Why I Left Goldman Sachs

The Book of the Week is “Why I Left Goldman Sachs” by Greg Smith, published in 2012.

This career memoir details how the author experienced the change for the worse in corporate culture of stock brokerage Goldman Sachs (GS) over the course of a little more than a decade, from 2000 to early 2012. The company lost its way in terms of its mission and values, which embodied fiduciary duty and integrity.

In 2000, the author completed the selective, elitist, highly coveted summer internship program at the brokerage. He saw how principled the money managers were in recommending truly suitable transactions to their clients; not necessarily the most profitable ones.

When he began working there as a full-fledged staff member the following year, he took to the work, possessing the right combination of talents, skills and abilities to focus for long hours on conferring with clients and doing what was financially best for them. The goal was to build trust in order to foster a long-term relationship. It stands to reason that that is a more profitable course of action than seeking to rake in maximum money in the short term– which would provoke disloyalty from the client, when the client realizes he’s been taken advantage of.

Smith writes that a gradual change was occurring at his workplace around the start of 2005. At the time, he admittedly was “drinking the Kool Aid” like everyone else. The megabucks were multiplying because conflicts of interest were increasing betwen the brokerage and the government and other entities with which the brokerage was associated in various ways. The CEO and COO of GS were all for it. Their yearly letter to shareholders reasoned that such conflicts were inevitable, and were a sign that business was good. A telling example: GS netted approximately $100 million when it helped its client, the New York Stock Exchange merge with publicly traded, electronic exchange Archipelago in a $9 billion deal.

In the early 2000’s, one trend in the securities industry that would contribute to huge financial losses for the big firms including GS, was automated trading via software. The autotraders of the different firms were programmed to engage in largely the same behavior. They sought to trade in obscure, off-the-beaten path investments in markets in which it was difficult to find a buyer when it came time to sell. And they were all trying to sell at the same time. That was not a condition the autotrader creators had anticipated.

Another aspect of the big picture was that the people selling the financial products– more specifically, derivatives– did not themselves, understand what they were selling. It might be recalled that a derivatives debacle plagued the securities industry in 1994. Apparently, in 2007-2009, the greedy people involved in this rerun of a financial catastrophe failed to read their history, or had short memories. And governments of entire countries like Libya, were suffering losses of billions of dollars, thanks to GS, in 2007.

Read the book to learn much more about the outrageous occurrences borne of avarice witnessed by the author and the world during what became for him, an ordeal, characterized by the saying, “The fish rots from the head down.”

Diary of a Hedge Fund Manager

The Book of the Week is “Diary of a Hedge Fund Manager” by Keith McCullough and Rich Blake, published in 2010. This sloppily proofread ebook is about McCullough’s passion for ice hockey, and personal experience on Wall Street in the the single-digit 2000’s.

McCullough grew up playing hockey in the Thunder Bay area of Canada. He had a dream of playing professionally, but built a career in the stock market in the United States instead.

At the turn of the 21st century, Ivy-League college connections allowed McCullough to get a job with money managers. He spent a short time at a few places, having been lured to the next place by more money. The companies were able to run legalized Ponzi schemes because they had “… access to institutional channels, corporate and state pension funds, nonprofit foundations, and university endowments, not to mention the world’s wealthiest individuals…”

Most of the hedge funds of that period engaged in poisonous groupthink– cartelizing behavior (but apparently were never taken to task by the government for price-fixing/monopolistic practices)– they all bought the same stocks to overhype them and push up their prices artificially. They “… had devolved into nothing more than highly touted engines for producing excessive compensation.”

Read the book to learn:

  • the steps McCullough took to co-found a hedge fund and how he and it fared;
  • what else he has been doing;
  • how he defines a trade, a trend and a tail; and
  • the method he uses and philosophy he espouses to sense what is going to happen in the market.

Here are two hints: He thinks closing share prices and integrity are very important.

The Truth with Jokes – Bonus Post

With the U.S. midterm elections approaching, this blogger paged through Al Franken’s book, “The Truth with jokes” (but it isn’t funny), published in 2005. It is mostly about:  election, military and economic issues in connection with George W. Bush’s first term.

One controversial issue (still a relevant question years later) that Franken covers is that “…seven months into the [Iraq] war, Donald Rumsfeld wrote a memo asking whether we were creating more terrorists than we were eliminating. ‘We lack the metrics to know,’ he lamented at the time.” A few years later, the government admitted it had the metrics– statistics on terrorist attacks– and the answer was yes.

In 2000-2001, when Bush was first “elected,” Federal Reserve Chair Alan Greenspan was excited that “After eight years of Clinton-style fiscal discipline and economic growth, the era of big deficits was over, and we were running surpluses…” As is known now, Greenspan’s assessment of America’s financial shape turned out to be a bit off the mark. By 2005, the U.S. government had to borrow $2 trillion.

