Whistle-blowing A few years ago, Bank of New York Mellon Corp. paid hundreds of millions of dollars to settle charges over a foreign-exchange scandal.[1] The scandal was pretty simple. Some of BNY Mellon's customers—companies and investors who used BNY Mellon as a custody bank and who used its "standing instruction" foreign-exchange product—would come to it during the day to convert currencies, say, to sell euros and buy dollars, or vice versa. At the end of the day, BNY Mellon would do the conversion; it would give the customers their dollars, or their euros. BNY Mellon would do this for free: The customer would get the interbank rate for converting dollars to euros, and BNY Mellon would not add any extra spread or commission. Except there was a catch. The customer would not get the interbank rate at the time it put in its order, or the interbank rate at the end of the day. It would get the worst interbank rate of the day. If on a particular day the euro traded as high as $1.135 and as low as $1.125, everyone converting euros to dollars would get filled at $1.125, and everyone converting dollars to euros would get filled at $1.135. BNY Mellon would pocket not the tiny customary bid/ask spread in the interbank market, but the much larger spread between the highest and lowest prices of the day. One way to think about this is that it is fraud. That is how the Justice Department and the Securities and Exchange Commission thought about it, which is why they fined BNY Mellon hundreds of millions of dollars. Another way to think about it, though, is that it is clever product design. People at BNY Mellon thought about what they cared about, and they thought about what their customers cared about. They concluded that they cared about maximizing their profits on these transactions, but that their customers cared about minimizing explicit fees. The relatively low-level employees at the customer investment firms who did these ministerial foreign-exchange conversions wanted to tell their bosses "we got the interbank FX rate with zero commission," because that seems like good performance. Every day they really did get the interbank rate—well, an interbank rate—with zero commission. Their preferences were satisfied. Meanwhile BNY Mellon got the highest possible profit consistent with giving customers an interbank rate with zero commission. I want to be clear that thinking about this as good product design is the wrong way to think about it. For one thing, it is a bad product for BNY Mellon's ultimate customers, for the beneficiaries of the investment firms whose money it was converting. (They got a worse rate than they would have gotten if BNY Mellon had used basically any other conversion method.) At best, BNY Mellon was exploiting a principal-agent conflict: It was giving its direct human customers what they wanted to impress their bosses, even at the expense of making those bosses worse off. This is kind of icky, though it is also a very common approach in financial-product design. But even that is too generous to BNY Mellon, because it is not like they advertised this. The SEC's and DOJ's best argument that it was fraud is that BNY Mellon pretty blatantly lied about it; their marketing materials talked a lot about giving customers "best execution," which is a somewhat amorphous term but obviously does not include this. This was fraud, you should not do this, do not take this as a lesson in financial-product design. Still I wanted to give the product-design perspective to try to explain both why it happened, and why this happened: A former trader at Bank of New York Mellon Corp. who alerted authorities to the bank's pattern of overcharging big clients on currency trades was awarded a $50 million whistleblower payment Thursday. The award, the largest of its type made by the Securities and Exchange Commission, comes more than a decade after the trader, Grant Wilson, began assisting authorities with the currency-trading investigations, according to a person familiar with the matter. The bank paid $714 million in fines and other compensation in 2015 to resolve allegations it defrauded pension funds and other clients related to currency transactions. A standard move in financial-product design is to ask, essentially, "how can we make the most possible money without our customer noticing?" This is not necessarily bad! What you want, in the good case, is to monetize something that the customer doesn't want, doesn't care about, doesn't have a view on. You want to buy some small option from her that she can't monetize but that you can. You want to make money off her trade that she couldn't have made; you want to make money for yourself without taking money from her. I mean, ideally. You at least want to make money for yourself without taking money that she'll miss. So when I worked in investment banking I sometimes did a trade called an accelerated share repurchase. The way an ASR basically works is that a company gives a bank a mandate to buy back stock for it over some variable period of time, say two to four months. The company pays the bank the average price of the stock over that time period. But the bank picks the time period: The company and the bank agree on "two to four months," and then the bank goes off and buys stock, and at any time after two months but before the end of the fourth month the bank can say "okay we're done, here's your stock." The company pays the bank based on the average trading price of the stock over whatever the period actually was, two months or four or whatever in between. The company pays no commission, and actually gets a discount: Instead of paying the average price, it pays the average price minus, say, 25 cents per share. The pitch here is: Look, you don't care about the difference between two and four months. You don't have a view about whether to do this buyback quickly over two months or more slowly over four; you'd just be flipping a coin about that decision. Let us make that decision, instead of you, and we'll pay you for it, 25 cents a share. We'll buy something—this timing option—that you don't want and couldn't use anyway. The trick is that the bank tries to pick the period that gives the company the worst possible average price.