Who is "the Market?"
One great misconception that I would like to see corrected is the public image of the stock market. There is a romantic idea about the market that it is driven by a lot of individuals who diligently study the business page and talk with their brokers every day. To be sure there are a lot of those people out there, but the amount of money they wield does not produce the wild swings in the market that we have seen so often over the past 8 years. More plain language such as today's op-ed by Lester Thurow of MIT's Sloan School:

• "The first and best solution is to warn all small investors that the game is rigged. No individual investor, no matter how well informed, can play on the same level as the major institutional investors, Wall Street firms and corporate executives, who receive more accurate information more quickly than the average viewer of CNBC. The major players talk all the time, and very little of what they learn becomes known to the general public; that is what the investment banker Herbert Allen's annual summer get-together of media moguls in Idaho is all about. Of course, such meetings are not illegal. But neither do they inspire confidence in the openness and honesty of the system."

The furor over Martha Stewart's actions is exposing the tip of this iceberg. The careers of the entire administration were made on such insider mingling. Despite not being a "stock picker," the president knows, "[t]he price-earnings ratios are improving." Moreover, "[s]ome [investors] have diversified into bonds," he said. "For those who have, their portfolios are better than those who have stayed only in equity." Thanks for the tip W, I'll move my money into bonds. For a man who says he cares so much (or was that his father, the lines are blurring every day) he certainly seems to be staying away from legislation with a ten foot pole. Interestingly, Thurow's op-ed that I quoted stresses that further legislation will not help avert the next crisis. He's in favor of punishing those who violated the laws, but he doesn't think new laws will stop future wrong-doing:

• "All companies want to "hit their numbers" (that is, ensure that their revenues and profits match those predicted by Wall Street analysts). This imperative cascades up and down the corporate pyramid � and it infects not just the organization itself but the individuals within it. Sales representatives, for instance, can get fired if they don't hit their numbers. They don't want to get fired. So they make adjustments. Sooner or later, small adjustments become large adjustments. And then no one wants to look too closely at the numbers and be the one who announces that the good times are over."

While I agree with Thurow that these frauds are not perpetuated all at once and usually not done out of malice for the investor, but out of fear for one's job, I still favor new legislation. Economics dictates that for our markets to run efficiently, the buyer and the seller must have the same information. If not, the seller will abuse the buyer and our markets will be inefficient. Buyers don't usually abuse sellers since it's rare the buyer knows more about the seller's company than the seller. I'm in favor of cracking the nut of corporate information as far open as is reasonable. Companies need to be able to take on risk in order to expand, but they should also be required to explain that risk in plain accounting. The various loopholes in accounting and disclosure rules must be closed. Many rules already exist and are not diligently enforced, or asked about by analysts. This leads to the final question.

What are the lessons for the little guy?

1. Watch your ass. Find a broker you trust and hound him mercelessly over his decisions.
2. Read SEC filings on your own. Speak the language of money.
3. Understand that this is a long-term, inch-by-inch grind and everyone is trying to screw you, especially your broker's firm.

Cynical? Yes, and I could continue, but the point is that wall street is savage and it must be treated as such. We are not on the inside and it would take a lot of work and luck to get there and few would hold on all the way. Things are bad, but they will get better. And around we go in the circle game.
- posted by levinson @ 7/23/2002 07:23:00 AM

 
You're Finished
There's a particular passage in Roger Lowenstein's fantastic book about the rise and fall of Long Term Capital Management ("LTCM"). (When Genius Failed) LTCM is in dire straights due to the fact that it has become vastly overextended beyond not only its capital base, but its area of expertise. The hedge fund cannot remain solvent for more than a couple of weeks if it continues to take heavy losses. The losses that had been hitting it to that point had become epidemic and it had started to seem to some of the partners at LTCM that other funds and banks were deliberately targeting them to fail, even though no one knew any of LTCM's positions. Jon Meriwether, the Managing Director and founder of LTCM, called an old friend, named Vinny Mattone, to come in and advise the partners:

• "Where are you?" Mattone asked bluntly.
  "We're down by half," Meriwether said.
  "You're finished," Mattone replied, as if this conclusion needed no explanation.
  For the first time, Meriwether sounded worried. "What are you talking about? We still have two billion. We have half -- we have Soros."
  Mattone smiled sadly. "When you're down by half, people figure you can go down all the way. They're going to push the market against you. They're not going to roll [refinance] your trades. You're finished."

I keep thinking of this passage as I watch the stock market hemorrhage. The volatility today has been particularly interesting as its clear there is battle being waged. Many people are down by half and could go all the way down. We know the market can be pushed against one firm, but how many firms does it take to hold the line? To me, that's the question this week. The Street poignantly delivered its opinion of the President last week. So much for all the favors the administration has done for business. Wall Street is the most savage place yet conceived by capitalism and when it senses you're vulnerable on anything, down you go. Many funds (personal, mutual, hedge) have undoubtedly been ripped to shreds at this point, but remember there are still billions of $$ in the market and even those who have been knocked down collectively have billions of their own with which to fight back. It's a blood-sport out there and we may not know the winner until August. After all, that's when the 945 companies have to affirm that their most recent financials are accurate. Word should soon begin to leak if any of those companies will either miss the deadline or must restate their financials upon further review. 945 are a lot of companies. We already know about 6 of them being crooked and I'll bet there will be another 6 by the time labor day comes around. At this point it doesn't matter how bad the error is, any error will get you hammered for a day or two; perhaps more.

I don't think of this as a panic. It's a systematic removal of capital from an untrustworthy market. Rest assured that all that capital will one day be poured back into equity, but right now it's just too volatile. The Chairman of the NYSE was on Meet the Press yesterday and mailed in a truly pathetic performance which was matched later by Dick Armey. The bears are hoarding their money away for the winter. Just think, historically the market's worst month is October. Imagine what the market will say then if we invade Iraq in September and things don't go so smoothly. Blood-sport my friends, blood-sport.
- posted by levinson @ 7/22/2002 12:45:00 PM