Therefore, the Bush administration might have been wrong in predicting that Social Security would run out of money by 2042. There were then murmurs about privatizing it. Al Franken and his political ilk squelched Bush’s attempt.

Nevertheless, Franken has done extensive economics research, as is shown in this video:

This blogger thinks it is well worth watching in its entirety.

So Far, So Good – Bonus Post

This blogger skimmed the book, “So Far, So Good– The First 94 Years” by Roy Neuberger, published in 1997. This is Neuberger’s autobiography. He was born in July 1903. His father was 52 at the time. He was nine when his mother died and thirteen when his father died. His sister Ruth was twelve years older than he was.

In the winter, he would ice skate on the flooded tennis courts of Columbia University in Manhattan. Neuberger inherited lots of money from his father, who had been a successful businessman. He dropped out of New York University after a year because he felt he wasn’t learning enough to justify staying to join the tennis team when permitted to– in sophomore year.

In October 1929, Neuberger worked to record stock transactions via pencil and paper for a clearinghouse. The market at that time was open for two hours on Saturday. The borrowing power allowed for a margin account in the late 1920’s was 1000% but at the time of release of Neuberger’s book, it was only 100%.

Neuberger & Berman– the investment-managing business started by the author in December 1940– bought a computer in 1967, costing $1.5 million. It needed sixty people to run it, but was worth the cost because in 1970, “… five of the ten largest Wall Street brokerage firms failed, in part because they couldn’t keep up with the volume of trading.” And the market closed at 3pm in those days.

Read the book to learn of how Neuberger, along with his contemporaries amassed tremendous wealth and privilege, and a giant collection of fine art.

The Billionaire’s Apprentice

The Book of the Week is “The Billionaire’s Apprentice” by Anita Raghavan, published in 2013. This ebook describes the investigation into the activities of a few Wall Streeters who were accused of insider trading in the past several years. Most of the accused happened to be of South Asian descent–from  Sri Lanka and India.

One concept the book conveys to readers is that it is unknown how many American securities-industry professionals are benefiting from insider trading, but the people in this book just happened to get caught because there was sufficient evidence against them to prompt the SEC, US Attorney’s office and FBI to go after them, rather than other possible offenders. The departments involved included the SEC’s Market Abuse Unit and the Department of Justice’s Securities and Commodities Fraud Task Force in the legal jurisdiction of the Southern District of New York (covering Manhattan and the Bronx, according to the author).

Another concept is that the investigating organizations and the securities industry are staffed with many people who, during their careers, switch allegiances. They might go from being a prosecutor to being a defense attorney, or from brokerage executive to government regulator, or vice versa. In this book the “old boy network” is alive and well. Arguably, conflicts abound.

Read the book to learn, among other extremes, about wiretapping (not the NSA’s), about one of the accused who “had several phones– at least thirteen– and he used them all” and a $30 million legal bill.

King of Capital

The Book of the Week is “King of Capital” by David Carey and John E. Morris, published in 2012.  This ebook recounts the history of leveraged buyout (“LBO” or  “private equity”) firms, mostly Blackstone Group, from the 1980’s through the first decade of the 21st century. This ebook attempts to debunk the stereotype of greedy Wall Streeters.

Back in the 1980’s, one kind of transaction or “deal” the LBO firm did, was buy out companies that were publicly traded, taking them private. It risked only a tiny amount of its own money to take ownership and take over the management, usually 5-15% of the total price. The role of the firm was to arrange financing. The management of the company (client) being bought out, was the party risking the most, and doing the buying out– borrowing a large percentage of the purchase price (leveraging) — in essence, “robbing Peter to pay Paul” with the monies raised by the LBO firm from various financial institutions.

This was where “junk bonds” came in– very risky debt instruments that carried extremely high interest rates, as much as 19%. The reason for the risk and high return, was that, in the event that the client went bankrupt, bank loans were repaid to creditors first, and if there was any money left, then much later, the junk bonds would be repaid.

According to Carey and Morris, the goal of LBO firms that were “corporate raiders” was to capitalize on the hidden value of a target’s assets that was not being reflected in its stock price. The value was there but the directors and officers of the target were too busy looting their company by throwing lavish parties at their mansions and on their yachts, and zipping around in their corporate jets.

The raiders had no interest in owning the target, but wanted to make it leaner and meaner by firing the greedy CEO’s. Then they would cash out at a profit of several times their initial investment. Over time, the targets developed strategies, such as the “poison pill” to counter the raiders. Unfortunately, “For all their talk of overhauling badly run companies, the raiders seldom demonstrated much aptitude for improving companies.” Pox on both the houses of the raiders and targets.

Buyout firms that were not corporate raiders truly wanted to own the target. “…buyout investors look for companies that produce enough cash to cover the interest on the debt needed to buy them and which also are likely to increase in value.” A major part of the job of LBO firms is to identify possible deals through extensive financial research, and then decide whether to invest in the ones predicted to succeed.

