Washington Post Columnist
Wednesday, September 2, 2009 11:00 AM
Washington Post business columnist Steven Pearlstein was online Wednesday, September 2 at 11 a.m. ET to discuss how Wall Street-types whose behavior contributed to the crisis are now coming back for a second bite at the apple.
Read today's column: So You Just Squandered Billions . . . Take Another Whack at It.
A transcript follows.
Irvine, Calif.: These guys just got lucky or had connections to be in the right place at the right time. Someone gave them the balance sheets to play the game. Blame their bosses, risk managers, the accountants, the SEC, the rating agencies, the regulators, Basel I, the politicians that voted to repeal Glass Stegall, etc. Plenty of greed to go around.
These guys are teeing it up for a liquidation and creditor haircut (financed by the taxpayer). All about making money on the trade and personal gain. Just make sure it's their money at risk.
Steven Pearlstein: Actually, there will be some of their money at risk, but the way the fee schedule is set up, they manage to scrape buy if money is lost and make a huge score if things go their way. Its not exactly heads I win tails you lose, but its a close cousin.
Example: At PennyMac, Kurland and his management team and a group of original investors set up two companies that get fees for managing the loans that the public REIT buys. As long as there are loans with outstanding balances, they collect those fees. And there are incentive fees if they can avoid foreclosures and people falling behind.
Falls Church, Va.: Mr. Pearlstein,
Thank you for the article. The promoters of financial bubbles are, by definition, unprincipled. However, was there any thing in the behavior of these individuals that was illegal? If so, why aren't the authorities prosecuting? If not, what form of legislation would you suggest to prevent this type of behavior in the future? At best, are you stuck advocating for compensation rules that tie gains to long-term performance of financial assets?
Steven Pearlstein: I have no reason to believe anything any of them did was illegal. And I'm not sure there is anything that should be done to prevent them from profiting on the rebound from the crisis they helped to create. It's a free country with a capitalist system. But because it's a free country, they're free to try to make money from the misery they helped to cause and I'm free to write about it. You'd hope people would have the good sense not to invest with them, and you'd wish they had the good grace to take their money and move up to Vermont and open an inn or something, or volunteer at Teach for America, or somehow put their money and talent to more socially useful endeavors, considering the financial carnage they've caused. But if they don't feel any shame, there is nothing we can do to legislate or regulate it into them.
Having said that, the SEC might look at disclosure requirements for people trying to raise money from public or private investors, so that they have to give FULL and COMPLETE and ACCURATE descriptions of how their businesses and portfolios performed in the past. I'm sure the SEC is pretty lax on this right now, given what I see on the web sites of some of these new funds.
Fairfax, Va.: Looks like the wild risk taking (with someone else's money) and taking a huge cut of the short term profits that may bring in, is not likely to go away.
1) What is the Obama administration doing to prevent 'Too Big To Fail' companies from cropping up (and failing) again ?
2) What kind of financial disincentives can be put in place with the current laws that would reduce this 'take huge risks', 'get huge bonuses' , 'walk away while the company self destructs' culture?
Steven Pearlstein: The one big idea that is being pursued pretty aggressively is to make sure that the incentive bonuses are stretched out over a longer period of time so that if the company self-destructs, to use your phrase, the bonuses go away or are clawed back in some fashion. Everyone seems to agree in principle now, but there's a fair amount of too-ing and fro-ing about the details. Someone, the time horizons on most proposals go out only three years, which we know from experience isn't long enough.
As to "too big to fail," we're obviously moving in the other direction right now as the failing banks are being gobbled up by the strong ones, which is the way to keep down the cost to taxpayers. The Treasury wants to impose higher capital requirements (i.e. lower return on equity) to the biggest banks, to reduce the odds of a rescue. Myself, I'd prefer something like a transaction tax that might discourage excessive short-term trading and provide revenue for a rescue fund that is available for rescues of banks of all sizes.
Sam Beckett: All of old. Nothing else ever. Ever tried. Ever failed. No matter. Try again. Fail again. Fail better.
