“Alan. I think their failure will see an unwinding of the $27Trillion derivatives market. But worse – I think it will spread into all of the financial markets.”
Alan shifted his stance as he stood over the speakerphone, listening.
“After all,” Bill continued, “much of their leverage is based on money borrowed from banks. If LTCM goes down, then the banks will have to write off the loans. Alan, I see this as causing a complete collapse of our financial system. This is the ultimate systemic risk.”
Jim watched as Alan stood silently over the telephone – contemplating.
“What do you suggest, Bill?”
“Alan, I’ve got an idea for a bailout.”
“Okay, Bill. I’m listening.”
And Jim listened right along with Alan as Bill related his plan. And at the end of Bill’s pitch, Alan sat back down at his desk.
“Okay, Bill. I don’t like it. It smacks of a bailout.” Then Alan’s face softened. “But I can’t disagree.”
* * *
Jim arrived at the meeting early. Not that he had any official reason to attend; but he was fascinated by the oncoming catastrophe and how it would play out. And so, he found a chair well away from the conference table – a place from which he could observe without himself being noticed.
Jim carried a briefcase with him. He placed it on his lap and opened it, withdrawing a leather-bound book. He opened the book to a marked page and began writing in it. He had it open for a while – sometimes writing, but sometimes he would pause and just sit, pondering.
Jim thought about the history of the New York Fed. A major player with a long tradition in the management and implementation of monetary policy. It was within these hallowed walls where fortunes were made, and lost; and where Joe Sixpack’s career was written. Would Joe Sixpack have a job this year? Or would the Federal Reserve withdraw money from circulation and put him out of work?
But that was not the topic this day. Today, Jim mused, I can watch the unfolding of the resolution to this crisis – how to save the economy of the world from falling into a deep abyss? This is history!
And so he watched Bill McDonough stand at the entrance to the conference room. His lean face and square jaw assumed a serious posture as he greeted the attendees filing into the room. Leaders, they were; leaders from some of the largest banks in the U.S. and Europe. Goldman Sachs, JP Morgan, Lehman Bros., Bear Stearns, and Merrill Lynch, just to name a few – the men who shaped the world of finance. And through their control of the banking system, they controlled the entire economy.
The throng increased. And with ever more people milling around, the noise, the back-and-forth discussion, also increased. It was as though he were in a nightclub with a million conversations – except there were few women, and the band was not playing.
The last man finally entered the chamber, and the entrance doors closed.
Bill McDonough sat at the head of the conference table; patiently looking from side to side as people talked amongst themselves. Finally, he rapped his gavel on the pad. “This meeting will come to order,” he announced. The room became immediately silent.
Bill patiently looked around the room, connecting with his audience. “Ladies and gentlemen. Thank you for coming today.”
“I will not mince words. LTCM is in tough straits.” He paused. “The Russian default has turned out to be the defining moment for LTCM. It is bleeding capital, and its failure represents a risk to the financial system – a risk so great that it will bring down the entire economy should it fail.”
He looked around the room.
“The markets are already spooked and skittish. If LTCM dumps its assets on the market, prices may well collapse; and this would set off a chain reaction that will bankrupt other firms.”
“Ladies and gentlemen. I submit that intervention is necessary to save your firms and to save the economy. But – the Federal Reserve and the U.S. government have decided to do nothing to –”
At this statement, a loud murmur arose from the throng. Bill raised his arms and shouted “please let me finish. Please, gentlemen, please!”
The room returned to silence and he continued. “ – The Federal Reserve and the U.S. government have decided to do nothing. Instead, they’ve decided to allow the unfettered free market in over the counter derivatives to work itself out.”
Bill McDonough paused to allow his words to sink in. He scanned the room, connecting with the major players before he continued.
“You are a part of the free market, and you have the means to save your firms and to save the economy. Jointly, you can provide the necessary liquidity to save LTCM – doing this will ensure your own survival and continued prosperity. Therefore, I strongly recommend that you take the appropriate action to do so.”
With that, Bill McDonough and his aide folded their papers and notes, then walked out of the room.
* * *
McDonough's strategy worked. The participants joined together; each contributing a portion of the purchase price. In this way, the participants were able to sell off LTCM's assets in an orderly fashion, thus avoiding a collapse of the financial system.
Participation was allocated in the following manner:
$300 million: Bankers Trust, Barclays, Chase, Credit Suisse, First Boston, Deutsche Bank, Goldman Sachs, Merrill Lynch, JP Morgan, Morgan Stanley, Salomon Smith Barney, UBS
$125 million: Société Générale
$100 million: Lehman Brothers, Paribas
Bear Stearns declined to participate.
* * *
The hearings concerning Brooksley Born's OTC Derivatives regulations resumed. But now, there was a strong sense that Congress should do something about the OTC derivatives – that they posed a real risk to the national economy, and to the global economy.
“This meeting is called to order ...”
“... The United States government is obligated to be on top of the issues ...”
“... when and how did the concept of market self-regulation fail us?”
