(UPDATE: Dr. Byrne issued an alert regarding proxy abuse in OSTK, and the likelihood that it is taking place due to broker concerns about revealing the actual size of the fraudulently created securities entitlements in investor accounts - essentially, that they aren't sending proxies out to the FTDs because they are afraid (legitimately) of creating a massive smoking gun. If you have any OSTK, demand your proxy, and vote it directly with the company - and don't take no for an answer.)
Today's NY Times has an interesting article by Floyd Norris, a a name familiar to me because of a long conversation I had last year with him, wherein I articulated my belief that hedge funds were engaging in abusive trading, and further, that their laissez-faire ways were creating systemic risk.
This was immediately following the now famous Washington Post advertisement, wherein NCANS wrote an open letter to the President requesting him to take action against naked short selling, and to enforce the 1934 Securities Exchange Act - effectively, to protect Main Street America from the predation of a Wall Street run amok, using illegal and unethical trading and stock counterfeiting to rob the nation's investors of their retirements.
As we all know, that ad resulted in a landslide of press, followed by virtually complete inaction from the regulators and our elected officials.
Since then, Refco blew, taking with it billions in shareholder value, and now, the fate of Bawag, the bank whose relationship with Refco has proved to be its undoing. Overstock.com and Biovail have filed suit against hedge funds and a research firm for engaging in market manipulation. The entire NY press machine sprang into action to assure the nation that NCANS was crazy, and that there was no naked short selling problem, and further, that Byrne was also crazy, and that the systemic risk and gross de facto theft described in the ad and subsequent NCANS pieces were lunacy, distortions of paranoid imaginations, or red herrings to distract the market from the woes of a bunch of cry-baby companies and their whimpering shareholders, who were pissy because their stocks had gone down.
Recall SEC Chairperson Annette Nazareth saying exactly that?
And now the dam breaks, and lawsuits are being leveled against the prime brokers by their hedge fund clients, who are claiming that massive naked short selling has resulted in their paying those brokers fraudulently obtained fees, and indicting the entire brokerage system in a collusive naked short selling conspiracy, which seems suspiciously like the S&L crisis kiting of debt among related entities (also vehemently denied by the perps, as well as our old friends in the NY financial press) - exactly as described in my speculations, so glibly dismissed by the NY press corps as gibberish over the last year.
Yesterday, we were treated to coverage of the meeting where the Fed started throwing around language about systemic risk, and hedge funds.
Today, we have Floyd's piece, which alludes to systemic risk created by hedge fund malfeasance and risky behavior in the derivatives markets, and discusses the lack of regulation and secrecy that make that sort of catastrophic risk possible.
Anyone noticing a trend?
Read the piece - it is pretty good reporting. I will try to get a link, and in the meantime, will reproduce the best parts, with attribution, for fair use:
"FOR those who favor open markets and open investment management, it may look like the best of times. But it may really be the worst — and we may not learn just how bad it is until something horrible happens.
Never have American stock and bond markets been more transparent and subject to better regulation. New rules protect investors in companies and mutual funds by requiring better disclosures.
But more and more trading — and more and more money — now falls outside almost all regulation. Hedge funds trade with virtually no disclosure of what they are doing.
And both they and others trade — without disclosure — derivatives that had not been dreamed of when the regulatory structure was established more than half a century ago.
This has happened in the last two decades with little notice. Alan Greenspan, as Federal Reserve chairman, and the derivatives industry won the argument that regulation of new instruments would just drive them offshore.
In any case, they argued, the players in the derivatives markets — the big banks and institutional investors — were regulated, so why worry?
But now many of the traders are hedge funds. Many disclose only limited information to their investors about what they do, and they disclose almost nothing to regulators. Is a fund taking too many risks? The hope is that the banks that lend to it will police that. If not, good luck."
Good luck indeed. Not a lot of ways to interpret this so far, are there?