Steven Pearlstein: Actually, we should remember that one of the strengths of the American business sector is that we honor failure -- entrepreneurs who start a business, fail, and try again. So why don't we honor these financial geniuses who fail and try again? It's a good question, but the answer has a lot to do with the difference between trying to create a company that itself creates jobs and real value for consumers and shareholders, and financial speculation and financial engineering that, when taken to extremes, produces little of that. These guys showed very poor judgment, they probably knew things were going to blow up and thought it would be okay as long as they themselves got out in time, and the hell with everyone else. Failed entrepreneurs don't tend to cause problems for people other than their own investors and employees. These guys collectively brought the global financial system to its knees and triggered a global recession.
Boston, Mass.: Great piece today - just like their Wall Street companies, the fat cat individuals not only don't suffer but seem to be rewarded for and insulated from their own failure and disasters. Along that line, I read that lots of the Enron traders who participated in the fraud in the CA electricity markets ended up on Wall Street post-Enron bankruptcy creating and selling derivatives, many of which contributed to the current financial crisis. While it wouldn't surprise me, do you know if it's true and isn't that pretty telling as well?
Steven Pearlstein: Not aware of that story. Where did you see that?
Columbia, Mo.: I read "When Genius Failed" (about the Long-Term Capital Management fiasco of the 90s) some time ago - it ends with John Merriweather starting a new hedge fund again. So this is nothing new.
What scorches my grits is that there really is very little way for the small investor to avoid getting sucked in from this - if we only buy mutual funds, there is no way to know whether our "blue chip" investment aren't being endangered by one of the subjects of your column. Any ideas??
Steven Pearlstein: Along those lines, Mr., Merriweather's second fund blew up during the recent crash. So he's a serial wealth-killer.
Small investors are at the mercy of the Wall Street wise guys, who are more loyal to each other (self-protection society) at the end of the day than they are to their customers. Unless he's willing to manage his own money, or buy an index fund, the small investor can assume he'll get the short end of the stick. That doesn't mean that some funds don't make money for their investors. It does mean, however, that in times of stress, his interests will take a back seat to those of the mutual fund managers and their pals at the trading desks.
Washington, D.C.: By the time Congress moves on new regulations for finance, will there be enough residual popular outrage to pass a regulatory scheme with real teeth?
(That is, will the voters speak up enough to drive Congress to vote against the interests on the finance lobby?)
Steven Pearlstein: Short answer: no. We'll get weak reform unless President Obama is willing to go populist and make this a signature issue next year, leading up to the midterm election. Not sure he'll do that however, even though I think it would be great politics.
Washington, D.C.: Steven: What can Congress do to rein in the ridiculous salaries and bonuses that are given on Wall Street? Normally, I wouldn't object if someone made a fortune. But it seems pretty clear that they folks are making a fortune by (1) doing something that is damaging the economy; and (2) essentially stealing money from regular folks who are investing. For example, I bought a stock a couple years ago around $40 per share. After I bought it, I realized that the top six or eight executives all were receiving bonuses of more than $10 million a year. The stock has since plummeted to about $2 or $3. My reaction to that is to wonder whether I should invest in the stock market in the future, not because I lost money, but because I feel that I've been robbed by the executives of this company. I will still save money, of course, but will invest it in bonds, etc. That instinct to not invest in companies because we don't trust executives can't be good for the economy, can it? If not, what protections can Congress put in place to restore that trust?
Steven Pearlstein: Economists call this an agency problem, because the "agent" that is supposed to be looking out for your interests (the management) is really looking out first for his own -- and the two are not the same. So you hear a lot of academic talk about "aligning" the interests of management with shareholders, and you hear corporate executives endlessly prattling on about "creating shareholder value." Some actually mean it, but as I say, in the crunch, they still think they deserve to earn $10 million a year at a minimum even if you are losing money that year. Its a sense of entitlement that has developed that is virulent and probably can't be dealt with except by shame.
That said, you should remember that most of these big pay packages are big because of the value assigned to stock options, when issued. And if the stock declines, the options are worthless and the value of those packages is never realized. So when you read that so and so was paid $20 million three years ago, it doesn't mean he actually received that. He may have got very little of it. You need to check to see what happened to his stock and his options.
