Archive for October, 2012

The Junk Credit Bubble

11 | By Shah Gilani

There’s a big storm brewing.

Not Hurricane Sandy. She’s coming, for sure; it’s just a matter of where and when she’ll whack a good portion of the northeastern United States. That storm is being widely watched and getting massive news coverage.

I’m talking about another storm I see brewing – a storm that no one is talking about. In fact, the media is blind to it.

But this storm could be a lot bigger and do a lot more damage.

I subscribe to a lot of “inside the ropes” kinds of publications. Mostly they’re industry-specific newsletters, magazines, and deal books. Two of them, Leveraged Finance News and Structured Finance News’ Asset Securitization Report, are taking me longer and longer to read every day.

That’s because the number of “leveraged” and “structured” deals that have been coming to market has truly exploded.

Let me show you what I mean, and why it matters to all of us.

Leveraged Finance News Daily Briefing – October 26, 2012

  • Investors Roll Dice on Gaming Industry: Luck may run out for some players as local markets become saturated.
  • Avaya Asks Lenders to Extend $1.4B of Loans: The telecommunications provider wants to extend the maturity of $1.4 billion of loans due in 2014 to as late as 2017.
  • Milk Specialty Seeks $315M Credit Facility: The manufacturer of whey and dairy protein ingredients will use proceeds to refinance debt and fund expansion.
  • Laureate Boosts HY Offer to $865M: The bonds are an add-on offering to its July bond sale and would bring the total tranche to more than $1.2 billion.
  • Investors Continue to Slow Flows to HY: ETF withdrawals caused weekly inflows into junk bonds to total only $9.5 million. Leveraged loan funds saw their strongest weekly inflows this year.
  • Goldman Hires DB Trader for London Group: Former Deutsche Bank credit trader Nicholas Pappas will lead a distressed and high yield debt group.
  • Lamar Drives By for $535M Bond Sale: The company plans to use the proceeds to redeem $137.2 million in subordinated notes and fund its acquisition of NextMedia Outdoor.

That is only one day’s list from one source. These deals are flowing daily, and they’re going to keep coming. Also on Friday, the Asset Securitization Report listed different deals. Again, that’s one day.

The storm that’s brewing is a bubble.

Because of the Fed’s no-interest rate policy, investors are clamoring for yield. And to get it, they’re reaching further and further out onto thinner and thinner branches of the credit quality tree.

Not only are they reaching for “junk” and leveraged junk, they’re reaching for the lower-quality tranches of collateralized loan obligations.

Even more freakishly frightening, some investors are buying synthetic collateralized debt obligations backed by derivatives bets on the creditworthiness of borrowers. Not on real assets; they’re betting on bets. Do you get that?

Here’s proof.

Blue Mountain Capital Management LLC, a powerhouse hedge fund – but don’t call them that – just raised twice as much money as they had anticipated for their Credit Opportunities Master Fund I. They wanted to raise $750 million but they got $1.5 billion. The fund invests in structured corporate credits, collateralized loan obligations, asset-backed securities, and less liquid corporate debt. According to a Bloomberg article, “investors were primarily pension funds in the U.S., Canada, Japan, and Europe.”

This has happened before.

It is all too reminiscent of the build up in subprime and structured, leveraged, collateralized debt deals that banks put together to sell to yield-starved investors around the world back in 2007 and early 2008, in the then Fed-engineered low interest rate environment, which, of course, drove us to the edge of the end of the world as we know it.

Yes, this storm is brewing, and I’m giving it a name (with apologies to rapper Eminem)…


“Slim” for the thin collateral coverage and credit quality of the deals coming to market, and “Shady” for the bankers slicing and dicing this witch’s brew and slathering it all over the not-so-bright investors whose memories are so short that their yield appetite is bigger than their brains.

What will trigger the bubble popping? I don’t know. But I am looking at the price of oil as a potential barometer of world demand and whether or not global growth is slowing and by how much.

If global growth slows significantly and markets sell off, the leveraged crap container will spill its ugly guts and make everything 10 times worse in half the time.

When I want to know about the price of oil, I read a lot of industry papers on the subject. One of the guys I read is Dr. Kent Moors.

Here’s something he just wrote (from Friday, October 26):

Brent and WTI have been on a downward trajectory recently. Brent had declined for seven consecutive trading sessions before yesterday, while WTI had been down for five.

Brent and WTI (West Texas Intermediate) are the two principal crude oil benchmark prices of global trade. Brent is set in London, WTI on the NYMEX in New York.

Given the importance these have in pricing crude worldwide, it may be useful to review what they are before talking about what has happened with them recently.

As I have observedon a number of occasions, neither benchmark has actually reflected the quality of oil traded worldwide. On average, 85% of the oil in the international market on any given day is sourer (having a higher sulfur content) than either of these benchmarks.

That means the actual trades are done at a discount to the price of one or the other of these standards.

How do I interpret that? The price of oil in world markets is less than the benchmarks. Prices fall when demand declines. Are prices dropping because there’s suddenly so much more oil in the world? No. There is more oil being extracted, and that’s all good. But supply isn’t rising so fast that it’s causing prices to drop so quickly. It’s demand, or lack of it.

And that is very worrisome.

Be careful out there.

[Editor’s Note: Kent’s own take on the oil demand story might surprise you. Click here to see what the members of his Energy Inner Circle already know. They’re making money on it right now.]

Big Bank Protectionism: A Success Story

84 | By Shah Gilani

If you’re reading today’s headlines, you know Bank of America Corp. (NYSE:BAC) is in trouble. It could be in really big trouble.

Thank goodness they’re so big!

Thank goodness all the big banks in America are all much bigger now than they were a few years ago, before the financial crisis brought them to their knees, by their own doing, of course.

Don’t you just love it when a plan comes together?

