Live Well If you work at a financial firm, and you get an email from your boss saying that he has come up with a "self-generating money machine," is that a good thing or a bad thing? On the one hand, just, I mean, you know, a self-generating money machine sounds good; your business is to generate money, and if the machine could do it for you then you could have a lot of it and also spend more time with your family. On the other hand, ahhhh, come on, no. You plug in the "self-generating money machine," it hums to life, then the lights suddenly go out and when they come back on you're in prison. This civil and criminal fraud case against Live Well Financial Inc. is pretty nuts! From the U.S. Securities and Exchange Commission: According to the complaint, [Chief Executive Officer Michael] Hild directed Live Well to submit falsely inflated bond prices to an industry-leading pricing service, who he knew would simply publish the prices Live Well gave it. As Hild was aware, most of Live Well's lenders relied on those inflated prices in loaning money to Live Well through repurchase securities transactions. Through this alleged scheme – which Hild called a "self-generating money machine" – Live Well was able to borrow tens of millions of dollars more from its lenders through the securities transactions than it could have borrowed had the bonds been priced accurately and was able to fund lavish compensation packages for Hild and others. According to the SEC complaint, Live Well was "a reverse mortgage originator and the owner of an investment portfolio of bonds." The bonds were reverse-mortgage-backed securities, and it funded the portfolio through repo agreements, in which a few counterparties gave it loans for 80-90% of the value of the bonds. The value of the bonds fluctuated, which meant that the amount of financing fluctuated, which Live Well didn't like: If the value of its bonds went down, the repo counterparties would issue a margin call and Live Well would have to come up with more money on short notice. What Live Well wanted was a bit more stability. And so this insane thing allegedly happened: Beginning in January 2015, Live Well began receiving regular margin calls from its repo lenders resulting from small fluctuations in the Pricing Service's values. The margin calls by the repo lenders, although relatively small, were unpredictable and put a strain on Live Well's liquidity. Hild resented them because of their impact on Live Well's finances and operations. Hild instructed [Darren] Stumberger, Live Well's portfolio manager throughout the relevant period, and the other members of Live Well's trading desk to find a way to stop the Pricing Service's value fluctuations which were triggering the margin calls. In February 2015, after a series of conversations with Live Well regarding the strain of short-term price fluctuations, the Pricing Service agreed to begin publishing the quotes Live Well provided to it without any additional evaluation, rather than the Pricing Service's own independently determined values. In a February 2015 email received by Hild and [Chief Financial Officer Eric] Rohr, Stumberger explained: "We will be supplying prices daily to [the Pricing Service] and [the Pricing Service] will use these… They will use the prices verbatim and not model these bonds until we are interested in them doing so." I … would … like to … read more about this negotiation? Like oh sure Hild and Rohr and Stumberger and Live Well have been charged with fraud, and Rohr and Stumberger have pleaded guilty, but what was the "industry-leading pricing service" thinking? The point of a third-party pricing service is that it provides some independent outside check on the prices of bonds, so that repo lenders who lend 90 cents on the dollar can be confident that the bonds they're lending against are worth a dollar. Why would you just let the borrower make up the number? Sometimes a bond will be obscure and thinly traded and you'll have to rely on one dealer's quotes, but Live Well was not a bond dealer, and these all seem to have been Ginnie Mae mortgage-backed securities; it is pretty strange to outsource the valuation to Live Well. Anyway the original point of this seems to have been just to smooth out fluctuations and prevent margin calls, which is bad but understandable. But once you get to make up the prices, you might as well make up really high prices to borrow a lot of money: In September 2015, Live Well, at Hild's direction, stopped sending quotes to the Pricing Service representing "market value" or "exit price" of bonds, and, instead, started submitting inflated quotes. This practice came to be referred to internally at Live Well as "Scenario 14." … After Live Well began using Scenario 14, the quotes that it submitted to the Pricing Service were on average 29 percent higher than Live Well's purchase price, even though Live Well purchased those bonds in arms-length, orderly market transactions. Many of the inflated quotes were sent in by Live Well the same day that it contracted to purchase the bonds but prior to settlement. I wonder what Scenarios 1 to 13 were. Was Scenario 1 like "operate a sound business according to the strictest principles of fair play and honesty," and Scenario 13 like "murder for hire," and then they hit on this one? Anyway: As Live Well Employee 1, a junior trader who reported to Stumberger, stated in a September 2015 email: "Basically with [Hild's] new methodology when we buy something, he looks at how much he can immediately write it up and in turn . . . get cash lending against it…." As a result of the shift to Scenario 14 and relationships with repo lenders that relied on the valuations published by the Pricing Service, Live Well was able to purchase bonds entirely with loan proceeds, i.e., without having to contribute any of its own capital. In