Los Angeles, Calif.: Doesn't the same attitude apply to the banks who now shamelessly raise interest rates on the same people who just bailed them out with their tax dollars? People working in these fields are driven by greed and are of the opinion that they have a right to be greedy. It seems nothing will change their thinking and new rules are either to weak and/or coming to late. It seems we should be out on the streets to make a point!
Steven Pearlstein: Well, everyone in business is driven by greed, including the worker who wants a raise and the salesman who wants a commission. I don't like to think of it that way. You have to realize that businesses are in the business of maximizing profits, and if they can raise interest rates and make more money, they always will. The only thing that restrains them is that if they raise them too much, customers will go to a bank or card company offering lower rates. Now there can be abuses by banks, particularly if their customers are captive or they don't tell customers up front that they have the power to raise rates at will. But I think you're stretching things to link taxpayer bailouts, which were meant to save the system and thus save all of us the pain of a financial collapse, and banks doing what they always do, which is try to maximize their profits.
Capitalism is a system in which all the parties try to maximize profits and income. It's a lousy system, its just better than any other one we've come up with for doing the most good for the greatest number of people.
Silverthorne, Colo.: Steve, great reporting. Probably the best corrective is exactly what you are doing, providing an assessment of these deeds and misdeeds for all and sundry to read.
But if I am permitted a wistful,philosophical reflection, I have a question: is a financial system that not only tolerates this casino style of trading, but even fosters it (huge gains privatized and huge losses socialized), the best our inventive human minds can create? Will it be like this in 100 years? Thanks for carrying on the tradition of the observant Charles Kindleberger for this current mania/panic/crash.
Steven Pearlstein: Thank you for your comment.
Alexandria, Va.: Dear Mr. Pearlstein,
Does the story of Wall Street's Mulligan Club reveal lapses in the regulation of financial markets? If so, what new regulations and enforcement actions are called for?
Steven Pearlstein: As I say, I'm not sure it calls for any reaction other than public outrage and complete disclosure.
Washington, D.C.: Just wanted to say how appreciative I am of your calming voice in the last year, and wondered if there could be any legal challenges to Ken Feinberg's ability to set salaries?
Steven Pearlstein: There could be and there probably will be.
Virginia investor: Thanks, Steven, for all of your great reporting over the past years.
You've exposed the financial industry to the point that I've lost faith in them. I'm now investing in things like individual real estate that keep me less tied to the stock market. I'd rather take chances with my own financial wisdom than with these wealth-killers.
Steven Pearlstein: Wise man. And if you buy raw land today, you are probably going to pick it up at a bargain price.
Washington, D.C.: Yesterday, FDIC Chair Sheila Bair had an op-ed in the NY Times about the problems with the creation of a single, all-seeing financial regulator.
She went on about the virtues of state regulators and the federal regulators and how each have their defined roles.
The problem with her argument? Never once did she mention how having multiple regulators - as we do now - and the reforms she's agreeing with will do anything to stop the practice of "regulator shopping", one of the primary reasons so many banks were able to take on what came to be crushing levels of risk.
Until "regulator shopping" can be stopped, the arguments against a single regulator won't be convincing (to me).
washingtonpost.com: The Case Against a Super Regulator
Steven Pearlstein: It wasn't Sheila's finest moment. Despite protests to the contrary, she's just defending her turf and bureaucracy. There is no logical reason not to have a single regulator for all banks and things that look like banks. If you really believed that a multiolicity of different regulators with different approaches provided the best approach, then why not have 7, or 10 or 100. Why not break the FDIC up into five different competing agencies?Its a silly argument and I think suspect deep down she knows that.
Milwaukee, Wis.: Funny - when I read the headline I thought you were writing about the Obama Administration and the current Congress.
Steven Pearlstein: Cute.
New York, N.Y.: Steve, I hate to say it, but I think we all have some complicity for the stupidities you've described in your column. Have you called or written Fidelity or Vanguard or T Rowe Price and suggested that maybe they should steer clear of investing in financial companies that repeatedly allow such shenanigans to occur? I haven't called or written, even though I'm as disgusted as you are. I think only way to get Goldman, Morgan, etc. to stop with the schemes that enrich employees at the expense of shareholders is to get big institutional money managers to say we're not going to invest in companies that encourage short-term outrageous risk-taking and award enormous bonuses. And if Goldman doesn't like it, let it to take its company private.