Yeah, it’s all part of “The Plan” to eliminate pesky banking competition.

Let me show you how nicely it’s working…

The Plan was hatched a long time ago. Back in 1913, as a matter of fact. That’s when Congress devised the Federal Reserve System for eliminating competition and making sure U.S. taxpayers would be the lender of last resort to big bankers.

It has taken a while, 100 years, in fact. But it is working.

The first sign it was working came in the 1980s and ’90s, when the savings and loans got into serious trouble playing the greed game. They weren’t covered by the Federal Reserve System. So they were shut down, or rolled up by government-backed insiders (Congress’ puppet-masters), and later sold to big banks for sweet profits.

Anyway, they’re gone. No more pesky competition from S&L associations.

Now look who’s next on the chopping block…

Community banks on their way out. They have been systematically undermined and undercapitalized on account of their inability to compete with all the big banks (that would be the Five banks, you know who they are). The big banks are obviously too big to fail, so therefore a safer place to put your money and with whom to do business.

Over the past 20 years, the number of community banks, those with assets of less than $1 billion, has been knocked down by half.

Meanwhile, in the past four years, the Big Five have grown exponentially. They now hold more than 50% of all banking assets in the United States.

There are a few hundred “regional” banks. But they’re not part of the problem; they’re part of The Plan. They will be bought by the big banks eventually. So the bigger they get, the better for the Big Five, who will gobble them up in the final race to megabankdom.

It’s the approximately 6,000 remaining community banks – the ones that are the local backbone lenders in small towns and communities – that have to go. They are being shrunk systematically and undermined emphatically.

How emphatically? Well, they account for 92% of all banks and have 30% of all branch locations. But they only account for 11.5% of all bank assets.

The big banks overshadowed community banks primarily by encroaching on their meat and potatoes, small-business loan financing (you know, those higher-risk loans to local businessmen and women creating the majority of jobs in America), on account of their shoveling credit cards into their mailboxes. (You may be surprised to learn that credit cards are now the principal means of financing used by small businesses.) As they did so, the poor and getting poorer community banks have had to turn more and more to commercial real estate lending.

Over the last 20 years, the percentage of community banks’ assets represented by commercial real estate loans has risen from 30% to just over 53%, according to the American Bankers Association.

What’s interesting is that those banks struggling with their commercial real estate loans were once in a position to compete with the big banks. But not for much longer. They’re on the ropes – just where the Big Five want them.

And finally, I’ll ask rhetorically, what’s up with the de facto moratorium on handing out charters to any de novo (new) banks? The question may be rhetorical, but the answer is anything but theoretical.

There haven’t been any new bank charters issued in the past three years.

There are no new banks, not because the regulators are afraid that they’ve already got their hands full with all the banks in the country now – though that’s what they’ll tell us. The reason there are no new banks is that we’re at that part of The Plan where new competition isn’t allowed to be created.

So, what’s this all got to do with Bank of America being in trouble?


Bank of America bought Countrywide back in 2008 – not a good deal for them, and now the cause of a lot of trouble. Now BoA, along with 17 other financial institutions, is being sued by both Fannie Mae and Freddie Mac’s government regulator, the Federal Finance Housing Agency, to make them cough up money for the crappy loans Countrywide originated, packaged, and sold them. The FHA really wants BoA to buy-back a lot of those mortgages, and are suing them to do so, and maybe throw in some other money in fines.

But Bank of America just got hit again, yesterday, by the government.

Actually, it was hit by a former executive vice president’s whistleblower suit, which the Justice Department joined. They’re seeking $1 billion from the bank for “brazen” fraud in originating crappy prime mortgages (as opposed to the crappy subprime mortgages they originated) and systematically funneling them to the government-sponsored entities Fannie and Freddie, who unwittingly bought them and then had to be bailed out by, you know who, us, the taxpayer.

Everyone saw this coming. Especially the Federal Reserve Bank. Everyone knew there would be blood to be paid by the banks that wrecked the economy. So the Fed has been funneling cash to the big banks to make them flush so they can fight these legal onslaughts, pay their fines, and get bigger in the process.

It’s all about survival of the biggest.

There’s no help for community banks. They can’t tap into the Fed’s toffee trough.

This is where this is going. The big banks are getting bigger, and the government is not just letting it happen, no, they are actually aiding and abetting The Plan. They, our legislators and regulators (heard of regulatory capture?), are bought and paid for by the big banks.

This is power at its most obvious and ugly intersection. And it’s going to control us in the process of crushing us for their profitability. It’s already happened and it’s happening still.

Where are the presidential candidates on the subject of big banks getting bigger, more powerful, and being ever protected by the Fed, which is not a government body but owns the government? Where are they? What are they saying about it all?

That would be nothing. That’s because they are both bought and paid for, too.

We need to end the Fed, break up the big banks, get corporate money out of politics and facilitate localized community banking for the benefit of America’s real job creators.

Is anyone listening?

Why Nothing Has Changed Since Black Monday

23 | By Shah Gilani

Friday was the 25th anniversary of Black Monday – October 19, 1987, when the stock market fell some 23% in one day.

And it was a hard anniversary to escape.

Not only was it written about in most mainstream newspapers and talked about on all financial news channels on Friday, benchmark stock indexes nodded their remembrance to that special day too, by promptly falling between 1.52% (S&P 500) and 2.19% (Nasdaq).

Maybe stocks fell as a wink and a nod to the past repeating itself, or maybe it was a nod to the future of Europe being muddled once again.

Either way, there are plenty of lessons to be had from what happened back in ’87 and what’s happening now. Let’s take a look.

Twenty-five years ago, computer-generated trading was taking root.

There were lots of newfangled computer-driven trading “models” being tried out. One of them, a scheme started by Kidder Peabody (don’t worry, they’re out of business now) had the cool and important-sounding name “Portfolio Insurance.”