[2] The bank, trying to maximize the price at which it sells stock to the company, will in expectation pick a worse buyback period than the company's assistant treasurer would have done randomly. The company will pay a higher price. But it won't notice that. It will pay the average price of its stock over some reasonable time period, minus a discount. Its alternative was to pay the average price over some different, somewhat arbitrary, reasonable time period, with no discount. The latter would probably be a lower price, but maybe not, and the company has no particular expertise in picking the right time period. Might as well give up the chance to try in exchange for a discount. This is all disclosed—I mean, the mechanics are disclosed; it's rarely put too bluntly—and the company is paid an explicit discount, but the basic idea is not so far from BNY Mellon's scandal. "Look, customer," BNY Mellon could have said. "You're going to come to me at some point during the day, say 11:37 a.m., asking to buy euros. You are not coming to me at 11:37 a.m. because you think that's the optimal time to buy euros. You're coming to me at 11:37 a.m. because that is the time you have between the investment meeting about European stocks and your lunch appointment. You do not want the FX rate at 11:37 a.m.; you do not have any views on 11:37 a.m. Let me pick the time—within the same day—to lock in your FX rate. I am not going to do that in a good way, for you. I am going to do it in a bad way, the worst possible way, the way that makes me the most money and costs you the most. But, again, it's not like you have any desire or ability to pick the best time to buy euros, so just sell that option to me. And I'll pay you for it, by not charging you a commission." Again, BNY Mellon didn't say this—they just lied about "best execution"—and they probably didn't pay customers anything like the fair value of that option. (They charged zero commission, but the timing option was probably worth much more than a normal commission or spread would have been.) But if they had said it, maybe there would have been takers? At some price? Maybe it's a good product? Many scandals in high-frequency trading also look like this. You go to your broker, you put in your order, you get it filled at better than the national best bid or offer, you pay no commission. Shadowy events transpire in which the high-frequency trader filling your order somehow makes a profit, but you do not notice because the price of your fill seems to be better than the price displayed on the exchange. Sometimes this is because the HFT is good and kind and treating low-information retail orders nicely; other times it is because, like, the price displayed on the exchange is stale. Either way the point is that the HFT's profit occurs in a way that is invisible to you, and that does not make you visibly worse off. You got a price that was as good as, or better than, the price you reasonably expected, the price you saw on your screen, the price you measured your performance against. As far as you're concerned you did great. The thing that you are buying is not optimal absolute performance, but optimal performance measured against what you can see and care about. If there's a gap between what you see and care about, and what makes the most absolute money, that's where some financial intermediary can get rich. My particular point here is that if you marinate in this sort of Wall Street product-design mindset for long enough, lucrative new opportunities open up to you. You can make $50 million as a whistle-blower, for instance! This is the sort of case that needs a whistle-blower because BNY Mellon made money in a way that was designed to be, and mostly was, invisible to its customers. It sold this service precisely to the people who weren't monitoring intraday FX prices and choosing the optimal execution time; customers who did take a view didn't use the "standing instruction" product (they just put in spot FX orders), so the customers who were harmed here were the ones who wouldn't miss the money. If the authorities want to crack cases like this, they need people who are trained to find these sorts of invisible profit opportunities. If you can develop this sort of mindset, you can get rich in financial product design; if you can then un-develop it, you can get even richer as a whistle-blower. Everything is securities fraud These almost write themselves by this point. In April, the U.S. government launched a Paycheck Protection Program in which banks would make loans to small businesses to keep them going during the Covid-19 shutdowns, and then the government would repay those loans if they ended up being used to keep employees on payrolls. The launch of this program was difficult and controversial, partly for the reasons any new program is difficult, and partly for the specific reason that big banks seem to have made PPP lending decisions based on their convenience and existing business relationships and not on popularly appealing criteria like how small and sympathetic a business was. So the local mom-and-pop ice cream shop had trouble getting a PPP loan from a big bank, but public companies and chain restaurants did end up with these small-business loans. People are suspicious of big banks and so there were critical articles about this, and of course the small-business owners who didn't get money were mad. (Another round of loans eventually launched, and that seems to have gone better.) You could have various reactions to this: "Meh this is life in a public-private partnership, doesn't seem too bad," "the small business owners who were frozen out should sue," "Congress should legislate to break up the big banks and make them really serve the people," or, I don't know, a whole lot of other possible views on the relationships among government aid and small business and big banks and regulation. Realistically though you can't expect too much to happen: Legislation is just not something that really happens in America anymore, and frozen-out small businesses will probably prefer to spend their time seeking PPP loans elsewhere, and trying to keep their