Steven Pearlstein: You're right about the big institutional money managers, although not the mutual funds, which tend to buy publicly listed shares and bonds. These are mostly instances of the private side of the investment world, hedge funds, pension funds, privat equity funds, investment partnerships, endowments, proprietary trading desks of the big banks and investment houses, etc. That's where the big money is made and lost and where these guys get their funding.
Cameron, N.C.: So what are the chances that these bozos bought into the bear bounce and are now going to get wiped out, like they deserve? My belief in kharma is being sorely tested these days.
Steven Pearlstein: These guys don't trade in stocks, they trade in credit instruments like asset backed securities and CDOs and commercial mortgage backed securities -- and derivatives of these credit instruments. There's been a rally in those as well in recent months, a good rally in fact, and it may well have gone too far. On the other hand, these instruments were sold off pretty hard last spring and the underlying credit may well suggest higher values than the rock bottom prices then. We won't really know the true value of these things until all the loans come due, which could take as much as another decade to find out.
Anonymous: As a child of the Reagan 80s, I was predisposed to free enterprise and Wall Street. After seeing the excess of greed since the socialized bailout of Wall Street in 2008, I think I might nail a poster of Michael Moore on my wall. When conservatives like me turn our backs on Wall Street, who will become Wall Street's new friends?
Steven Pearlstein: The regulators, of course.
Boston, Mass.: Slightly different topic, but what do you think of the idea and legislative prospects of the consumer protection group for the financial services industry in discussion in Congress? It sure doesn't seem like too many folks in government have been looking out for the average American relative to the financial world the last 10 years (mega banks charging what they want, lax credit card fee rules, more onerous bankruptcy, etc.). Can you tell me who my lobbyist is up on the Hill fighting for me right now? Oh, that's right. I'm just a voter...
Steven Pearlstein: It's your representatives in Congress. Give them a call and tell them if they vote against it, you'll be giving the maximum contribution to their opponent in the next election.
Fairfax, Va.: Once in a while I run across the term "market maker". Is the activity of the people described, creating markets?
Steven Pearlstein: Some of them are doing that as part of the "value added services" that they claim to offer. That means buying up a security for which there may or may not be a know buyer, with the understanding that they will sell it as soon as they can once they find someone to buy it at the same price or more. Sometimes they wind up selling if for less, however, which is the risk for which they presumably are rewarded with a fee.
Baltimore, Md.: Re Enron traders: According to the definitive book on Enron, The Smartest Guys in the Room, a lot of the Enron traders went on to be hired by other energy companies because they had proven they could earn big bucks. While the trading operation was infected with the "Enron virus" so to speak, it was one of the few company operations that was making real, actual money, instead of booking ten years worth of profits as soon as a deal was done. (The broadband operation, the water operation, etc.)
Steven Pearlstein: Thanks.
Las Cruces, N.M.: The political line that is sold out here in reddish/bluish America is that Republicans are in the pocket of big finance and Democrats look out for the little guy. To what extent is the Obama administration and Dem-controlled Congress seeking real reforms on Wall Street to prevent the next bubble? Also, doesn't it bode ill that many of the architects of the last credit bubble are actually in - or advisers to - the Obama White House?
Steven Pearlstein: The world doesn't divide that neatly -- Democrats from New York state carry a lot of water for the securities industry, and get lots of campaign contributions in return. The Obama team walks a middle line -- it's for reform, just not any radical reform that would seriously harm the oligopoly. But they've been pretty careful about bringing on too many people with Wall Street pedigrees, primarily because of the political optics. In that regard, they may have gone too far, since you need to know something about this stuff in order to regulate it or make policy regarding it.
Davenport, Iowa: Thanks for the great article -- such journalism is a public service.