If markets started to fall, and you were smart enough to have bought Portfolio Insurance from Kidder (and some other clowns, I mean clones), they would automatically sell S&P 500 futures short for you, to offset your losses on your big portfolio of stocks.

The thing is, the scheme was self-fulfilling.

As stocks dropped, more and more futures were being sold as “insurance” protection. But whoever was bold enough to buy the futures contracts that were being sold – eventually hand over fist – were hedging themselves by also shorting baskets of stocks to offset their long futures positions. And as more stocks were sold and markets went down further, more insurance was needed, so more futures were sold. Now do you see what happened?

Portfolio Insurance got a bad name, fancy that, and went bye-bye.

Good thing we learned from that.

But not really…

Wall Street being Wall Street, they came up with another insurance scheme. This one, of course, was better. Not only because it went by a cooler name, “credit default swaps,” but because this insurance product wasn’t regulated at all. Hell, it wasn’t even a “security.” CDS are bilateral private contracts, so mind your own business.

And it’s a good thing they worked during the financial crisis.

Actually, they worked before the financial crisis and helped to cause the financial crisis, which, thank goodness, was mitigated because so many banks had bought credit default swaps from so many other banks that none of the counterparties to any of the credit default swaps were solvent and able to pay if all truth had to be told and everybody had to lift up their skirts. No, thank goodness we had CDS at that time, because the Treasury and Federal Reserve Bank and the world’s central bankers all had to come to the rescue of everybody who had all this great insurance.

Anyway, remembering what caused Black Monday back in ’87 spooked markets on Friday – a lot!

Nothing has changed from Black Monday. Oh, the names have changed, but the games haven’t.

Let’s look at the here and now.

Europe Faces Another (Worse) Potential Banking Crisis

The biggest macro impact event weighing on U.S. markets and global markets for the past two-plus years has been what’s happening, or not happening, in Europe.

European banks lent heavily into Europe’s own version of America’s real estate bubble. And because commercial interest rates have been kept low there, as they have here, investors, and in particular Europe’s banks, sought yield and “safety” by investing in sovereign debt, amply pumped out by Europe’s profligate governments.

Debt-to-GDP ratios rocketed sky high.

The European Union didn’t like that and waved its collective finger at the bad boys and girls in the club, who became known as the PIIGS; that would be Portugal, Ireland, Italy, Greece, and Spain. Markets saw the EU waving its finger and promptly gave the PIIGS their own finger. And sovereign borrowing costs began to rise.

Anyway, more good money was thrown at broke nations, and bad things got papered over (literally) up to the point, recently, where it looked like Europe was settling down.

But not so fast.

On Friday, Moody’s issued a report warning that German banks are not in good shape either. (Yeah, Germany, the only clean shirt in the drawer that wasn’t even in anybody’s laundry pile.) In a nutshell, Moody’s said German banks “suffer from meager profits, rising risk and insufficient reserves to absorb losses” – that’s how the New York Times paraphrased the findings.

It’s like déjà vu all over again. Only this time, it’s worse.

If Germany, the breadwinner in all Europe, and singular de facto solvent backer of the European Central Bank, is facing a potential banking crisis… look out below.

What’s instructive here is that we’re reliving Europe’s woes on something like a rolling basis. Only this time, it’s worse. Did I just say that?

All Europe’s banks have been buying Europe’s sovereign debts, and more so lately with more and more leverage, because interest income elsewhere in their business books pales in comparison to the high rates they get for crappy – okay, call it “junk” – sovereign bonds.

Now, if German banks start having problems, the Germans are going to say “Nein” to bailing out the rest of Europe. Any clean money they themselves have left will go to helping themselves.

On Friday, Germany’s Chancellor Angela Merkel said Germany wasn’t going to let bailout money flow directly to needy banks, which really upset the markets. She wants bailout money from her country and elsewhere to go to Europe’s nations, more to the point, onto their debt books, so countries, not mere banks, will have the payback obligation hanging around their necks.

Let’s see… more debt taken on by insolvent countries to continue to prop up their insolvent banks… you can see where this is going… again.

And that brings us to now. It’s like déjà vu all over again. Only, this time it’s worse. Oh, did I already say that?

The point is, be careful out there. History has a way of repeating itself.

Why? Because we just don’t learn from it.

While America has been the cleanest dirty shirt in the laundry, Europe has been the dirtiest. Now America, with our debt and our profligate spending habits, is starting to look a lot like Europe, but oh, don’t worry, we’re different. Everybody knows that.

Want to buy some portfolio insurance, or a bank, or some sovereign debt?

I have some to sell you.

Shah Talks Tech

1 | By Shah Gilani

Shah joins Varney & Co. and picks between three tech stocks: Microsoft Corp. (NasdaqGS:MSFT), Google Inc. (NasdaqGS:GOOG), and Apple Inc. (NasdaqGS:AAPL). His choice might surprise you.

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Poor Old Vikram

26 | By Shah Gilani

The only big deal about Vikram Pandit “stepping down” as Citigroup Inc. (NYSE:C) CEO and his removal from the board is that it didn’t happen sooner.

On Tuesday, the morning news flow was all clogged up with revelations that Pandit had stepped down. Rather abruptly, in fact.

The truth is he didn’t leave voluntarily. He was given an ultimatum by the “new” board of directors: resign or be fired.

Poor old Vikram. This was a setup from the start.

He ended up at Citigroup when the mega-bank bought his Old Lane hedge fund for more than $800 million. Poor old Vik pocketed about $165 million in the sale and continued to run the fund, some say into the ground, until Citi shut it down.