“... Americans should be worried, about the gambling of Wall Street elites. That puts at risk every American – it puts at risk our democracy ...”
“… how many more failures do you think we'd have to have before some regulation in this area is appropriate? ...”
But Chairman Greenspan was unwilling to yield:
“... I know of no set of supervisory actions we can take, that will prevent people from making dumb mistakes. I know of no piece of legislation that can be passed by the Congress which would require us to prevent them from making dumb mistakes ... I think it's very important for us not to introduce regulation for regulation’s sake ...”
In the end, Congress chose not to allow regulation of the OTC Derivatives market. This meant that OTC derivatives remained an unregulated market – the same kind of market that brought about the great depression of the 1930's:
· No transparency
· No capital reserve requirements
· No prohibition on fraud
· No prohibition on manipulation
· No regulation of intermediaries
Shortly thereafter, Brooksley Born resigned.
Chapter 12 – Circa 1998
The silver dollar was encased in clear GSA[15] plastic – one of many pieces recovered from an old hoard of silver dollars. The hoard was discovered years ago in an old government vault, and this coin was an uncirculated specimen – an 1885-CC Morgan Silver Dollar.
Many people don’t know that the United States once operated a mint in Carson City, Dwayne mused. Yet they minted coins to take advantage of the huge silver deposits in the area. Damn – the old west sure has a lot of story to tell!
Dwayne examined the coin through his magnifier; taking special care to scrutinize the high points of Liberty’s hair and cheek. Then he flipped the case over and examined the coin’s reverse. The feathers on the breast were a tell-tale sign of its condition – full breast feathers combined with the absence of wear told the sto
ry of this coin. This was not some flimsy ink-laden paper – this was real money.
The chimes rang out just as Dwayne finished his examination. He peered through the doorway out into the customer area – Trish was walking through the front entrance wearing a dour expression.
Dwayne knew that expression. He knew that anything more than small talk was dangerous. But he loved her and cared about her; and so he bit anyway. “Did you have a good day at school?”
“Sometimes I wonder if teaching is what I really want to do anymore.” She sighed. “Today was a bitch of a day.”
“Brrrr – it’s cold out there!” She breathed deeply as she shook off the outside cold. She removed her winter coat, and then she continued, “So I walk into my homeroom first thing this morning. Johnny Beckman – I’ve told you about little Johnny before – well, he’s not so little anymore. Anyway, he had completely broken out a window and was hanging his head out shouting at a young girl below. Of course, the principal had sent the girl home because she wasn’t wearing a bra and all the boys were gawking at her nipples.”
Trish was shaking her head in disbelief. “God help me – please! God help me!”
Dwayne snickered – as much at the story as with Trish’s frustration.
“So you think it’s funny? Damn you!” She stepped close to him and looked into his eyes, “I go through this shit every day – oversexed, hormone-laden teenagers with no brains! And all you can do is laugh, joke, and snicker at it. You should have seen your son. The way he was gawking at her, I thought they would need a shovel to pick his chin off the floor!”
Trish snickered, and then she sheepishly broke out in laughter.
“So,” Trish’s eyes were dancing now, “How was your day? Have you had any women come in without a brassiere?”
“Uh hmm. Not that I’ve noticed.” Dwayne’s face started to turn red.
“You didn’t notice? Are you dead? Are you dying on me?” Trish was grinning ear to ear now.
“C’mon Trish; there’s no woman like you!” He brought her into his arms and held her close. They kissed. And then he stepped back as he looked into her eyes. “So, I have an idea. You wanna hear it?”
“Sure.”
Dwayne started pacing. “I’m thinking about expanding our business onto the internet. As you know, I’ve been using the internet for some of my research; and I’m seeing more and more commerce out there. I think there are former store-front businesses that have moved lock, stock, and barrel out to the internet.”
Dwayne paced some more.
“I think the business model is compelling. All we need is to put up a website and post advertising on other websites where our customers are most likely to be. From there, we can pull prospective customers to our site. The two biggest hurdles are getting our site out on the web, and hiring an additional person to manage the web traffic – primarily the orders and shipments.”
Dwayne stopped and looked directly at Trish. “I’m worried, Trish. Gold and silver have been in decline for a while. And so have the prices on rare coins. With these price declines, our profits are getting squeezed – and this is beginning to spell trouble for us. So I see an internet business as a means of increasing our volume, and thereby increasing our gross profit and operating revenue.”
Dwayne's voice was urgent. “It could save our bacon, Trish.”
“Well,” Trish hesitated. “I kinda like your idea. In fact, I think the internet will grow – and being an early internet adopter should give you a leg up.”
“But tell me, dear,” she said with raised eyebrows, “what’s happening to the price of gold?”
“I’m not sure,” Dwayne began pacing. “But I’m amazed at how the price has continued to decline over the past few years – especially the last couple of years. I would have thought it would increase with Y2K coming on.” Dwayne paused and then continued. “It’s hard to find details, but I think the price is being manipulated. It looks like some of the central banks have been leasing gold to other financial players at ridiculously low rates; and these financial players have been turning around and selling the gold into the market.” Dwayne turned and looked at Trish. “Obviously, this makes the world stock of gold appear ‘larger’ than it actually is – with the effect that gold prices decline.”