businesses alive, than suing big banks for denying them loans. (And since they mostly could get PPP loans elsewhere, eventually, it's not clear what damages they'd sue for.) In other words, the PPP rollout arguably went badly, but there is no obvious remedy for that; no powerful relevant actor was harmed enough by the failings of the PPP rollout to do that much about it. Except, except, except, except, the universal postmodern vindicator of American rights: On June 4, 2020, a plaintiff shareholder filed a securities class action lawsuit in the Northern District of California against Wells Fargo, Charles Scharf, the company's CEO, and John R. Shrewsberry, the company's CFO. The company is filed on behalf of a class of investors who purchased the company's securities between April 4, 2020 and May 5, 2020. The complaint alleges that the defendants violated Sections 10(b) and 20(a) of the Securities Exchange Act of 1934, and Rule 10b-5 thereunder. The plaintiff seeks damages on behalf of the class. Specifically, the plaintiff alleges that the Defendants made misleading statements or failed to disclose that: (i) Wells Fargo planned to, and did, improperly allocate government-backed loans under PPP, and/or had inadequate controls in place to prevent such misallocation; (ii) the foregoing foreseeably increased the Company's litigation risk with respect to PPP allocation, as well as increased its regulatory scrutiny and/or potential enforcement actions; and (iii) as a result, the Company's public statements were materially false and misleading at all relevant times." Wells Fargo & Co. is a big bank that made a lot of PPP loans, but it is also a public company. Arguably the PPP rollout was bad. If a public company does a bad thing, that is also securities fraud, as I write almost every day now. If Wells Fargo prioritized PPP loans to bigger businesses or its best relationships, rather than to small mom-and-pop businesses, and that comes out and people get mad at Wells Fargo, the victims in the best position to sue are Wells Fargo's shareholders. (Just as, if a company has a long history of harassment and discrimination against female employees, the people who sue and get paid are the shareholders, not those employees.) I don't know? Mostly this troubles me, but I guess there's a bright side. The bright side is that anything bad that a public company does will be punished, by the inexorable force of securities-fraud lawsuits, even if it isn't illegal or is hard to prove or whatever. Like you could imagine this stylized dialogue: Bank chief executive officer: Let's do a terrible thing. General counsel: We shouldn't. CEO: Is there an explicit law against it? Will we go to prison or be fined or shut down for doing the thing? GC: No actually we can do this within the letter of the law, but we still shouldn't. CEO: Why not? GC: It will look bad. It will be bad public relations; journalists and activists and politicians will get mad at us. CEO: We are a big bank, everyone's mad at us all the time anyway, who cares. GC: Well if we make people mad about a new thing, we'll get a new securities-fraud lawsuit and have to pay some money. CEO: So it will cost us money to do the terrible thing? GC: Yes, definitely. CEO: Oh fine it's not worth it. On the other hand Wells Fargo probably didn't set out to make PPP loans by saying "let's do a terrible thing"; they probably set out thinking "let's participate in a government program to help small businesses." The government explicitly relaxed some rules to encourage banks to make PPP loans aggressively without having to worry too much about getting in trouble for being too aggressive; the goal was to get the money out, not to be perfect. But one lesson of "everything is securities fraud" is that you always have to be perfect, or it's securities fraud. Simon v. Gap Gap Inc. runs clothing stores in malls. Simon Property Group runs malls. A lot of clothing stores in malls, and a lot of malls for that matter, have been closed during the Covid-19 crisis. When Gap's stores are closed, it doesn't get money from selling clothes in those stores, so it does not want to pay rent to the mall owners for those stores. The mall owners—like Simon—would prefer to receive the rent anyway. This is not a conflict that admits of too many mutually beneficial solutions; this is not about splitting the gains from an exciting new business opportunity, but about splitting the losses from a pandemic. Some—many—landlords and tenants will come to some agreement that shares the pain, but it isn't a surprise that some won't: Simon Property Group, the country's largest mall owner, filed a lawsuit against Gap Inc. on Tuesday over unpaid rent and other charges it says amount to $66 million. In the filing, Simon Property said the retailer has withheld rent for April, May and June. The landlord is seeking to be paid rent for those months, as well as attorney fees and other charges, according to the lawsuit. "The requirement that The Gap Entities timely pay rent due under the leases has not been excused," said the complaint, which was filed in the Superior Court of the state of Delaware. I do love this though: Gap spoke generally about its landlords on its first-quarter earnings call Thursday, but didn't mention Simon by name. "We're just knee deep with all the landlords today," Chief Financial Officer Katrina O'Connell said. "It's very hard to say how long it will take, but I do know that one of our primary objectives is to use this opportunity to partner with our landlords to come out with a better profitability for the company." What a great way to say "we're going to use our inability to pay rent to try to negotiate for lower rent." "Partner with our landlords"! "Better profitability"! The language of sharing the mutually beneficial gains from exciting new opportunities is so ingrained in business that you use it even when a global plague shuts down your stores so you can't pay rent and your landlord sues you. Magic: The Gathering Online Exchange Here's a company that will apparently let you buy fractional shares in Magic: The Gathering cards. Questions? So Mythic Markets bought this collectible and is selling pieces of it?
