The Straddler review

Raise the Floor

by and

Even among those prone to view the governing structure of economic activity with deep suspicion or, at the very least, resigned dismay, there has generally been a belief that whatever else business does, it undeniably does do what it does.  That is, however profoundly one may lament the religious status the profit motive holds in our society—and, indeed, the world—one must nonetheless (it was thought) recognize that the goal of profit is pursued with a combination of efficiency, relentlessness, ruthlessness, logic, and acumen—traits not inherently deleterious.  And so, even if, say, one thought that the brand of economic activity perfected in Anglo-American society and exported to the rest of the world under the name of global capitalism comprised activities whose end results included devastating inequities, environmental degradation, worsening stratification, scandalous priorities, perversions of ostensibly democratic societies, the stunting of a great deal of humanity's potential, the flame-fanning of human nature's least desirable traits, and so on, one must nevertheless recognize, it was thought, that the exigencies of operating in the world of business required the development and sharpening of a number of skills which may have been deployed in the service of misguided purposes, but which were nonetheless in some ways admirable owing to the efficiency and productivity they served.  Indeed, were not the highest reaches of the business world synonymous with skill and efficiency?  Did not even the harshest critics of capitalism recognize the sheer elegance of the machine, sustained as it was by both the power of its results and the corps of believers and participants, large and small, outside and inside its many corridors?

The arena of business—we were led to believe, and, indeed, we did believe—is where things got done.  However deeply one may be repelled by the taste and design of the Las Vegas Strip, or the architecture of the International Style, or the quiet barbarism of omnipresent suburban strip malls, or the malaise-inducing characteristics of nearly everything on television, we must nonetheless recognize that business shrewdly built these profit-generating structures.  Business got it done.  These structures stand and competently and efficiently serve their purposes. 

More than that, it was believed, business also created the conditions necessary for the development of new societal advances.  You may not like the fact that the best blood-pressure medication isn't covered under your health plan, but without business—we were to understand—you wouldn't have anything to complain about, since there would, quite literally, be nothing without business. 

Of course, the fact that a mixed economy has always existed wherever capitalism has flourished is something that business, with characteristic efficiency and vigor, has ruthlessly suppressed from its myth.  That, to take several clear-cut examples, the aeronautics industry, the electronics and computer industries, and the pharmaceutical industry all owe their existence and strength to government investment in research and development and government protection are facts generally not acknowledged by business or its acolytes (who number nearly all of us) because business, to its Odyssean credit, has for the most part elided one of its guiding principles—socialized risk and privatized gain—from public view.  Certainly, this special feature of business is not frequently touched upon by news outlets with broad reach—but then they too are businesses which by structure and institutional religion are devoted adherents of the Myth of The Market. 

Similarly, the many not-for-profit and non-governmental organizations devoted to countering the effects of a society—and a world—governed by the profit motive are frequently partially supported, in some cynical measure, by business, even though it is, in aggregate, the practices of business which make these sort of organizations necessary.

Still, one should not—it was believed—go overboard in criticism.  One could lament the effects of global capitalism on the globe, or fault business for not caring much beyond the next quarter, but one could not deny that business knew what it was doing within its own field.  It was increasing profit and market share with admirable discipline and relentless focus.  You or I may have lamented the interest rate in excess of five hundred percent that an emergency payday loan to a low-income consumer carried, but business was not in business to be compassionate—business was in business to make a buck wherever there was a buck to be made.

In short, the system was inhuman and sometimes recognized—more often vaguely than explicitly—as such, but at least it seemed to be run by skilled and capable humans.  In the late 90s, a contributor to this review worked in a small money management firm.  The money manager's strategy was simple: research and evaluate stocks based on a series of fundamental criteria.  If the stock seemed undervalued, buy and set a target price.  When the target price was met (meaning, when the stock was on the verge of being overvalued), sell for a profit.  This was and is called value investing, and today it seems rather quaint.  (It also required—and here we begin to see seeds of a problem—what came to be called “profit taking;” for the titans of the so-called “new economy”  were scandalized by the selling of equity assets for cash.  Such a move was considered greedy and selfish—a breech of faith that brought down what would otherwise be a perpetually increasing market.  Just ask Bernie Ebbers or Jeff Skilling, killjoy.)  But it was an excellent system, and it made logical sense, and it was pursued with intelligence, discipline, and concentrated vigor.  The money manager predictably didn't care a tinker's damn for the social implications of his investment decisions—he once rolled his eyes when a prospective investor asked for "socially conscious" screens on his portfolio: "This guy wants to be socially conscious, which is different than making money."  Still, his decisions were based on sound logic within the market system whose rules seemed clear enough. 