In 2007, my favorite Goldman Sachs (NYSE:GS) ex-CEO Robert Rubin (who after pandering to all the big banks in the country as Secretary of the Treasury in Bill Clinton’s administration, then pimped himself to Citigroup after allowing Citibank to merge with Sandy Weill’s Travelers insurance conglomerate (that owned Salomon Smith Barney) in an illegal deal that required Congress to kill prudent banking laws (Glass-Steagall) to make it legal) actually handpicked Vikram to run the bank.

Super richboy Bob Rubin, of course, had nothing to do with running Citibank after making it the mega-bank it became as a result of the merger; he was merely a special consultant to the board, or some B.S. like that.

But here’s what really happened.

As a member of the Executive Committee that picked Pandit in 2007, Rubin was the power behind the throne. And the throne at that time, I mean the chairman of the board, was Richard Parsons, a useless fool and a proven tool in his own right.

Why do I say that? Because Parsons, as Chairman of Time-Warner, oversaw the demise of that great company. And then he becomes the chairman of Citigroup? Are you kidding me? Why? Oh, that would be because he is a tool who can be manipulated.

But, I digress.

Pandit was made CEO right about the time that Bob Rubin needed some good cover. The bank was in gigantic trouble, which he directly steered it into, because he’s a greedy you-know-what. Putting up a guy with no real commercial banking experience not only gave Rubin a tool to manipulate, but gave him cover as an insider if the bank blew up.

Pandit never had the experience to run Citigroup. He should never have had the chance.

Granted, Pandit held on as best he could. But because he was Rubin’s tool, and because Rubin is who he is, Citigroup became a “protected” institution with the deepest political ties of any bank in the U.S.

Because Pandit was in charge at the time of the financial crisis, regulators who didn’t care for his lack of banking experience (former FDIC chair Sheila Bair being his biggest detractor, if not an outright bashing critic), he was unlikely to be removed for fear of panicking financial markets any more than they were already panicking.

He was used. He did whatever he could. He’s not a bad guy. He tried and eventually got Citigroup to post some impressive numbers on Monday.

Then on Tuesday, it was time to go. It had all been planned behind his back.

It shouldn’t have been a surprise. It was only a matter of time that the “new” board, and especially the new Chairman (thank God Parsons is out and hopefully he’ll fade to infinity via retirement so as not to ruin any more American institutions) would look to ease poor old rich boy Vikram Pandit down the road.

It’s just another story of how the powers behind the banks in America manipulate who they have to in order to enrich themselves at the expense of taxpayers, and the poor old rich tools they sharpen and blunt at will.

How Wall Street Hijacked America and Became Master of the Tradable Universe

68 | By Shah Gilani

Today I’m going to make a blanket indictment, and I’m going to back it up. No doubt some of you will see it my way, and some of you will tell me I’m just plain wrong. Either way, bring on the comments!

I ended Thursday’s WSII post – “Why High-Frequency Trading is a Scam” with this comment and threat: “There’s nothing redeeming about high-frequency trading. Nothing. Maybe I should write a real article on why it’s a bunch of crap and who’s really behind it? Oh, I’ve done that. I did it two-and-a-half years ago, at Money Morning. Guess it’s time to do it again. Maybe I’ll call it my new high-frequency muckraking series on HFT B.S. (Think my publisher will go for that?)”

Well, my editor over at agreed that it’s important to tell the world the truth about this scam, how it actually works, and what should be done about it.

So, tomorrow (Monday) and Tuesday, in a two-part series, you can read exactly how HFT players play their game, what B.S. they lay on us to justify their moneymaking schemes, how it can blow us all up, and what steps we should be taking to defuse the bomb.

But first, here and now, I’m going to tell you how high-frequency trading was allowed to happen in the first place – and, by extension, how what looks like the unintended consequences of past rules and regulations changes, which manifested multiple Wall Street scams, were never “unintended” at all.

Buckle up…

In the old days, Wall Street brokers made their (very nice, thank you) living mostly buying and sometimes selling stocks for customers under a fixed-commission umbrella.

That umbrella, not surprisingly, was held up by the industry, which (wink, wink) took the term “fixed” to a level that looked like price fixing (because it was).

In the 1970s, new-on-the-scene wannabe discounters (namely Charles Schwab) who weren’t part of the old guard made the case for a free-for-all, let commissions fall from competition, federal case… and won. On May 1, 1975 – known in the industry as May Day – negotiated commissions came into being.

All the old “customers’ men” were aghast. What was going to happen to their lofty salaries? And worse, if commoners were going to have cheap transaction costs, would they start buying and even selling stocks on their own, without the sage advice of brokers?

Of course they would.

So, Wall Street being Wall Street, they huddled, looked into the future, and decided right then and there to create it themselves – the future that is – in the craven image of the world as one giant exchange; an exchange without borders, where everybody traded everything.

But the beauty of the monster wasn’t about little transaction costs they could pocket. It was to be a magnificent future, you see, where trillions of trades were possible. And not just on stocks and bonds in the here and now, but on futures, on derivatives of synthetic squared portfolios of loans on American homes, and on what the Fed will do with interest rates, and pollution credits, and who will get elected – and even more stuff in the works that will blow your mind.

They knew they could make billions of dollars on everything that would be traded. They would make some of their money, a piddling little of it, on those annoying little negotiated commissions. But more to the point, they would make money on doing their own trading with their insider advantages, their speed, their duplicity in telling the public one thing and doing the opposite. They would all become masters of the new tradable universe, plying their trade as market-makers and market destroyers. All battling one another, one and all and all for one against the stupid public, who might look upon the billionaire hedgies and aspire to their ranks by trading their oneseies and twosies… but trade them they would.

And so it came to pass.

In order to make things more tradable and to give themselves more of an advantage, the increasing pool of Wall Street game theorists and game-trading practitioners had to clear runways so their plans and planes could takeoff.