Dwayne frowned and then went on. “It also appears that some of the major players have been shorting the market; and there are rumors that these short positions have been naked.”
“Naked?” Trish giggled. “Are they having sex, or something?”
“Something like that,” Dwayne said with a wry grin, “except we’re the ones getting screwed.”
“How's that?” Trish asked.
“Well, the way a short transaction works is that an ‘investor’ – I use that word advisedly here – borrows gold and sells it into the market. Obviously, the investor will be required to return the borrowed gold at a later time. The investor will most likely sell it short when he believes he can buy the gold back later at a lower price. Then, he can return it to the person who originally loaned the gold.” He paused. “But note this: The ‘investor’ can make a good return only so long as the price is going down.”
He paused then said, “But a naked short is different. A naked short is where someone sells gold he doesn’t actually possess. In fact, I think you can see how selling a commodity with a naked short will create the appearance of larger supply; thereby driving the market value down even more.”
“But isn’t that illegal?” Trish countered.
“I'm not sure, but I don't think so. But even if it was, they could probably get the regulators to look the other way. I think this is what’s happening – the supply appears to increase, thus driving the gold price lower.”
“I’ve been doing two things to manage our exposure. I’ve maintained a low inventory – you’ve gotta know that our supplier has been less than happy with our smaller orders – and, I‘ve been buying ‘put’ options.”
Trish was puzzled, “Put? – put options?”
“Yes.” Dwayne was warming up to his favorite topic now. “A ‘put’ option gives us the option to sell our holdings at a specific price even if the price declines. This means we’re protected if the price of gold goes down – because we can still sell it at the ‘option price’.”
“It costs us a bit and adds to our cost of doing business; but it’s better than losing our butts in a declining market.”
Trish hesitated. “So, I know that this sounds like a conspiracy-type question (and I hereby declare that I am wearing my tin-foil hat), but do you think that someone is purposely driving the price of gold down?”
“I’m not sure ...”
* * * * *
Josh looked at his watch – 2:55 pm. Blimey! Manager’s meeting in five minutes. I gotta go. He stood up and walked out of his office, heading toward the elevators. I wonder what Charles wants to talk about? He thought. Hopefully, it’s all good!
On the way, he ruminated about the previous evening’s date. That was a pretty good session, though I wish she’d been more careful with that rope! Damn it was raw – like sandpaper. He grimaced as he examined the flaky red skin on his left wrist. From now on, I need her to use silk ties so she doesn’t leave marks on me! And my balls – oh my God they still ache! He smiled to himself as he boarded the elevator. I wonder what Charles wants?
Josh walked into Charles’ office to find him checking his time piece. “Josh – I’m glad to see you. Please,” he motioned, “have a seat.”
He opened a box of cigars and offered it to Josh. “Cigar?”
“Yes. Thank you.” Josh leaned back in his chair and lit up. He drew on the cigar and then held it out in front of him, perusing it. “These are great. This is Cuban, right?”
“Yes,” Charles replied. “And by the way, you’ve been doing really great work and we appreciate it. So we transferred an additional $10 Million bonus to your numbered Swiss bank account. Of course, this is in addition to your ‘of
ficial’ bonus.”
Josh was pleased. “Well, thank you – thanks very much.”
“No, Josh. Thank YOU,” Charles replied. “Your work has been outstanding.”
“Now,” Charles continued, “I wanted to talk with you about some changes to your trading operations.”
“Very well. What’s on your mind?”
“Y2K is coming, and –”
Josh interrupted him. “Y2 what?”
“Oh. I thought you knew about it.” Charles continued. “Y2K stands for Year 2000.”
“And?” Josh countered.
“Well, there’s a possibility that computers around the world will crash and cause financial catastrophe. And if that happens, then there could be shortages of food and energy.”
“Okay. So what’s that got to do with me?”
Charles smirked as he looked into Josh’s eyes. “There’s a subculture of survival nuts. People who’ll stockpile all kinds of things – food, fuel, water, guns – you name it. Anyway, they’re liable to stockpile gold and silver too.”
“Hmmm. I see your point.” Josh frowned. “But can this really happen? Or is it just the ruminations of some nutball?”
“Oh yes – it can happen. In fact, we estimate a probability of 3%.” Charles replied. “And if we do have widespread computer failure, then people and businesses will be unable to get their money. Ultimately, this can screw up food and energy distribution – easily to the point where shortages develop. And you know how people are when they’re hungry, especially in large cities like London and New York!”
“Hmmm.” Josh looked down at his cigar and then raised his head. “So, the bottom line is we need a tight reign on gold and silver prices – especially because of Y2K. Right?”
Charles dragged on his cigar and exhaled. “Correct. We’ll need to push more naked shorts than we have up to now. Those bloody survivalists, especially those people in the western U.S., are big on their damn independence. You can bet they’ll be hoarding a lot of gold and silver!”
Greed Page 21