Similarly, investment houses that looked to squeeze millions of dollars out of day-to-day, or hour-to-hour, or minute-to-minute stock fluctuations were at least following the principle of profit-making in a way that made sense.  Gaming the system, when done right, was perfectly legal and could yield plenty of money.  In fact, it was not even considered gaming the system to devise elaborate mathematical models that capitalized on ephemeral fluctuations in asset prices, even if it was recognized that such strategies didn't contribute much to the actual activities of the companies whose securities and derivatives were being bought, and then sold, in a matter of minutes or hours.  (Introducing an extreme downside variable into one’s model—here some more seeds—such as the possibility of the sort of bankruptcy currently being experienced by companies, municipal governments, families, and Iceland was only for cynics, given that upside risk was infinite and downside risk no longer existed.)  The core principle behind all investing, as everyone had heard, was "buy low, sell high."  Just how—and just what—you bought low and sold high was secondary.

And so, while we may lament that the money manager cited above disdained "socially conscious" investments, or that the latter method of investing seemed to be less economically productive than old-fashioned value investing (which at least represented a sort of vote of confidence in the company, its products, and its management), we were nonetheless willing to concede that these people were operating in the field of business with a skill and efficiency that sustained the system and made it even that much harder to resist.  And we all, so it seemed, knew the rules—even if we occasionally recognized them to be unfair.

It is, therefore, somewhat demoralizing—even for skeptics of global capitalism—to have experienced recent financial events which have revealed that not only does the emperor have no clothes, but that, even when he is given clothes, he, to paraphrase Woody Allen, has a tendency to try to pull his pants off over his head.

That numerous financial giants were unable, over the course of years, to make decisions that would keep them in business (Lehman Brothers, et al), or that would prevent them from collapsing without massive intervention from the already mollycoddling government (Citi, AIG, et al) speaks to a certain incompetence which one does not typically associate with business.  In fact, in the stories The Market tells to itself and to us (and is still telling to itself and to any of us who will listen), it is the government that is the incubator of inefficiency and incompetence.

As if to daub the incompetence of the financial giants with clown paint, there was the Bernie Madoff scandal. Madoff, an old-fashioned con man, was able to make US $50 billion of assets disappear overnight when it was revealed, in words it was reported he uttered to his sons, that his "entire business was a giant Ponzi scheme."

One of The Straddler's editors cannot help but possess a grudging tribal admiration for Charles Ponzi, an Italian and a Bostonian who was able to craft a good story and, perhaps more importantly, dress the part.  But Ponzi was also a lazy-thinking criminal who was bound to get caught.  His dupes were also not, for the most part, the rich.  A look at late-night infomercials proves that his pyramid spirit is still alive, appealing to the many desperate among us. 

Sad as it may be when the so-called little guy loses money in a nonsense business venture, it is, perhaps, understandable why some fall for idiotic scams in a system which is predicated on many of the principles of the racket.

What is not understandable, and what is deeply disappointing—indeed, disconcerting—is when people who are charged with the management of millions of dollars fall for schemes based on promises of consistently absurd rates of return and a sales pitch which amounts to the following:

A. I can't get you in.

B. Are you sure you want in?

C. Let me make a call.

D. You're in.

Madoff appealed to three simple human traits: stupid greed, exclusivity, and gullibility (that these are human traits, incidentally, does not mean that humans are always or only these things; compassion, generosity, and empathy are also human traits, after all).  Stupid greed because Madoff promised a consistently unreal return on investment (If your FDIC-insured bank offered a savings account with a guaranteed 15 percent rate of return, you would move whatever money you have into it today; but if an investor promised you such a consistent rate in a dynamic system like that of equity and bond trading, you'd be a fool to think he'd figured it all out).  Exclusivity because not everyone with money could get in (anyone, of course, with money could get in).  Members of Madoff's Ponzi scheme had a secret.  They were making money hand over fist and they were members of an elite club.  They were in with Bernie.  Gullibility because they actually believed what Madoff was selling.

Anyone who has ever visited some of the more moneyed hamlets of, say, Long Island, could perhaps understand why this sort of thing might be appealing within the culture that exists there.  Still, the Madoff scam famously extended beyond the aspirations of individual suckers on Long Island.  It included professional money managers charged with investing vast sums of money for charitable foundations and wealthy individuals.  It took in, that is, professional individuals who should have been familiar enough with the world of business to know that trust and superficial appeal are not the principles upon which it is based.  A responsible money manager does his research.  Those many who were taken in by Madoff did not.

How did this all happen?  How could people charged with running money companies get involved in practices that destroyed their companies? (Though some were saved thanks to the beneficence of the white knight known as big government, whose numerous squires are citizen taxpayers.)  How could professional money managers fall for a simple, century-old scheme created by a shifty Paisan in, of all places, Boston?