Starting in 1980, it was all about deregulation. That would expand the airfield by creating innumerable new runways, where plans could take off in any direction, at any speed, and go anywhere, without the bother of a flight plan or the ignorant oversight of traffic controllers.

Then in the 1990s, they targeted the binding effect of having to funnel trades through only a few exchange pipes. They hacked away at the old pipes, took them over, and rechanneled them with PVC and copper and fiber optics. And more and more electronic trading venues in cyberspace came into being. That spread out trades across multiple highways where dumb investors could get run over because of far too much “fragmentation.” But the insiders, the players, the traders, and game theorists knew how to negotiate the back alleys of all these electronic communications networks.

But still, when it came to stock trading, quotes and trading increments were still based on the old Spanish system of “eighths,” which wasn’t just quaint but actually had a huge impact of how risk was measured and managed by the specialists and market-makers responsible for “keeping fair and orderly markets.”

Then again, the game wasn’t about fair and orderly markets, it was about trading, and more and more trading.

So, under the guise of narrowing spreads, which was supposed to reduce transaction costs (it didn’t, read my upcoming articles) the push towards decimalization was completed in 2001. Now stocks move in increments of a penny as opposed to a minimum of twelve and a half cents in the past. It’s a long explanation, as to what effect decimalization has had. But trust me: It hasn’t helped the public one bit.

It did make for more trading, however; a lot more. That was the intention, after all.

I could go on and on and cite a lot more changes that look like they had unintended consequences. But here is my point.

All those changes were intended to create more trading.

Trading – that’s where the money is on Wall Street. It’s not about capital formation. It’s about trading, stupid.

And the latest example of those unintended consequences? Guess.

Yep, that would be the billions of dollars made annually in high frequency trading.

Get it? HFT does nothing for the markets, adds nothing to liquidity, has no reason, there’s nothing redeeming about it. That is, unless you’re the one doing it.

The system is corrupt. Wall Street is the tail wagging the economy and America, and the world too. The business of trading has hijacked American business. It has to stop.

Okay… bring on those comments.

Why High-Frequency Trading is a Scam

29 | By Shah Gilani

Let me make this perfectly simple…

High-frequency trading is a scam. It should be outlawed.


Regulators, namely the pimps and panderers at the Securities and Exchange Commission, and the exchanges, all of them, are in on the game.

The game, known as HFT, isn’t arbitrage, isn’t fair, isn’t consistent with the keeping of “fair and orderly markets,” and so should be illegal.

In case you don’t know, here are the rules of the game…

  1. Pay the exchanges to “co-locate” your servers next to their servers, at the locations where they house them (and rent space to you for that explicit purpose).
  2. Get access to quote information (what stocks are being “bid” for at what price and for how many shares, and what is the “ask” price and number of shares that sellers are trying to unload), and be able to place your own bid and ask quotes as fast as technologically possible.
  3. Get yourself a bunch of money to trade with. You’ll need millions, so maybe form a partnership to raise money or partner with some banks that don’t already have their own HFT desks, you know, the ones that want to hide what they do.
  4. Get yourself a few nuclear physicists, rocket scientists, and computer wizards to write algorithms that can read quotes on both sides of every stock to determine patterns, the depth of markets, and how many shares you can buy or sell and then sell or buy in a matter of less than one-hundredth or one-thousandth of a second.
  5. Get your computers to fire off fake bid and ask quotes all the time to see how that changes others’ quotes, in anticipation that they might show how bad they want to buy or sell, and when you get to a place where you can fire trades to buy and sell, almost simultaneously, buy and sell or sell and buy however many shares you can to lock in a profit, no matter how small.
  6. Get busier and busier doing this more and more, because you’re only working for a tiny profit on every trade, so do it to trade at least 3.5 billion shares a day, which is half of all the shares that the nation’s 13 exchanges trade daily.
  7. Get faster computers and bandwidth and execution speed. If you reach some limit, go the other way. Figure out how to slow down other traders by gumming up the systems everyone uses; you know all the exchanges’ systems that the SEC is supposed to be ensuring provides everyone fair and equal access to. Jam them all up with crazy amounts of fake quotes to increase “latency” (the time it takes to get from A to B for a computer, for other people, like mutual funds and pension peons) so you can head fake them and get your own trades off.
  8. Get rich gaming the system!

Look, it’s not even a 12-step program. Just eight simple steps.

You can do it yourself. No one will stop you.

It’s all legal, you know.

And at that Senate Banking Committee hearing on September 20, you know, the one where a former HFT guy named David Lauer came to testify that the game is rigged in “their” favor, and how he was pissed because he didn’t have enough money behind him to buy enough new technology and pay off enough exchanges to get the faster access and cooler algos so he could make the millions he wanted, which is why he got into the business in the first place, yeah, that guy – even he said the game is rigged.

Lauer didn’t say it was illegal. Of course, he wouldn’t incriminate himself. And the Senators, they all nodded that the game did look rigged, but because it wasn’t illegal, they’d have to think about what they heard and see who would now donate what to their campaign finance algorithms.

Personally, I feel sorry for him – Lauer, the tattletale. He’s obviously not good enough at what he was doing to compete. Poor fellow. I think he cut class the day they taught the lesson on “creative destruction.” At least it looks like he made it to the lecture on tactical assault practices that obviously included “subtle carpet bombing” and “scorched-earth techniques.”

But I digress.

There’s nothing redeeming about high-frequency trading. Nothing.

Maybe I should write a real article on why it’s a bunch of crap and who’s really behind it? Oh, I’ve done that. I did it two-and-a-half years ago, at Money Morning.

Guess it’s time to do it again. Maybe I’ll call it my new high-frequency muckraking series on HFT B.S. (Think my publisher will go for that?)

Conspiracy Theories

83 | By Shah Gilani

Can we talk?

Can we talk about unemployment in the U.S.? Can we talk about conspiracy theories?