"At a Vanderbilt University conference on conflicts of interest in financial markets, a paper was presented yesterday by Naveen D. Daniel of Purdue. Written with Vikas Agarwal of Georgia State and Narayan Y. Naik of the London Business School, it argued that hedge funds manage their results just as corporations did in the bad old days.
The paper, "Why Is Santa So Kind to Hedge Funds?" tries to figure out why hedge funds almost always do better in December than in any other month, and why performance often slumps in January.
Could it have something to do with the fact that hedge fund managers usually get a share of calendar-year profits? Is it interesting that the funds most likely to report a blow-out December are those whose managers most need such a result to collect their annual profit share?
"It looks like they could be faking" some of the numbers, Mr. Daniel said. But the case is circumstantial because "we have no clue what they are doing inside the funds."
Exactly. We don't. Because hedge funds have successfully lobbied, for years, to keep regulators out of their hair, and let them do whatever they like under the mantle of complete anonymity and secrecy. That is what makes abusive trading strategies possible, that is what makes fraud in the funds possible, and that is what makes the kind of larcenous reporting Floyd speculates about possible.
"The market in credit default swaps means that holders of General Motors bonds may not be in danger if that company defaults. But how much risk has been passed off in that market, and to whom? Has some of it landed with players who might not be able to meet their obligations?
The coming regulatory fights are shaping up to be over efforts to relax the Sarbanes-Oxley Act, and over whether mutual fund boards must have independent chairmen.
But months before Sarbanes-Oxley was passed, no one would have thought that such a law was possible. Then came Enron and
WorldCom. Let us hope that no similar alarm and outrage come up when we do learn more about how — and how safely — hedge funds are secretly trading all those secret derivatives."
The green was added for emphasis. But the point is a good one, and frankly, one that should give one pause to ask why so many trillions are being traded by anonymous, unregulated entities whose ability to meet their obligations is unknown - presenting a scenario where a few failures could have the dreaded domino effect that has been so chillingly depicted in past Sanity Check blogs.
It's all about the money. But articles like these should give one a gnawing sense of unease - the problem of an industry run like a Wild West saloon are becoming harder and harder to hide, and I can only hope that my concerns about a global destabilization due to hedge fund and Wall Street malfeasance are far off the mark.
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Dr. Byrne sent a little love letter to the WSJ to respond to the recent negative piece by the Journal's latest attack chihuahua, Holman Jenkins Jr. Here is the text of that response, which requires no explanation:
http://online.wsj.com/article/SB114558723216732121.html
Here's the Naked Truth About Overstock.com
April 21, 2006; Page A15
Gandhi said, "First they ignore you, then they laugh at you, then they fight you. Then you win." Holman Jenkins Jr.'s April 12 Business World column "Do Nudists Run Wall Street?" moves us to stage No. 3: It contains the normal amount of distortion I have come to expect from financial media, but as it also makes the first attempt to confront the right issue, it is a step forward. Bravo.
Mr. Jenkins claims that I "propound a theory" that Overstock's "shares are grossly undervalued." This is wrong: I have never lamented Overstock's valuation nor connected it to the naked shorting issue.
The "elaborate Webcasts . . . found at businessjive.com" cited by Mr. Jenkins never once mention Overstock. He provides no other citations, which is appropriate, as there are none. Last, the quote he attributes to me, "If I'm crazy, why am I running a public company?" is something I never said. I challenge Mr. Jenkins to produce this or any similar quote.
However, Mr. Jenkins correctly depicts me as a jihad against naked shorting. I do believe blackguards have practiced "failure to deliver" (FTD) for profit, while incidentally destroying businesses and (probably) destabilizing our capital markets. I also think that if this nation ever grasps how its savings have been looted through this mechanism, a few million Americans are going to show up at the corner of Wall and Broad with pitchforks and nooses. Thus, financial journalists spin countless, "Just another CEO who's mad at shorting" stories, of which Mr. Jenkins's piece is an example.
Patrick M. Byrne
President
Overstock.com
Salt Lake City