This is a story about investing and money, about good times and hard times, about right and wrong and above all, how market and social forces shape the results of investing in a market driven economy. Over many years of human experience, it is believed that market driven economies will fare better than centralized economies because the invisible hand of citizens acting freely in a competitive market place will best optimize the benefits for all people. It is an American belief that a committee of social planners can never outperform the hand of free enterprise. American citizens have placed their faith that their government will protect them from unscrupulous and immoral behavior of clever investors cheating them out of honest endeavors. If this weren’t so, an economy operating as a market driven economy would be manipulated by those that have the most amount of buying power or more simply, MONEY. It is all about the ability and integrity of a nations government to protect its citizens through well thought out regulations. In good times and bad times, a democratic society will maintain the moral compass to defend its citizens. That’s the belief that most Americans have and it has served its citizens well until recently!
The recession of 2007 had a massive impact on this belief through the good intentions of our governing bodies and the profit motives of big money. The first change to set the stage for the miniaturizing of America’s middle class was repeal of the Glass-Steagall Act of 1933, whose purpose was to separate banks from investing firms to protect all Americans from the power of money accretion into the hands of the few. In 1999, to more effectively compete in the world economy, this act was repealed, setting the stage for money accretion and to increase American business’s ability to compete against world economies. Investment banks worked overtime, hedge fund population soared and times were good. With monetization of economic activity, America stood in the forefront as the wealthiest nations in the world with concomitant ability to wage economic war against other nations and win. The second stage was the collaboration of the SEC with the massive Investment banks, tolerating insider purchases of confidential business information in the free market. This laxity on the part of the fraud protection body of the SEC allowed Adam Smith’s invisible hand to be held in place. No longer could individual investors compete effectively. The combination of investment banks and hedge funds were in essence a casino and we all know who wins on a consistent basis in the casino business.
Eventually, the massive wins in the banking industry resulted in the ultimate greed of our legislators, our brokers, our citizens to believe that they had stumbled onto the perpetual entitlement machine. Bankers were making good returns, hedge funds were winning their bets and Americans were getting money from mutual fund returns and their homes that appreciated at unheard of rates. All of this was greased by the good intentions of legislators like Barney Frank that believed in miracles and the good of Fannie Mae to provide free money to house buyers that in no way could afford the mortgages. Government regulators continued to turn a blind eye on mortgage brokers and appraisers who joined the rush to greed. In some cases, ineligible home buyers and investors leveraged to the max could buy new houses with no money down using offers developed by builders in secret collaboration with the mortgage companies to make offers that resulted in buyers getting money back on purchases they could not afford. It was a great time until the money accumulators (i.e.- investment banks) felt their risks were too high and it was time to place puts on all this leveraging when the probability for continuation of good times was about to end.
This set the stage for the third act…. Calling in your debts! It was time for the money accumulators to make their biggest bet and biggest windfall. With a gamblers sense, they bet that our government would intervene and start the printing presses to reduce the impact of the grimmer side of the invisible hand. The FDIC rushed in to save failing banks, the legislators came to the rescue of homeowners with more printed money and the bankruptcy courts started the clean up process. In some cases the government even stepped in to usurp bankruptcy regulations to protect favored political donors such as big labor pension systems at the expense of credible bondholders. Of course, this meant printing more money, but in hard economic times, who would complain. Americans needed triage and care was doled out with favoritism. Someone had to lose, and it wasn’t going to be those that had the money. There was no place else to turn to but the taxpayer. Money was printed, the value of the dollar in the world depreciated, but in hard times, who could complain. The economic answer was to avoid dealing with the cause and kick it down the road to the next generation. The specter of inflation and the impact it has on all citizens could be postponed to 2012 and beyond. It was thought that by then, there would be new magical answers and a new breed of politician to favor new contributors
Magic is not a process that shrewd money accumulators could tolerate. They knew that there would be opportunities to win and they bet on them with hedge funds and investment banks. To be specific about these opportunities, two examples are presented that separate of winners from losers according to their worth. The first case is WAMU. On September 25, 2008, the United States Office of Thrift Supervision (OTS) seized Washington Mutual Bank from Washington Mutual, Inc. and placed it into the receivership of the Federal Deposit Insurance Corporation (FDIC). The bank was sold to JPMorgan Chase for $1.9 billion. Secured bondholders (mutual funds and retirement accounts) were offered 5 cents to the dollar while JPMorgan will eventually have added $200 billion to its market cap. The winner…. Money accumulator, JPMorgan. The loser… average American investors of the little guy sort, unless they were smart enough to own JP Morgan. Score- Big Money 100x on their investment; average investor: 1/20x on their investment.
The second case does not involve the government’s interference and therefore winning bets were less. In October 2009, Accuride, a company that makes auto components, filed for bankruptcy. Secured bonds were purchased for $.25 on the dollar from the average American investor by Sankaty Capital and others (i.e. money accumulators). Three months later, these bonds were sold for 3X their value, reaping a nice profit for big money. In addition, bigger profits were realized when the reorganized company issued new stock. Another 2x profit was again made, realizing a gain of about 5x to one. The point on this one was that the risks taken were real and the profiteers were those that had the resources to outwit, out fund, and outlast the average American investor. This is not the end of this sad story which will be repeated time and again over the next hundred years. The question is will American taxpayers continue to believe in this type of free market or will they stand up and demand more from their regulators? Place your bets ladies and gentlemen and don’t forget, big money always wins.