Posted on 08/28/2008 5:14:05 AM PDT by StatenIsland
I will explain to you a financial crime that is occurring on Wall Street. It will not be difficult to understand. In fact, the crime’s simplicity will probably amaze you.
From three years of experience explaining this crime to many people, however, I know that there are two hurdles people face in understanding it. The first seems big but is, in fact, easy to surmount. The second is small, but is the one that trips people up. I have an easy way to get you over both hurdles, but to do so, I will ask you, esteemed reader, to make two promises to me. If you keep these promises you will overcome both hurdles.
Hurdle #1: Because it is a financial crime, people who are not too conversant with financial issues may shrink from technical-sounding jargon. The way over that hurdle is this:
1) I will start by giving a super-simplified explanation that any high school kid could follow. It will be accurate, but only metaphorically accurate.
2) Then I will give an explanation that is literally accurate, but is still somewhat simplified, and uses just a little jargon.
3) Next I will give an explanation that is literally accurate, and includes technical jargon.
4) Last, I will provide links to numerous articles, news reports, interviews, and explanations that have appeared in academic papers and the financial media, for those who want to bury themselves in the technical details.
In sum, I will start with simplified explanation, then move through the explanation again and again, getting more accurate with each pass, but also, more technical.
Promise #1: Please make the first promise to yourself that you will not plough through this material until it defeats you. Instead, start by reading the first, metaphorical explanation and, if you understand to your own satisfaction, stop. If you are not sure you understand or remain unconvinced, read through the second, literal-but-simple explanation. If you get it then, stop. If you still are not sure you get it or remain unconvinced, read on through the fuller literal explanation, etc. etc. That is, promise that you will not wade through this material until it leaves you defeated and unconvinced. Instead, just read as far as you need to before you feel you get it, then feel free to bail out.
Hurdle #2: I have discovered that, given the right explanation, anyone can understand this crime. The second hurdle, however, is that when people start to understand it, their minds react as follows: “No way. No way. There’s no way that could be happening in our country. No way.”
Promise #2: Please make a second promise to yourself. That is, when you reach the point where your mind is reacting this way, you’ll go back and read Promise #1.
Yet imagine that there are some travelers to whom special privilege is granted. When they go to a foreign country, they are allowed to take a small machine that prints out the local currency. If they are in Paris, it prints out Euros. If they are in London, it spits out British Pounds. When in Mexico City, it prints pesos. And so on and so forth. On every trip, however, this special “currency machine” keeps track of how many Euros, pounds, or pesos it has spit out. When its owner goes to the airport to leave the country, a government official reads the machine’s printout and makes the traveler settle his account. For example, if the traveler visits Paris, then as he stands in the airport ready to depart, the official reads his machine and says, “Monsieur, you printed out €1,000 (one thousand euros) while you were here. At today’s exchange rate that is equal to $1,500 US.” The traveler hands over US $1,500 in cash, then boards his plane for the US.
Why are such boxes allowed? Because the people to whom this privilege is granted are wealthy hedge fund managers and Wall Street brokers. It is more convenient for them to carry these currency machines, and print what is in effect “temporary” local currency, than to do what the rest of us do, changing currency every morning at our hotel’s front desk. Besides, they’re rich. Everyone knows they are good for it: in fact, when one of them arrives in a new country, before he gets to use his curency machine he has to prove that he is wealthy, so that no matter how much local currency he prints and spends, he’ll have the dollars to buy them all back at the end of his trip, at current exchange rates. That way, when he is ready to leave the country and at the airport his machine is read to find out how much of the temporary local currency he printed on his visit, and that number is converted into US dollars, he can simply reach into his valise and pull out the requisite cash, even if it is thousands, or millions, of US dollars.
Imagine now that between the two Caribbean nations of St. Bart’s and St. Maarten’s there is a small island nation, St. Smallcap. It may be poor in comparison with the United States, but it has a working, even vibrant, economy. Its currency trades at parity with the US dollar (that is, one of the first converts to one of the other, and vice-versa). No one knows what the future holds for St. Smallcap. Perhaps it will stay as it is for generations. Perhaps it will develop into a prosperous island nation like Bermuda. Maybe it will become a destitute, impoverished nation like many other small island nations. Perhaps it will become an economic powerhouse, like Hong Kong or Singapore. There is no way to tell.
One day, as if on cue, a dozen hedge fund managers and Wall Street bankers show up in St. Smallcap. No one thinks much of it as these fellows start driving around Smallcap with their special machines. They print off the local currency with great abandon, using that currency to buy drinks and dinners on the town, pay for taxis, and gamble at the casino. In time, they begin buying the island’s houses, cars, yachts, and cargo ships. They even buy Smallcap National Airline’s sole 727 jet. They buy anything that is not nailed down, paying for it all along with the local currency, which they print off their special currency machines as they need it.