fact, Live Well would typically wind up with surplus loan proceeds that would be available for other business expenses, including compensation. If you buy a bond for $12 million, you tell your lenders that it's worth $15 million, and you borrow $13.5 million against it, then you get the bond for free and you have an extra $1.5 million. Might as well pay yourself a nice bonus. It really is a self-generating money machine! Hild described the bond mismarking scheme as "a self-generating money machine." This description was apt, in that virtually every bond purchase by Live Well following its implementation of the scheme was fully covered by the loan proceeds, and, in fact, generated extra cash for Live Well. Consequently, Live Well went on a buying spree and its bond portfolio ballooned from a value of $71 million to more than $570 million—as reported by Live Well—in just 18 months. The problem is that it's not really free: You will eventually have to pay back all the money you borrowed, and it will be super awkward when you tell your lenders that you don't have it: In the fall of 2018 and spring of 2019, Repo Lender 3 and Repo Lender 4, respectively, sought to verify the values upon which their financing to Live Well was based. Repo Lender 3 and Repo Lender 4 independently determined that the bonds were worth much less than values published by the Pricing Service. Repo Lender 3 and Repo Lender 4 separately informed Live Well that they wanted to discontinue the financing to Live Well. Live Well responded that it lacked the liquidity to repay the lenders. ... On May 3, 2019, Live Well announced that it was winding down its operations and terminating all of its employees. In its May 2019 financial statements, Live Well wrote down the mark-to-market value of its portfolio by $141 million. But it would have been pretty awkward to have this conversation like two weeks into the scheme, too. Once you start on this path, there is nowhere to go but deeper in. Fake gold "A forgery crisis is quietly roiling the world's gold industry," it says here, but it's not what you might think. It's not, like, people are getting bars of lead or chocolate and passing them off as gold. "Fake gold bars - blocks of cheaper metal plated with gold - are relatively common in the gold industry and often easy to detect." This is not a story about fake gold, it is a story about faked provenance of gold: The counterfeits in these cases are subtler: The gold is real, and very high purity, with only the markings faked. Fake-branded bars are a relatively new way to flout global measures to block conflict minerals and prevent money-laundering. Such forgeries pose a problem for international refiners, financiers and regulators as they attempt to purge the world of illicit trade in bullion. High gold prices have triggered a boom in informal and illegal mining since the mid-2000s. Without the stamp of a prestigious refinery, such gold would be forced into underground networks, or priced at a discount. By pirating Swiss and other major brands, metal that has been mined or processed in places that would not otherwise be legal or acceptable in the West – for example in parts of Africa, Venezuela or North Korea – can be injected into the market, channeling funds to criminals or regimes that are sanctioned. In the very long run, it seems like the financial system mostly evolves away from fungibility and irreversibility and toward tracing and provenance. The first gold coins were just worth their weight in gold, and the king's head stamped on them was mostly symbolic, not a guarantee of value; now money is worth what it's worth because the state says it is. In the olden days there were lots of bearer bonds, and if you had the piece of paper representing the bond, then you could get paid for it; now bonds are mostly registered, and if you want to cash in a bond you have to have acquired it through an approved and traceable series of transactions. We use less cash (an anonymous negotiable bearer instrument whose transactions tend to be irreversible) and more credit cards (which have your name on them and allow charges to be disputed). Even Bitcoin, which is in a sense meant to be "digital cash" that can be spent by anyone who has its private key in irreversible transactions, isn't quite a substitute for cash: You can, if you want, trace the provenance of a Bitcoin, and there are those who argue that Bitcoins might eventually stop being fungible, as Bitcoins that have passed through illegal transactions become less valuable than those with pristine provenances. Plus when all of our lives are on the blockchain, then all of our financial transactions will carry data with them. There is just more information in the world, and computers make it easier to keep track of, so we do, and our money ends up carrying more information. There are some real conveniences to having a dumb mute negotiable anonymous way to make payments, but still we keep moving away from it. Anyway now just bricks of pure gold are worth more or less depending on what is stamped on them and who did the stamping! Weird times. Robot sales I wrote recently: The trading business of a bank is about buying and selling securities from and to customers. A big part of the job is just knowing who has what and who wants what; if you know that Client A is desperate to unload some bonds and Client B is desperate to buy some of the same bonds, then you can buy low from Client A and sell high to Client B and have a nice little trade for yourself. When I lay it out schematically like that it sounds easy, but all the hard grueling work is really about befriending Client A and Client B, understanding their preferences, getting them to open up to you about what they're looking to do, building a nuanced sense of how they think and what they want. It is a game of collecting