The year 1981 was a great year for LBO’s because interest rates peaked, there was an economic downturn, and stocks were down. In the autumn of 1985, two partners, Steve Schwarzman and Pete Peterson started Blackstone Group. Schwarzman said that his partnership would not be able to compete with the older, more experienced LBO firms, unless it “…brought efficiencies to a company by way of cost improvements or revenue synergies.”

The early 2000’s became a rerun of the 1980’s as financial institutions took on excessive debt loads. Fall of 2008 saw the U.S. Treasury Department and the Federal Reserve Bank raise funds to try to bail out Lehman Brothers, Merrill Lynch and AIG by calling on private equity firms like Blackstone Group to help.

Read the book to learn more about the redistribution of wealth among the wealthy over the course of three decades, and the turnover, and victories and defeats of the partners at Blackstone Group.

Dot Bomb

The Book of the Week is “Dot Bomb” by J. David Kuo, published in 2001. This ebook details the business dealings and the ensuing suspenseful power struggle at a dot-com company called Value America between 1996 and 2001.

The online retailer’s intended brand image was to boast maximum selection of merchandise shipped directly from sellers. This delivery-on-demand arrangement allowed the company to remain inventory-free, and thus minimize overhead costs. However, in reality, it needed to use resellers for many of the supposedly infinite products it sold.

Value America’s founder and leader, Craig Winn, was a charming megalomaniac who had grand plans to partner with various major corporations in order to attract investors and make the company worthy of an IPO. Unfortunately, Winn had planned to sell stock to the public just after the peak of the dot-com boom, when brokerages’ confidence in internet companies had started to wane.

After Value America went public, Goldman Sachs issued a report that Amazon.com was the internet retailer with the highest potential for success because it had high sales margins on its then-merchandise consisting only of books; a $30 billion valuation was not out of the realm of possiblity. Goldman went on to say Value America had the worst prospects, with sales margins of 1% and runaway costs. It would have to achieve revenues of billions of dollars in order to make any money.

Toward the end of the story, the author realized “Despite the hype, headlines, and hysteria, this was just a gold rush we were in… a lot of us were kin to those poor, freezing fools in Alaska who had staked everything on turning up a glittering chunk of gold.”

Read the book to learn the fate of the author, his family and the other Value America employees with dollar signs in their eyeballs.

The Black Swan

The Book of the Week is “The Black Swan” by Nassim Nicholas Taleb, published in 2010. In this book, the author explains his theory about rare, unexpected events, “Black Swans”– unexpected by those affected, because human traits and uncertain situations cause people to draw the wrong conclusions, formulate the wrong predictions, and make the wrong decisions. “Black Swan events are largely caused by people using measures way over their heads, instilling false confidence based on bogus results.” The author applies his ideas mostly to “experts” who manipulate the financial markets.

While Taleb makes some good points, this blogger suspects that very few readers of this book will come away fully understanding what a Black Swan is. Taleb tries to provide several examples; his illustrations are unclear as to why one event is a Black Swan and why another is not.

One example consists of five trading managers at a European-owned financial institution who wrote a five-year plan. Having neglected to consider all possible adverse future events, they were done in by “the Black Swan of the Russian financial default of 1998 and the accompanying meltdown of the values of Latin American debt markets.” Yet, Taleb writes that the 2008 financial crisis was not a Black Swan. He says such a cluster screw-up will happen again. A Black Swan is a negative or more rarely, a positive occurrence that in general, has never happened before.

One human trait people have is that they are reluctant to attribute events to randomness. But Taleb thinks randomness plays a part in all sorts of events, including long winning streaks of investors. He even generated a computer simulation showing how it would be impossible not to have money managers who beat the market year after year– he says they did so simply by luck alone. Another reason these investors are overrated is that people hear more often about winners rather than losers.

Taleb writes, “We want to be told stories, and there is nothing wrong with that– except that we should check more thoroughly whether the story provides consequential distortions of reality… Just consider that the newspapers try to get impeccable facts, but weave them into a narrative in such a way as to convey the impression of causality (and knowledge).”

Leg the Spread

The Book of the Week is “Leg the Spread” by Cari Lynn, published in 2004.  The author interviewed several current and former commodities-futures traders, providing detailed descriptions of their days at the market in Chicago.

Some traders, employees of a broker-dealer, actually stood on the trading floor, yelling and waving paper from the time the market opened at 8am until mid-afternoon.  Others traded online.  They had good days and bad days.

One female who formerly made a large amount of money on the trading floor before becoming burnt out, had many bad days, both because the job itself was stressful, and because the vast majority of people around her– practically all men– were sexist.  In many cases, the way for a female to get ahead besides having super luck, quick math skills and keen intuition about human behavior, was to sleep with one’s (male) boss.

Read the book to get a comprehensive, entertaining picture of the American commodities-futures market in the mid-single-digit 2000’s.