author Alex Tapscott, Firm With Fines Over Securities Violations. JPMorgan Chase will invest $125 million in programs to encourage people to save money. D.R. Horton Does Land, Cattle Deals With Sons of Top Executives. A New Diamond-Mining Boat Will Hoover Up Gems Off Namibia's Coast. "Since the dawn of advertising, most beverage products have sought to avoid comparisons between their products and urine." If you'd like to get Money Stuff in handy email form, right in your inbox, please subscribe at this link. Or you can subscribe to Money Stuff and other great Bloomberg newsletters here. Thanks! [1] Though that round was largely secondary—SoftBank bought a lot of stock from existing investors—while all of the IPO proceeds went to the company. [2] Or because I am a former capital markets banker; I am perhaps abusing the word "we" here a bit. [3] There is also an attitude that is like "this is all dumb and if you require prompt public reporting of bond trades then no one will be fooled about market prices because they can just look at the tape." That is how the corporate bond market works, for instance; these cases all come up in the mortgage market just because it is less transparent. This is less of a moral attitude and more of a technical fix, though. |
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