I thought you’d say “yes.” I can almost hear you saying, “Hell yeah, bring it on!”

So, let’s have at it.

Let me say my piece, and then you chime in.

I’ll start by saying I don’t think there’s any conspiracy to manipulate the unemployment numbers.

You know, the numbers that came out on Friday and freaked everybody out.

Somehow, right before the election and right after President Obama fell flat on his face, after Mitt Romney knocked the champ (don’t get mad, he’s not my champ, he’s the champ because he’s the incumbent) down almost for a ten-count, the bloodied champ bounds off the canvas and stands on the ropes proclaiming victory over economic malaise because the unemployment rate fell below 8%.

Well, what’s freaky about the unemployment number, the U3 number, the most widely watched and reported measure of unemployment in the country, maybe even the world, is that it fell from 8.1% in August to 7.8% the September.

What’s got folks in an uproar (folks that aren’t so folksy when it comes to the champ) is that it looks pretty conspiratorial that unemployment hasn’t been below 8% in 43 months, not since Obama got into office. And all of a sudden it drops in August to 8.1% from July’s 8.3%, and far more freakily, drops to 7.8% (that’s below 8% for you non-math types) in September from 8.1% in August.

Before I give you my thoughts on why I don’t think there’s a conspiracy…

Okay, stop right there. I DO believe in conspiracies.

I believe that John Kennedy was assassinated in a coup’d’état in Dallas. Who did it and why? Figure it out, the facts are all there.

I believe that the Federal Reserve System is a front for the power, and of course, moneyed elites who run America for the benefit of its Club Fed members. The facts are all there.

Do I believe in other conspiracy theories? You bet I do. I just don’t believe in all of them, especially the ones that can’t be proved. Theories are fine, but give me some facts.

But I digress.

Does it smell like a conspiracy, some manipulation of the unemployment numbers that look so much better and may now aide Obama’s reelection campaign?

You bet it does.

But wait…

The U3 number is calculated by means of two surveys. There’s the survey of businesses (sometimes called the “establishment”), and there’s the “household” survey of… duh, households.

The business survey for September wasn’t so hot. Manufacturing lost 16,000 jobs, which came on top of a loss of 22,000 manufacturing jobs in August. But there were some net gains in the service sector, notably in healthcare and education. And government (they’re a service outfit, right?) gained 10,000 jobs; sadly that’s the third monthly gain in a row for the govies.

The big gains came in the household survey. Are you ready conspiracy theorists? Some 873,000 jobs were filled in September in the household arena, which includes the self-employed and household workers.

What’s strange and almost conspiratorial is that in 2012 the average monthly gain in employment has been 146,000 (the average monthly gain in 2011 was 153,000). But September’s gain was 114,000. So where did the 873,000 new household jobs (of which 582,000 were part-time jobs) come from, or go, if the net gain was 114,000 for September? And, how fortunate was it that July and August’s numbers were adjusted upwards by another 86,000 jobs filled?

How did the unemployment rate drop from 8.1% to 7.8% about a month before the election?

The answers are in the wacky way the Bureau of Labor Statistics (a division of the Labor Department) calculates the numbers. Here’s a quick guide on how they come up with the Monthly Situation Report.

If you read what’s there you’ll see that the surveys are prone to all kinds of statistical and empirical vagaries.

Anyway, the U6 number didn’t move at all. That’s the number that counts part-time workers looking for full-time work as unemployed. And it’s still way too high.

No one seemed to say that that number was manipulated because it didn’t go down.

The reason I don’t believe the better than expected U3 number was the result of a conspiracy is because the BLS’s surveys are questionable to begin with and are pretty much always subsequently adjusted, sometimes by huge amounts.

The civil servants over at the BLS are long-time employees, so it’s not as if they come into office with each new administration and work for them.

Besides, if the BLS was to be manipulated it might be by its Commissioner, the one that the President appoints. And the commissioner now…well, there isn’t one. Obama hasn’t nominated one. The post is vacant.

Furthermore, the BLS shares all its data with private sector economists, analysts and academics. Is there anyone out there saying the numbers don’t add up?

For all the Obama haters that are calling the numbers a conspiracy, I say, come on, where are the facts, where is the proof?

It’s all so much political dynamite being exploded in a contentious race. But, I don’t believe that this time there’s a conspiracy.

And my last point is this…If I was going to orchestrate this kind of conspiracy I’d have done it several quarters ago. That way no one would look at new numbers as out of left field, and at unemployment falling below 8% right before the election and point a finger and say, “Ah-ha! Got ya!”

What do you think?

Q&A: October 2012

51 | By Shah Gilani

I’ve got some more Q&A for you today.

Remember, you can share your own comments and questions with me by posting them to the bottom of any article, or emailing them to I may not be able to respond to everybody, but I read everything you have to say.

Let’s start with your very interesting response to “How Our Markets Got So Politicized.” A lot of you offered solutions.

Q: To me, there’s one answer and one answer only. A tax revolt, no taxes being paid to any level of government. And it has to be led by someone knowledgeable like you, Shah, along with others with courage and credibility. ~ Art

A: I love that you’re a revolutionary, Art. But I don’t think stopping the wheels of government and commerce by cutting off the government (including state and municipal governments) is in all our best interests. We’d be more disrupted than we can handle.

However, we definitely need a tax revolt! I’m 100% with you there. The problem, maybe the biggest one we face, is the inequity inherent (on purpose) in the tax code. There’s a reason the tax code is as thick as it is; all those rules and regulations are there to be manipulated. The more rules we have, the more loopholes there are to be created. That’s the game. That’s why “the strong seem to get more, while the weak ones slave.”