After a few weeks something funny begins to happen. There is so much extra currency floating around, it begins to affect the economy. As everyone realizes that there is a lot of extra currency sloshing around the island, prices for goods rise in anticipation that Smallcap’s currency will become less valuable. It may even happen that prices soar, as they did in Weimar Republic Germany after WWI, in a bout of hyper-inflation. Of course, as this happens, the rate at which Smallcap’s currency can be exchanged against other currencies, including the dollar, collapses.
There is an even more insidious effect, however, that one can understand by thinking about the nature of prices. There are many ways to think about prices. Often we see them simply as obstacles preventing us from getting what we want (”Jim wants a new Mercedes but on his teacher’s salary he cannot pay the price.”) Another way to think of prices, however (a way many economists think of them), is to see prices as little bits of information passing back-and-forth around the economy, permitting millions of strangers to coordinate their economic activities. Prices for corn are going up and prices for wheat are dropping? That is a signal to farmers that they should cut back on wheat production and plant corn instead. Rents soar in a city while prices for office space stagnate? That is a signal that someone should convert some office space to apartments and condominiums. A city is washed out because of a hurricane, and prices for flashlights are soaring? That is a signal to surivivors within the city to share the scarce resource of flashlights, and a signal to outsiders to start trucking in flashlights for resale (i.e., “profiteering,” which to economists means, “responding quickly to price signals without regard for ethical concerns such as loyalty”).
Like any other normal economy, in order to function St. Smallcap’s economy relies on prices to pass information around the economy. The hedge fund managers and their special currency machines, however, print out so much of their “temporary” currency that Smallcap’s economy becomes awash in it. Imagine listening to a radio playing across the room while someone plays white noise in speakers set up next to your ears: you would not be able to hear what was being said. Similarly, this flood of “temporary” currency washes out the signals that prices normally carry within St. Smallcap’s economy. No one knows whether to grow wheat or corn, and since seed prices are rising but no one knows what income can be generated from any crop, fewer farmers plant anything. Savings drop: it makes less and less sense to save, because what is the point of delaying consumption today in return for a future benefit that cannot be estimated? Since less money is being saved, banks have less capital to loan to businesses to expand, or even maintain, current production. As a result, manufacturing on the island also collapses.
One can imagine a situation where, if Smallcap’s economy were small enough, and the Wall Street bankers and hedge funds swept down on Smallcap with enough currency-printing machines, that they could flood Smallcap with so much of its own currency that the price signals of the local economy would be mostly lost. The white noise of massive amounts of this “temporary” currency would disrupt real economic activity, like farming and manufacturing, until the economy of Smallcap cracked. Hyper-inflation, starvation, and mass unemployment might set in. People would begin trading anything they have in return for a ticket to flee the island.
Throughout it all, the Wall Street bankers and hedge fund managers continue using their machines to print local currency with which they can buy, buy, buy.
After six months, when nothing of value is left on the island that they do not already own, the bankers and hedge fund managers take everything they bought and load it onto their new cargo ships and yachts. They gather at the airport to board their new jet.
A government official arrives and sets about to find out how much of the local currency they printed while visiting the island. The official reads the print-out from each of their machines, sums it up and exclaims, “100 million!”
One hedge fund managers speaks for the rest: “Yes, but that is not 100 million US dollars. It is 100 million in your local currency. And while we have been visiting your country your local currency seems to have collapsed. That is hardly surprising, given that your farms are vacant and your factories are boarded up. It seems that on the international markets your currency is worth 1/10,000th of what it was worth when we arrived six months ago. Thus, in US currency, we owe you precisely… $10,000.” He flashes his thick wallet and counts out the sum. Laughing, his hedge fund colleagues and banker friends board their jet and take off, banking to watch their new cargo ships sail out of the harbor loaded with the wealth of the country, for which, in the end, they paid $10,000.
Imagine also that surprisingly few reporters seem interested in these events, or notice the pattern of it happening to one small island nation after another. Those who do notice it take it for granted that small island nations are supposed to be the way they are: destitute and impoverished. Only rarely does a reporter challenge the bankers and fund managers on their actions, but the financiers respond in unison so perfect it appears rehearsed, “Are you kidding? Don’t you know what a dump that island is? The last time I saw St. Smallcap its farms were barren, its businesses were boarded up, and everyone was fleeing. I tell you, the place is just a disaster.”
If you can understand the story above, then you can understand the crime that is occurring in our financial markets (the metaphor is a sound one, if I say so myself). The point of subsequent posts in this category will be to convert the story you just read into Wall Street lingo, one step at a time. You will see how the preceding story precisely expresses behavior that is occurring on Wall Street, routinely, today.
In reality, of course, the “special machines” that bankers and hedge fund managers are using are not actual physical machines, and what they are destroying are not “small island nations,” and what they are printing is not “currency.” In reality, the “special machines” are loopholes in our legal system, what the bankers and hedge funds are destroying are small companies, and the “currency” they are printing off to do so are shares of stock in those small companies.
