Where are the clients' yachts?

Owen rightly highlights an ace letter in the FT last week, and the paragraph he pulls put is the same one that rang true with me.

I have been in the investment business for some 20 years, during which time I have seen just how many lunches, clay pigeon shoots, tickets to the rugby and nights at the opera come between the average pensioner and his pension, or between a charity and its investment income.

Amen to that. I've been involved with the pensions industry, and latterly more the investment industry, for about 10 years in one way or another. And it really is just one jolly after another, if you choose to take advantage of it. And it's so engrained that no-one - not even the progressive types - thinks twice about it. Everyone enjoys the free food/booze/match/opera night because no-one seems to be paying for it. Only we are, it's that extra basis point. It's why the 'service providers' have better stuff than the clients. And it's why when you go on the jolly you're ultimately drinking your own champagne.

Being slightly more serious, and taking the argument wider, John Kay makes the point (I'll post up a review of his interesting new book once I've finished it) that if you are serious about investing, one thing you want to do is cut out as many intermediaries as possible.

This ought to be an area that lefties are interested in. All that largesse has a cost, more in fees means less in income, a lower pension. Investment consultants and even private equity managers think that we (or our trustees) are nuts to simply go on handing over more and more money in fees. This could be an area where a populist campaign could a) hit the right target and b) have a real impact. What about it?

When analysis GOES BAD!

A snippet from The Origin of Financial Crises:

As the credit expansion progresses, teams of diligent credit analysts look at the loans being made and assess these against the market value of the assets being bought. At each point in the credit expansion the loans match the value of the assets being purchased and the credit gets approved. At the aggregate level, the stock of debt in the economy grows in proportion to the valuation of the economy’s assets. As a result, as an asset bubble expands, the corresponding debt stock never looks excessive. Indeed, in true bubbles borrowers frequently have difficulty borrowing fast enough to keep pace with rising asset prices, and as a consequence leverage ratios frequently improve as a bubble progresses. Time and again the observation that these leverage ratios are dependent on rising asset prices is missed; even up to the very peak in the recent housing bubble naïve analysts were citing improving household balance sheets as a reason to believe the mortgage borrowing binge was sustainable…

[I]t is useful to step back and consider why it is that analysts get it wrong in every cycle. The problem lies in what economists call a fallacy of composition, which means that analysis valid at one level does not necessarily hold at another level. When the ratings analysts are assessing the quality of a loan, or the equity analysts are assessing the condition of a company’s balance sheet, or the mortgage broker is assessing the safety of a mortgage, they evaluate each individual loan against the prevailing market prices for the loan’s corresponding assets. In this procedure the tacit assumption is that the asset in question can be sold to repay the loan. At the micro level this is always a reasonable assumption. However, at the macro level this is almost never a reasonable assumption: one house can be sold to repay its mortgage, but if one million houses are sold at the same time prices will crash and the entire housing market will become under-collateralised…

The careful analysis of balance sheets is intended to improve the quality of lending and investment decisions. At the micro level of the individual household or company this works. At the macro level of the entire economy balance sheet, analysis actually becomes a destabilising force, leading to excessive lending and financial instability.

Balance sheet variables, therefore, do not just fail to inform investors of impending economic problems, they may actively mislead them into believing conditions are safer than they really are. In predominantly debt-financed asset markets asset prices cannot be considered an independent metric of sustainable debt levels, nor can debt levels be considered an objective external variable with which to measure asset prices.

When smart people say stupid things

It's a common trait of the politically immature of whatever stripe that they are unable to find any label for ideas/groups which they oppose save the most extreme. For example, Lefties have a bad history of labelling those on further Right on the spectrum whose ideas are clearly informed by liberalism as 'hard Right'. And how many times have you heard someone try to argue that democratically-elected right-of-centre governments are comparable to fascism?

But what I've noticed since Labour's election in the UK, and Obama's election in the US, is that people on the Right are just as capable of this kind of thing. Simon Heffer describes the Government's decision to recapitalise the banks as the 'Sovietisation' of Britain, whilst I've seen US Righties accuse the Obama administration of being tyrannical, even fascistic. How hard is it to acknowledge that there are a lot of different political views, and actually there's quite a bit of space between totalitarianism and 'a political view/group I don't like'?

Typically these excitable accusations of fascism/communism involve identifying a couple of points of similarity and overlooking ..err... all other factors. The fact that, by simply using a couple of reference points, you could make the political view/group you don't like comparable to pretty much any other doesn't seem to matter.