A flat tax is the way to go. It can be a flat and progressive tax. I like federal rates of 5% on gross income of less than $20,000, 7% on gross between $20K and $30k , 9% on gross between $30k and $40k, 11% on gross between $40k and $50k, 13% on gross between $50k and $75k, 15% on gross between $75k and $1m, and 17% on anything greater than ordinary income of more than $1m. I like a flat corporate rate of 20% after expense deductions. I’d like to see dividends be allowed to be 100% deducted as an expense to any company paying them and have dividends taxed at half everyone’s ordinary income rate.

That’s my starting point to what would be a long discussion. The rest of it would be all about limiting the growth of government spending and having balanced budgets… or else.

Q: If you want to reduce the problem in this situation, you don’t need to re-write or amend the Constitution. Instead, you need to follow it. This would result in elimination of the Federal Reserve and the abolition of legal tender laws. These two steps would result in the end of control of the money-men on our society. ~ Kevin B.

A: Right on, Kevin! Especially eliminating the Federal Reserve ring around our necks!

Q: The only answer is to limit all elected officials, including the President, to one term only in order to attract individuals who will make fair and honest decisions and not waste time and our money on re-election issues and campaigns. Let’s bring back “Throw the Bums Out” on Election Day. Unfortunately for the few good ones, they have to go too. It’s time for them to get another job like the rest of us. ~ Linda

A: On the surface, as a kindred revolutionary, I like your thoughts. But there are some good people who get into government for the right reasons and do the right things. Granted, I don’t see too many of them these days. While it sounds reasonable to turn over the soil regularly when planting future expectations, it would be incredibly disruptive to have all new people learn what has to be done, how to do it, and get it done in a single term. Term limits sound better to me.

And we should definitely take the money out of electioneering. Corporations should be limited to what they can give to any candidate, maybe something like $25,000 at most. And if any corporation gives to any candidate who wins, any legislation that that elected official has anything to do with that serves any of their corporate benefactors, should be disclosed as to what benefit the corporation (or any business, for that matter) derives from it. Individuals should be able to give up to the same $25,000. We should have a $5.00 tax on all tax filers (with a flat, progressive tax) to pay for campaigns. The collected amounts should be equally distributed to all candidates, who can only draw on the money for defined expenses. What isn’t spent gets redistributed to candidates still in the race after certain expiration dates. Sure, this plan needs work, but you get the idea.

Q: Forget the politicians and head to where the real problem is, and that is Wall Street! The pols are puppets, and it won’t matter who is in there. A little vigilante pressure on the “movers and shakers” who actually run this country may be the answer to their self-serving ways. We need to stand up for ourselves, not expect some elected official to do it. ~ R.

A: I agree that pressure on the “movers and shakers” is absolutely necessary. If you want to kill the snake, you cut off its head. The head is without a doubt the Federal Reserve System. You’re going to hear a lot more from me on the Fed. It is the problem. The Federal Reserve System is the scamming mechanism by which the banks are afforded their cover. It covers them when they blow themselves up in pursuit of their greedy games and completely distort free markets by eliminating moral hazard. The Fed deserves to be dead. If we cut off the head of the banking cartel, the movers and shakers have to resort to slithering around where we can see them – and stomp on them, as they deserve.

Q: Everyone is still chatting about one more patch on the old ship. If we look at the current Arab Spring and the fall of most previous empires, we should understand that the new “power structure” will have few of the same participants as the old one. The rich and powerful are targeted and replaced, and it can happen very fast. Think about 150 to 200 million gun owners without food. Even if you want to run, there is already a refugee camp where ever you want to go. It is decision time. ~ Ed

A: Ed, if it comes to the public waging war on our military, because they back the government, we’re going to lose, all of us, the whole nation, the whole American experiment. We need the armed forces to demand the Constitution be upheld. We need their leaders and ours to face open tests of honesty, integrity, and be accountable to the rule of law that we’re all supposed to obey.

Q: A revolution in this country would require staggering unemployment in the 30-50% range. It’s going to require families not able to feed their children or care for their loved ones. It’s going to require massive failure of the infrastructure and distribution systems long established in this country because of our exclusive access to very cheap oil. This doom and gloom just may be coming. ~ C.S.

A: I don’t see it that way, C.S. While I share your frustration, I believe we can have a public revolt, a real revolution that scares our corrupt government into believing that they won’t be protected from public arrest and public trials – which would be conducted openly under the justice system, as flawed as it too may be. We need a public mechanism to vote to indict who we believe to be government criminals. How about something like that?

As far as staggering unemployment, I’m not sure where you’re getting that notion. A real revolution to clean up our government and bridle back corporations and the oligarchs that run them and the government can be accomplished. We the people would have to ask the armed forces to protect us from the corrupt government and corporate rogues that step on us all for their own good and greed. Given the makeup of our military, I’d have to believe they would consider their role as protectors of democracy to be more important than protectors of a system that uses them for commercial gains. War, in case you don’t know, is big business…as is the biggest business in the world.

Q: I would join a third party if there was a good leader to organize it. However, I fear that anyone smart enough to lead the country back on the right path would soon get arrested and thrown in jail. If a true leader was strong enough to make himself/herself heard, it would not be long before our present leaders would feel threatened and make him/her disappear. This has become a fascist oligarchy where the police force in every state has been militarized and is there to protect the banks, corporations and the rich. This is the kind of country we now live in. ~ Maxine D.

A: Sadly Maxine, I have to agree with you that the powers that be wouldn’t tolerate real free speech if they were the target of the truth about what they’re doing. But if enough of the public were behind and protected the rights of pacifist revolutionary heroes, and gathered en masse everywhere to demand their voices be heard and changes made… we would get to where we need to go. It wouldn’t be easy. I, myself, by even espousing this kind of approach, am subjecting myself to what you fear. But if I can’t stand up for what I believe, I might as well lie down before they try and put me down.