The answer, we believe, has much to do with the culture that has developed in the financial industry since the late seventies.  As Clinton Treasury Secretary (and former Citigroup Director) Robert Rubin used to say, "the market goes up, it goes down, it goes up, it goes down."[1] The implicit corollary of this statement is, "but in the long run and the short run, markets go up."  And up.  And up.  Indeed, an investing culture formerly populated by soulless squares was now a bona fide part of popular culture.  CEOs were now busy tearing through the Australian outback on ATVs or turning the Mount Everest Base Camp into the world’s highest garbage dump.  Greenspan was a saint whose pimp hand was way strong.  Two regular guys started a company in a California garage that became Hewlett Packard, a technology monolith that grew so big it could only manage itself by spying on employees. 

Who among our current crop of financial professionals has ever managed a down market?  You would have to be well into your fifties to have experienced a time when the market's trend was downward and not coming back anytime soon.  The only alternative to skyrocketing growth was not managed retrenchment, but disgraceful bankruptcy.  The pervasive idea of recent years was that of the permanent upside, turning, for example, short-sellers into the dastardly arch villains of the “unforeseen” slide in the market.  The wide-eyed, ever inventive capitalist who borrowed $10 million to speculate on potential gains in Las Vegas real estate was keeping the economy going.  Those who sold $10 million worth of GM stock short, knowing full well that its management was incompetent and intended to flood the market with products that no one wanted, lobby against fuel efficiency stipulations on which foreign car firms were mysteriously able to capitalize, and burn cash suing states for their clean air laws were just there to spoil the party.

So what if your company gets into the habit of selling products based on models that no one can understand?  What's the worst that can happen?  It's not like these subprime mortgages and involuted derivatives aren't worth anything.  It's just that it may take a little longer for them to realize their gains than expected.  But there is only one way, and that way is up.  And if you were lucky enough to get in with Bernie, what's the worst that can happen?  A ten percent return?  A five percent return?  A negative return in a tough year?  Well, well.  But everyone knows that these days, markets go up, even if they sometimes go down.  A downward move is a small hiccup, whereas an upward move indicates a broader, permanent trend.  This was an essential part of the tired jargon of the times: the "soft landing" meant that obvious imbalances could be corrected without material consequences.

After all, it wasn't like the products financial companies were dealing in were high-risk contracts fully dependent on easy credit whose complexity only masked their vulnerability to a tedious, old economy notion considered obsolete:  the rippling implications of too many average-income individuals being unable to make their mortgage payments.  And it's not like Bernie's aggressive investment strategy was actually a criminal pyramid scheme of no complexity whatever that duped professionals whose credentials were supposed to include, at the very least, a certain level of sentience at the switch, but whose negligence and laziness were staggering.  (Of course, Bernie's scheme eluded the concern or serious investigation of the SEC, and so luckily we can blame government for some part of it as well.)

The problem of the idea of the permanent upside is the sense of entitlement, the laziness, the complacency, the negligence, the groupthink, the smugness, the false heroes and cult of personality (see Rubin, Greenspan, et al), the opportunities for outsized graft by apparatchiks, and the lack of productivity it creates—all characteristics of an economic system that would not be out of place in the old Eastern Bloc.  Even as late as mid-October 2008, perhaps inspired less by Orwell than the Detroit Lions' cheerleading squad, stock analysts forecasted fourth quarter earnings for the firms that make up the S&P 500 stock index at about $241 billion—the most ever.[2] Financial institutions have been over-managed, over-staffed, and prone to rewarding tenure and failure, resembling precisely what we are told they shouldn't:  state bureaucracies.  Here no "creative destruction" or dynamism; here only subsidized gold prospecting overseen by mountebanks and undertaken in a bayou swamp.

So long as finance runs our lives, perhaps the people who run finance ought to keep a maxim in their minds that they contemplate as often as they utter their cheeky mantra "buy low, sell high": the floor is lower than you think—and it comes up awfully fast.


[1] Lake, Anthony.  6 Nightmares: The Real Threats to American Security...  Boston: Back Bay, 2001.  218.  Google Book Search. 22 Jan. 2009. http://books.google.com/.  (Rubin was in one of then-President-elect Obama's first wise-men-and-women photo ops, but was notably absent from later stagings; in the late 90s he appeared on a Time magazine cover with Alan Greenspan and Lawrence Summers behind feature text that read “The Committe to Save the World;” the announcement of his resignation from Citi in Januray of 2009 might be interpreted as a nolo contendre plea to whatever the financial equivalent of negligent homicide is, though, unsurprisingly, polite company did not fully acknowledge the cloud of disgrace and theoretical bankruptcy surrounding him as he left Citi in shambles). 

[2] Tsang, Michael.  Bloomberg [Online]. U.S. Stock Analysts Keep Estimates as Markets Fall (Update3).  (13 October 2008). http://www.bloomberg.com/apps/news?pid=newsarchive&sid=aGdf3VrJ2yz0


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