I strongly urge anyone with an interest in the financial well-being of our markets to follow the link and read more about this crime.
It is so amazing it could be a work of fiction, but it is not. Ordinary Americans must be made aware - not only is our personal financial stability at risk, but the financial stabiltiy of our country.
ping for later study
Interesting, bump for later.
what mick said in post 3
The writer sure took “the long way around the barn”.
This is a ridiculously long, tedious, ponderous article on how governments inflate the currency through the banking system.
There are a million better written articles that are more accurate.
bookmark
“This is a ridiculously long, tedious, ponderous article on how governments inflate the currency through the banking system.”
I apologize to you all for the ponderous nature of the article, and urge you to visit the website for a better understanding of the crime being committed.
It has nothing to do with inflated currency, it has to do with naked short selling: a manipulation of a company’s stock that drives it price down to pennies, taking the net worth of individual and institutional investors with it.
I will try to post more concise and clear excerpts. This is important stuff. Please don’t bail out on it.
“A massive financial crime is harming the United States. The crime makes a hoax out of corporate governance, destroys firms, deprives society of innovations, robs Americans, and is bringing about the collapse of our financial system. The institutions that should stop it have been “captured” by the criminals doing it. These captured institutions include the SEC as well as the financial press, which has remained so willfully blind it borders on a cover-up. Dots have been connected in the world of social media, but the same criminals who are behind the scam are manipulating social media to forestall the day of popular epiphany.
And yes, I know this all sounds like a bad Sandra Bullock movie
My claims, which I have been making publicly since 2005, have been widely misreported. Therefore I am stating them as nine straightforward arguments here on Deep Capture in order to bypass those captured institutions mediating our republic’s discourse.
The Table of Contents below lists the nine chapters of Deep Capture. Each chapter contains essays arranged in proper logical order, with the easiest material up front and less-accessible material further back. Please read no further into any chapter than your own desire for detail demands (I plant signposts to guide readers whose preferences for detail differ). Yet if you read far enough into each chapter, you will see a Big Picture that is otherwise beyond my power to convey.”
http://www.deepcapture.com/deep-capture-the-explanation/
ping as well
Based upon my limited knowledge of the current financial markets, this guy appears to be full of crap. He talks a lot about hedge funds and always refers to IOU’s and never “short selling”. He says that if called to deliver on the IOU’s the funds simple issue another IOU. I may be wrong but if a particular small stock is removed from the approved list, the fund has to go out and buy the stock to “cover” his short. If the fund has driven the price down with his short selling, the market will drive the price of the stock back up as he attempts to cover or close out his position. This guy sees a crime and I don’t see it the way his facts and similes are presented.
No, it's an article about naked short selling and how hedge fund managers and brokers use it do make money by destroying companies.
There's the rub, that tiny little word
if
This sounds like what ‘Big Corn’ did to Mexico — ran the locals out of business then enjoy higher prices.
“Based upon my limited knowledge of the current financial markets, this guy appears to be full of crap. He talks a lot about hedge funds and always refers to IOU’s and never “short selling”. He says that if called to deliver on the IOU’s the funds simple issue another IOU. I may be wrong but if a particular small stock is removed from the approved list, the fund has to go out and buy the stock to “cover” his short. If the fund has driven the price down with his short selling, the market will drive the price of the stock back up as he attempts to cover or close out his position. This guy sees a crime and I don’t see it the way his facts and similes are presented.”
No, portcall, you’re missing it. This is ALL about naked short selling and failure to “cover” as you call it. It is technically known as “failure to deliver” or FTD.
When a hedge fund or group of hedge funds starts to naked short, they are not be held accountable to deliver. therefore they can continue to short sell the stock, driving the price down until a mass panic ensues (along with phony rumors propogated by the financial media).
Often time there are more shares shorted THAN THE ACTUAL TOTAL NUMBER OF OUTSTANDING SHARES OF THE SMALL CAP COMPANY!
No investor can sit idly by and watch the value of his investment plummet indefinitely, especially after hearing the financial press whisper about “SEC investigations” or “accounting irregularities” or worst of all, “delisting.” So he sells, usually at a terrible loss, and further drives the price of the stock down.
If the company goes bankrupt because of the ensuing run on it’s “currency” all the better. Then nobody even ASKS them if they can cover the short sales.
I urge you to drop your skepticism for as long as it takes you to digest this.
L
So a hedge fund can short an infinite number of shares of a company, indefinitely, and never cover the short sale?
Are there examples of this? It seems like it would be so profitable that it would eventually move up to larger and larger companies. Is this a new phenomenon?
tl;dr...
It’s really sad when the “clear” explanation is more complicated and obscure than the “complicated” one. Hint to author: not everyone is as interested in the sound of your own voice as you are.
Naked short selling in fewer words : listing your neighbor’s house for sale and selling it without first asking your neighbor.
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