Q: The only way to stop our politicians from destroying this country at this point is to have secession and another civil war. That is truly something I don’t want to see, but this country is too far gone to save. We are on the path to a third world country and I don’t see anything stopping it ~ Vernon T.

A: Vernon, be a cause in the matter, as you are by voicing your thoughts here. If you continue to stand up and be heard, our collective voices have a chance of shouting down the crooks who otherwise shut us up by their schemes and diversionary tactics.

Now here are some responses to “Who Says Money Can’t Buy You Love? Not the Banksters.”

Q: The duplicity of our politicians is mind boggling. The idea that the average voter has control over our government is becoming increasingly absurd and Mr.Gilani seems to be flagging it with increasing frequency. There ought to be no doubt “we’ve got the best government money can buy.” Thanks Shah for the public service. ~ Mike O.

A: Mike, you’re right, of course. The duplicity is mind-boggling! It’s all about money and power, because power leads to money.

Q: How about John Corzine? The democrat. Expound on him someday soon I hope. ~ B.P.

A: I’m working up a big piece on our dear Democrat friend; he’s not escaping us unscathed.

Q: I guess you do not write this blog in order to make money…? A bit hypocritical, aren’t we? ~ Ralph A.

A: I don’t get paid to write this blog, Ralph. I do get paid when some of you become subscribers to my Capital Wave Forecast. But I write this blog because I’m sick and tired of what I see and because of you, all of you who read it, and especially those of you who comment here, who are sick too. That’s reason enough. You’re reason enough. America is the best reason.

Q (Re: “Why America is in Trouble Now“): [The embassy attack] is not about the video; it was just reported that there were NO DEMONSTRATIONS. Rather, suddenly there were two groups of terrorists who attacked the embassy from two different angles at the exact same time….so U.S. officials were using the video story to cover up their own ineptness at protecting their own employees against terrorist attack. ~ Susie A.

A: As we find out more about the attacks on our embassy and embassies, we are learning that our friends aren’t always our friends, that we don’t always know the difference between the friends we buy and the friends who sell us down the river. Sometimes they are the same friends.

The Mideast is a problem we can’t seem to fix. Maybe we need to take a fresh look at what we’re doing there, who we’re backing, and why. If it’s all about oil, which it has been, maybe we need to address that issue and whose interests we are really looking out for there. It’s complicated. But if we don’t lay bare the facts, we are doomed to keep the fires of fundamentalism using the American flag and democracy as tinder. Is oil the reason for Islamic fundamentalism? I don’t think so. But I think it plays a big part, historically.

Q (Re: Our March Toward Economic Socialism“): The bankers have to keep up a steady stream of new credit. So what new tricks are up the bankers’ sleeves? Mortgages are done. So are student loans. Sub-prime auto loans next? How can we incur more debt just as Boomers are retiring, saving, and paying down debt? Or are they going to crash the market in order to buy equities at a discount? How broken are credit markets that the Fed must add 16% of its current balance sheet per year? Great article, Shah. ~ Rick B.

A: We’ll see what the banks are up to soon enough, Rick. I’m sure we can imagine them now rubbing their hands in their vault-like laboratories, mixing potions and conjuring up spells. Are they going to crash the markets again? If they do, they are done.

They may, in fact, have already have blown up the next bubble with their never-ending bank bailout schemes that are designed to re-capitalize the banks, keep them from imploding from pending litigation charges and costs, and prevent them from being dismantled, because they are SO important to America, don’t you know? NOT. Break them up, cut off the head of the snake (the Fed) and set the free markets free. America will prevail if untethered from the maypole the banks make us swing around.

Q: Shah, this is why I love your writing. All of my conservative publications rant about how the country is moving more and more toward socialism, but not once have I read anywhere the idea that the bailouts and the QE by the central banks are forms of socialism. Not once. And I would be willing to bet that they will never say that. In those publications, the term “socialism” is reserved for things like Social Security and Medicare. Maybe I should have figured it out, but sometimes it takes someone like you to whack me upside the head in order to straighten out my thinking. But I am learning. Please keep on sharing your wisdom. ~ Charles

A: Thanks for the kind words, Charles. I hope that bump on your head is your expanding brain.

The mechanisms that turn the wheels that drive a socialist model are manifest, but they are too often too subtle for us to see clearly in our capitalist democracy – or what’s left of it. It is becoming increasingly clear that the cloak of invisibility and the utter bastardization of the truth behind the existence of the Federal Reserve System is finally coming to the surface. The Fed is one of the principal wheels grinding us down the path of economic socialism. It’s the protector of the banking cartel in the U.S., with its quasi-governmental feel (which it isn’t a part of) that leads the public to think they’re all about the public good (price stability and full employment).

Kill the Fed. Free capitalism to bear the slings and arrows of free markets, creative destruction, and American prosperity.

Q: Wouldn’t “economic fascism” be a better description? Socialism implies at least support for common people. This system is for the 1% über-rich bankers. ~ R.

A: R, you are 100% correct. Thank you for pointing out the proper term for where we’re heading, if we’re not there already. I probably won’t use that correct term on account of the likelihood that too many people won’t know exactly what it means. But, you are right, it is economic fascism!

Q: Fascinating! And would you now PLEASE inform us as to what, in your educated view, is now the best and wisest way for America to extricate itself from the desperate crisis, at the least possible cost to the taxpayer. ~ Michael M.

A: Here it is again: First and foremost, eliminate the Federal Reserve System.

Second, make banks buy deposit insurance from private companies that are transparently rated and exceedingly well capitalized (maybe limit their profit margins like a utility). Third, break up all the big banks and let the smaller banks (not too big to fail) syndicate large loans (like reinsurers serve insurance outfits). Fourth, balance the federal budget over the next 15 years. Have tests for recipients of social welfare are they working, can they be put to work for the free money they get, sensible and non-discriminatory types of means testing. And term limits.


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