Tuesday, March 25, 2008

Blinded with Science?

Am I the only adult in the Western world who doesn’t quite understand how so many leading financial institutions got themselves in so much trouble and why that trouble seems to be accelerating as of late? Reading the newspapers, it certainly seemed so, but it appears that I am not, at least in this case, suffering from a substantial intelligence deficit. Instead it appears that arcane, indeed near mystic, arts applied to the business models of many leading financial institutions may be the issue. Not that they will admit to it of course. The problem, according to the great Wall Street firms, all stems from foolish consumer borrowing. On the plus side, this has the ring of credibility since most people regard “others”, at least in the abstract, as entirely capable of vast degrees of foolishness. However, if the borrowing was so obviously foolish, why were the Wall Street titans buying the debt?



Apparently there is a case to be made that the Wall Street kingpins may not have entirely understood their exposure. This may also be a leading reason why there is little explanation from the likes of Citigroup and Bear Stearns about “how it all happened”. Rick Bookstaber’s seemingly prophetic 2007 “A Demon of Our Own Design”, did much to outline how the increasingly specialized and sophisticated financial constructs, akin at times to the spice dependent navigational techniques of the Spacing Guild in Frank Herbert’s “Dune” series, are creating substantial risk that few other than the “quants” that construct such devices can begin to understand.



In summary, it looks like the alchemistic formulae employed by Wall Street to develop ever more specialized financial instruments may have multiplied inherent and widely understood market risks, added debt loads beyond what investors would generally deem entirely prudent, and minimized the number of people who may understand the level of risk being developed. That’s nothing new. Those of us of a certain age remember similar critiques applied to Neolithic junk bond traders, and even more recently there was a collective head-shaking around the so-called “dot.com bubble”. But Wall Street's great trading houses are doing little to allay fears of further failures and, in failing to explain in terms that even network news anchors can understand what led to their over-exposure and how they intend to mitigate that risk, are encouraging increased fear and more talk of recession.

To help me better understand the cause of these current difficulties and what was likely to happen next, I turned to the Bloated Plutocrat, whose recent harumpfing on the subject suggests that he has not been negatively impacted by the credit crunch or the gargantuan debt write-offs on the Street. His take was not entirely candid however. “The problem with the golden youths who imagine that they move markets today is that their experience amounts to a drop of water in New York harbor. The simple fact is that there are simple ways to make money that virtually anyone can understand. “Buy low, sell high” is not just some t-shirt aphorism. If you don’t understand what you’re investing in, the chances are rather good that you will soon be shirtless. Investing in mechanisms that require a greater knowledge of higher math than use of common sense will yield results accordingly”. From this, I took it that the Bloated Plutocrat had gotten out of mortgage heavy mutual funds and other instruments some time before mid 2007 and was feeling particularly smug about doing so.

The Bleeding Heart was not much more helpful. “The teetering house of cards made up of our Wall Street financial institutions has brought this plague upon themselves and were it not for the many small investors who will pay the price for their arrogance, I could care less. This situation highlights the need for greater regulation and oversight by the government. What these quantitative analysts call “innovation” is no more than a somewhat ritualized form of gambling – with other people’s money! Now is the time that Congress should intervene and, following intensive investigations into the cause of these failures, develop a raft of new regulatory measures aimed at diminishing the negative impact of these highly speculative financial transactions on the common man." From this, all I could really gather was that the Bleeding Heart was unhappy about recent developments in the adjustable sub-prime mortgage that he had used to buy his Connecticut dream home with in 2006…

It seems that what the Street needs right now are fewer math geeks and more oily flaks. The Street can’t reverse the losses caused by its speculations in the mortgage markets, but if they would at least put some glad handing, smooth talking flaks out there to calm investor fears and mitigate the multiplying media frenzy, they might arrest the headlong run towards “recession” that the media and pundits seem hell-bent on getting.

1 comment:

Searching the Rural Sinecure said...

Teams of flaks can only put so much lipstick on a pig.

While the Wall Street’s finest continue to investigate their navels in hope of understanding, the true swine are left blameless and in fast pursuit of my tax dollar. Personal responsibility seems to have fallen short of the requirement to regard a variable-rate, ten year balloon note as a precarious financial pact for the all American dual income family just able to scrape together a down payment for their tornado target.

Time to guss up the rental properties…