Given that small investors (and those in the public sector charged with oversight of financial industry) are generally at a disadvantage when it comes to having quality information about the deal makers and decision makers behind funds and investment institutions, is there any movement afoot, on a nonprofit or other pubic basis, to establish some searchable database for tracking the records of such individuals? An affordable consumer information resource for those not in the inner circles of power and money?
Steven Pearlstein: No, there is no good database on this. There are databases that can be helpful, along with web searches, and people asking for money generally disclosure where they've worked. But they usually give a very rosy picture of their own performance. So if they worked for UBS/Dillon Read, for example, they'll say they worked only in commercial mortgage backed securities and, unlike the others, their portfolio actually wound up making money until they left. What that leaves out, of course, is that after they left, the crap they bought wound up being worth 66 cents on the dollar and all the equity that was used to buy it was wiped out. In other words, they fudge the truth. And it's hard for anyone to find out the real truth because these organizations don't break out their results in that kind of detail. In fact, many never publicly report their results at all.
Boston, Mass.: "Maximum contribution" to my lawmaker? (1) I am struggling to pay my mortgage and health-care premiums, much less worry about campaign contributions and (2) have we traded a tyranny of monarchy a few hundred years ago for a tyranny of capital when I have to cough up money for my voice to register with my elected representatives? How the Supremes ever equated free speech with money and handed large corporations and their lobbying groups an incredible advantage in what is supposed to be a democracy (one man/one vote) is beyond me...
Steven Pearlstein: I didn't say you actually had to make the contribution. Just threaten to.
Princeton, N.J.: "So when you read that so and so was paid $20 million three years ago, it doesn't mean he actually received that."
Maybe, but I have a former collaborator who quit math to start a hedge fund, and his income was $1.8 Billion, $2.8 Billion and $2.5 Billion for the last 3 years and that's real money.
And I'll guarantee his overall tax rate was less than yours or mine.
Steven Pearlstein: Hedge fund is different, since it doesn't pay in stock or stock options generally. And we all know that you mean Mr. Paulson.
Eau Claire, Wis.: I think you hit the nail on the head: "a sense of entitlement that has developed that is virulent and probably can't be dealt with except by shame." Except that I wonder if these guys, with typical narcissistic personalities, are capable of shame. Perhaps suffering would be the more likely route to change. Either way, how would that come about when they isolate themselves in their own mutual admiration society?
Steven Pearlstein: You're probably right about their being immune to shame. But if you can somehow extend that shame to their wives and girlfriends and children and friends at the yacht club, it might have an impact.
Austin, Texas: "Its a sense of entitlement that has developed that is virulent and probably can't be dealt with except by shame"
When we're talking about tens of millions of dollars at stake, it's going to take a lot more than shame to bring about change.
Steven Pearlstein: Which is why changing the Wall Street culture is so difficult.
Clarksville, Md.: Steve, Keep up the excellent work and report on why the loopholes are not being closed on the root cause (derivatives) of the financial problems the country just went through. Apparently, the lobbyists are working overtime and the consumers are not organized to combat the problem. I hear decisions are scheduled to be made on Sept. 23. Besides voting these guys out of office, there doesn't seem much the small guy can do. Therefore, people like you must expose what the decision makers are doing so the pressure stays on the policy makers. Thanks very much. Richard Costa
Steven Pearlstein: Thanks, Richard. Not sure derivatives by themselves are the root cause, though.
Pennsylvania: I feel like I'm missing something. People on the right seem to be saying that regulation is bad. People on the left seem to be saying "We need to regulate!" But to me, what matters is not -if- you regulate, but how you do it. If you do it the wrong way, can't it be worse than not doing it at all? I guess my question is: what does effective regulation look like? Because I think some regulation of Wall Street is necessary. But I also think that regulation simply so we say we are regulating has the potential to be very bad. So I'm curious what your thoughts about what effective regulation would be.
Steven Pearlstein: You're right -- it's not a matter of more or less regulation as it is of effective regulation and smart, tough, quick-footed, politically-insulated regulators.
Princeton, N.J.: No, I meant Mr. Simons.
Steven Pearlstein: Ah, yes, my bad.
Steven Pearlstein: That's all the time we have today, folks. "See" you after Labor Day.
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