information, knowing who might want that information, and putting it to use for profit. Well, yeah, about that: UBS has created a machine-learning algorithm that shows its salespeople the most likely counterparty to buy or sell a bond. … UBS's new system makes finding a match for a bond trade easier and quicker and has reduced the average number of calls a salesperson needs to make from five to three, according to Chris Purves, head of the bank's Strategic Development Lab. The Swiss bank started rolling out the tool, known as Client Scout, in May after testing it earlier in the year. It sends an alert to the bank's salespeople informing them UBS has a certain position and suggesting the most-likely candidates for the trade, ranked by percentage probability of a match, according to Purves. "This tool is as good as the best salesperson at knowing who to contact to get a trade done," he said. "It brings everyone up to that level." You still need the salespeople. "There is a fine balance between human and machine with sales because persuasion, judgment, knowledge and human contact are important, especially in less liquid markets," says a banker. The robot is probably not yet perfect at figuring out who should buy the bonds—it's cut the work from five calls to three, not one—and even if it one day does become perfect, someone will still need to make the phone calls. Someone will need to take the customers out to dinner so they'll take the phone calls. Someone will need to ask the clients what bonds they have and what bonds they want, so that data can be fed into the robot's system. Still it's a change. As in so many areas at investment banks, the job requires some combination of analytical skills and creativity and people skills. But also, and arguably at the core, the job is about being a bearer of knowledge, about having the long experience and deep connections and market judgment and so forth that basically reduce to knowing who owns all the bonds and who wants them. Now you can get a computer to do that. Elsewhere at the SEC Look, sure, this is the last week in August and everyone you know is at the beach, but the Securities and Exchange Commission operates on a different calendar, and for the SEC this week has a different significance. Specifically, the SEC's fiscal year ends on September 30, and so late August marks a mad rush to get all the enforcement actions done. So if you want to get a sense of, like, the state of securities fraud in 2019, head on over to the SEC website right now. Besides Live Well, there are "Bitqyck Inc. and its founders, who allegedly defrauded investors in securities offerings of two digital assets, Bitqy and BitqyM, and operated an unregistered exchange to permit trading in one of them, a digital token called Bitqy." It combines that painful spelling with a real jackpot of questionable crypto jargon: The SEC's complaint alleges that Bise and Mendez misrepresented QyckDeals, a daily deals platform using Bitqy, as a global online marketplace, and falsely claimed that each Bitqy token provided fractional shares of Bitqyck stock through a "smart contract." The complaint alleges that the defendants falsely told investors that BitqyM tokens provided an interest in a Bitqyck cryptocurrency mining facility powered by below-market rate electricity. In reality, Bitqyck did not have access to discounted electricity and didn't own any mining facility. And then in more throwback scams, there's an investment adviser accused of "defrauding investors, most of whom were retired NFL players who had joined a class-action lawsuit against the league claiming they suffered brain injuries as a result of concussions," and someone who allegedly "fraudulently raised hundreds of millions of dollars from investors by claiming to offer investors an opportunity to make short-term, high-interest loans to parties seeking to acquire California alcohol licenses." TBAC I'm sorry I can't stop laughing at the Bloomberg headline "Mnuchin's Bond Advisers Poised to Give Ultra-Longs Thumbs Down." Because I willfully misread it as "Ultra-Long Thumbs Down." Like, U.S. Treasury Secretary Steven Mnuchin has a group of close advisers, and they are all distinguished by their freakishly long thumbs, and when they don't like a policy they signify it by solemnly extending their hands and pointing their enormous digits at the floor. But in fact that is wrong. They have normal thumbs. They are the Treasury Borrowing Advisory Committee, the group of bond investors and banks who advise on Treasury issuance, and they don't like the idea of a 50- or 100-year U.S. Treasury bond. Fine. Less interesting. For myself I am fond of the idea of Treasury perpetuities, as John Cochrane argues for here; it has the administrative and liquidity benefit of replacing a bunch of long bonds with a single perpetual bond (if you want to sell more, you just reopen the single perpetuity rather than issuing a new non-fungible bond), and the aesthetic benefit of being sort of old-timey and quaint. (Consols! "Perpetuities actually came before long-term bonds," notes Cochrane. "They were the cornerstone of UK finance for the entire 19th century.") Things happen Aramco Proposes Two-Stage IPO, Shunning London, Hong Kong. Ray Dalio's Flagship Hedge Fund Has Fallen 6% This Year. Good Writers Make Better Hedge Fund Managers. Alphabet Dips Its Toe Into Infrastructure Investing. Honeywell Won't Face SEC Charges Related to Asbestos Accounting. Models, Musicians Face Lawsuits Over Fyre Festival Payments. 15 Minutes to 'Mayhem': How a Tweet Led to a Shortage at Popeyes. The Sacrificial Rites of Capitalism We Don't Talk About. A mom with a license plate that reads 'PB4WEGO' wins a battle with the state to keep it. 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! | 
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