Yep, you got it. Mythic Markets also stores and maintains it in an effort to protect it from damage. What if I want to sell my shares? How would it work?
We intend to offer a secondary trading market. We'll keep you updated as we get closer to releasing this feature. The heading of this section is course the original full name of Mt. Gox, the famous Bitcoin exchange that eventually met the fate of all Bitcoin exchanges (imploded, Bitcoins stolen), but that was originally a Magic: The Gathering trading site. I do not know what it is about Magic: The Gathering, but now I suppose another exchange is coming for securitized Magic cards. Securitized, but not tokenized. From the FAQ: Is this a blockchain or crypto thing?
No. Mythic Markets is an issuer of real United States securities. The platform is not built on blockchain and we do not issue crypto or tokens for our assets. Man. I can't think of a clearer sign of the end of blockchain mania than that. Someone is starting an online exchange to trade fractional interests in Magic cards, and not putting it on the blockchain. Explicitly saying that it's not "a blockchain or crypto thing." When you've lost the traders of securitized Magic cards, it's over. Things happen U.S. Hiring Rebounds, Defying Forecasts for Surge in Joblessness. Fed Vow Boosts Debt Binge While Borrowers Cut Thousands of Jobs. ZoomInfo Soars in Trading Debut. Brighter outlook prompts banks to move mountains of 'hung' loans. Tech Company Cries Foul on Pandemic Trading Suspension. Hong Kong's dollar peg faces new scrutiny as security law looms. Private equity investments may be coming to your 401(k). The Expat Life Is Struggling to Survive Covid-19. Introducing Machine Learning to Corporate Fraud Detection. Las Vegas Casinos Reopen With Social Distancing, Sinks by Slot Machines. Italians Are Rushing to See the Sights Before Tourists Flock Back to Rome. Elon Musk Calls for Amazon Breakup in Latest Spat With Jeff Bezos. A Goldman Executive Has Advice for His White Colleagues. What Happens When It Is the Police Who Riot in the Streets? Put Colin Kaepernick in the Hall of Fame. 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] Totally different from the other big recent FX scandal, which involved pre-hedging the fix, though that has some overlap with the mechanisms I discuss below. [2] Intuitively, the bank starts buying at a three-month rate. (Like, divide the amount of stock to buy by the number of trading days in three months, and then buy that much each day.) If the price drops over the first two months, so that the spot price is below the average price, the bank buys in the rest of the stock rapidly, declares the program finished, and sends the company a bill based on the two-month average price of the stock. The bank's price is below the average, because its buying was weighted toward the end, when prices were lower. If the price rises over the first two months, so that the spot price is above the average price, the bank has already done two-thirds of its buying. It slowly does the rest of the buying over the remaining two months, and then sends the company a bill based on the four-month average price. The bank's price is below the average, because its buying was weighted toward the beginning, when prices were lower. Reality is more complicated than this, and the bank is actually dynamically hedging a floating-strike put, but this is the basic idea. I've written about ASRs in more depth here. There is also an accounting component—the company gets to retire the shares early for earnings-per-share purposes—which you could analyze as a matter of agency costs. (The company's executives like higher accounting EPS even if it does not actually improve the economics of the company for shareholders.) | 
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