Several things bother me about this. First is the idea that words that have a specific meaning are misused to the point that they become meaningless. If what is going on in the US at present is to be compared to 'fascism', the word surely has lost meaning. We know what fascism was like, we know what fascists believed, and we know what fascists did. If the actions of the Obama administration are fascistic then I think we could apply the label to most democratic governments. Like I say, it loses meaning.

Secondly, it worries me that people can actually believe this stuff. I was amazed that during the presidential election Democrats were asked - in all seriousness - whether Obama was a Marxist. But these things take on a life of their own and people start to genuinely believe ideas that are ridiculous. It's almost like an asset bubble. Views get pushed far from the underlying reality, but are fervently believed by those in the bubble. And I think that can be really dangerous.

Finally, I think it's plain unethical. I think that people using these types of comparisons often know that they distorting the truth. Speaking for myself, I know when I am ramping up the rhetoric, and I feel a bit ashamed of it when I acknowledge to myself what I am doing. I can't believe that many people making fascist/communist accusations of democratic governments don't know what they are up to as well. If it's a language game, I think they know they are cheating a bit, making a move that doesn't meet the rules. We have a choice about how to make our arguments, and what those who reach for inappropriate comparisons to the most extreme regimes in history demonstrate most of all is their own lack of ethical standards of conduct.

Shame

innit?

Special pleading

The Torygraph has a piece about City people on the Government's financial services group moaning about the new 50% top rate of tax for the very rich. One name in particular stuck out:

A number of members of Mr Darling's Financial Services Global Competitiveness Group, which includes heavyweight figures such as Michael Geoghegan, the chief executive of HSBC, and Dame Clara Furse, the outgoing chief executive of the London Stock Exchange, were alarmed to discover that the report would not directly address the 50pc tax rate announced as part of last month's Budget.

I've blogged before about the way some directors are provided with incredibly generous retirement provisions, and they are of course not linked to performance. Michael Geoghegan is one of them. Here's what HSBC's latest annual report (PDF) says (see page 324).

Mr Geoghegan receives an executive allowance of 50 per cent of annual basic salary to fund personal pension arrangements.

For practical purposes you might as well regard this as just another cash bonus. It will also be several times larger (as a % of salary) than staff in HSBC's DC scheme are offered. Just another sizeable slug of money trousered by the chief exec without performance conditions. It's standard operating procedure in the world he inhabits.

I don't know if Geoghegan is one of those kicking off about the 50% top rate, but I presume that's why the Torygraph has been written the piece in the way it is. What isn't surprising is that the paper has taken the line that it has. The thing is, how much longer is this kind of threat (tax us more and we'll leave) going to be taken seriously? My gut feeling is that the new top rate will prove to be more popular going forward than certainly the right-wing press is making out. The more you hear about extremely rich people moaning about it, the more the parallel some have drawn with the position of the unions in the 70s starts to ring true. Not only is there an unflinching sense of entitlement to the extremely priveleged position they have, there is also no evidence that these people have any idea that the current state of affairs might greatly aggravate people's sense of what is fair.

Behavioural research suggests a sense of fairness is hard-wired into us, to the extent that we will sacrifice our own self-interest in order to punish those perceived as acting unfairly. Is it possible that at some point even those more moderate people who are worried about the potential of driving talent abroad (I'm not making a comment about whether this is a valid argument or not) think 'sod you then' when they hear very rich people threaten to leave the UK rather than pay more tax? I think we may be near that breaking point in the public policy debate.

Where were the shareholders?

IMA chair Robert Jenkins gave an interesting speech this week about the role of shareholders in the financial crisis. The whole things is worth a read, but there's a section in it I don't agree with. He says that active managers will sell companies that they don't like, so (in effect) it's primarily up to passive managers to use voting rights to hold management accountable.

For various reasons that are well-known (benchmark hugging etc) many active managers don't sell companies they don't like, they underweight them. I've been for an extended ride on my huffy bike lately about voting disclosure. Well, one of the things I did find in the limited data available was quite a few active managers holding bank stocks (from memory only Standard Life didn't hold them all). Surely that either means that active managers liked the banks (right into 2008) or that actually they underweight rather than sell?

Also out this week of course was the Treasury select committee report on the banking crisis. Although there's a lot in there about UKFI, I couldn't see anything about the role of shareholders. Anyone know if this is supposed to get picked up at a later date or something?

Bez wannabee