
What Business is Wall Street In?  - peter123
http://blogmaverick.com/2010/05/09/what-business-is-wall-street-in/
======
lotharbot
If Mark Cuban thinks the market is now all about exotic derivatives rather
than buying stock in companies you believe in, he's listening to the wrong
people. Commission-based brokers talk about exotic derivatives; Warren Buffet
still talks about buy-and-hold.

The biggest wins and losses in day trading will come from exotic derivatives
simply by their nature: they're highly leveraged bets. Those firms that create
the vehicles to make those bets aren't "hackers", they're "Vegas". You ask for
a bet against the housing market or for cattle, they set up a structure to let
you make that bet, and you play the odds -- and you might beat the other
betters in the market over the short term, but it's the house (taking its
percentage off the top) that always wins long term. Mark Cuban is right to be
uncomfortable playing that game.

Meanwhile, people like Warren Buffet continue to look for healthy companies
that are underpriced and buy into them for the long term. Day-to-day the
market might be driven by short-term bets, but over the course of 3 decades
it's still driven by the fundamental health of companies. If anything, those
who care about _"the performance of specific companies and their returns"_
benefit from the fact that occasionally, as a result of day traders' bets,
healthy companies' stocks get sold at bargain prices.

If you try to play Vegas' game, you'll probably get burned. But if you stand
back, watch the game, and buy when their game creates a bargain price on good
long-term stocks, you stand to get very solid returns.

~~~
hristov
I think what Mark Cuban is saying is that because of the way Wall Street
operates now it is very dangerous to be the Warren Buffet type of value
investor.

More specifically, Wall Street's obsession with the big score makes stocks
very dangerous and volatile which means that if you try investing based on a
company's intrinsic value, the stock you buy can easily swing down for reasons
that are completely unrelated to the company value but have to do with some
traders or trading algorithms trying to outsmart each other.

Now if you are Buffet you probably have enough cash reserves to ride out any
such swings, but most people need to rely on the money in their stock
holdings, so they cannot afford the new found volatility of Wall Street, so
many people are just moving out of the market all together.

Now I have to say that I am not sure if this argument is right, but that is
his argument.

~~~
lotharbot
> _"it is very dangerous to be the Warren Buffet type of value investor."_ ...
> _"most people need to rely on the money in their stock holdings"_

If you need to rely on the money from the _sale_ of your stock holdings,
you're not a Warren Buffet type of value investor. If you're looking for
_income_ from your holdings (dividends and such), the volatility of Wall
Street's stock pricing algorithms is not an issue.

For those who are nearing retirement and counting on the _sale_ of stock
holdings, make sure you have an appropriate stock-bond-short term reserve mix
in your portfolio so that you can ride out market swings. Moving out of the
market altogether is unnecessary. If you do move out of the market in
desperation (like people did in March of last year, selling for whatever they
could get), you're providing us value investors the "irrational bargains" I
mentioned in my reply to davidw.

~~~
yummyfajitas
Buying stock for dividends is usually not a great investment since dividend
income is taxed at a much higher rate than capital gains.

------
Dilpil
Which is the wiser way to deal with hackers:

Is it to enact hard to enforce ambiguous anti hacking laws, while at the same
time individually patching each exploit with unrelated fixes?

Or is it to step back and analyze why a system has so much hackable
complexity, and seek to fix the overarching issues that create security
vulnerabilities?

I would much rather see fundamental suggestions about how to optimize the
market for fairness from the ground up rather than patchwork fixes like the
dollar a trade tax, or the 5 year tax break.

~~~
daniel-cussen
My understanding is that game theory isn't there yet, so you can't do a first
principles market approach. But one should still try to make things work
better and more elegantly.

~~~
_delirium
It's also hard to really "design" markets in an overarching way; they tend to
be nothing _but_ formalizations of and patchwork fixes to various existing
practices. The stock market, for example, is a formalization of the paper-
stock-trades market with an attempt at improving transparency and reducing
fraud; the commodities exchange market is similar for commodities, with the
additional goal of providing a clearance mechanism to get counterparty risk
out of the picture; etc.

------
xxzz
"I have always thought I had a good handle on the market. Until recently."

Guess what? That just means that the market has gotten more efficient so that
you can't arbitrage it anymore. If you can't make money, that your problem. If
the quants made the market so irrational then why aren't you profitable
arbitraging it?

All technologies improve the average case at the expense of making the worst
case worse. Cars versus walking for example. Average case: get to where you
are going faster, worst case: horrible accident. The question is not whether
financial innovation introduces systemic risk but whether the benefits out-
weigh the costs. The consensus amongst academic is that yes, this is the case.

------
MLnick
This article is at best inconsistent, at worst self-serving.

Funny that Cuban wasn't complaining about traders when they were driving up
tech stocks in the dot-com bubble that eventually helped him land his giant
payout in Yahoo stock. Or the traders that took said Yahoo stock off of him
when he wanted to divest himself (aka liquidity).

Tax breaks for long-term investors? Well VC and PE firms are "long-term
investors" and they already have a pretty sweet deal on carried interest. That
didn't stop them from rampant speculation in the tech bubble, or buying
companies at outrageous debt multiples in the credit bubble. Imagine how much
more it would have gone on if they didn't have to factor tax into their return
calculations? I bet Mark would love to get all his future speculative VC
investment payouts tax free. I don't know of a major tax regime that doesn't
treat short-term trading revenue as income as opposed to capital gains. Tax
breaks for "real long-term investment"? Yes, it's called a 401k or pension
plan. If you're really a long-term investor a 10% algo glitch (4% actual down
day) shouldn't even register for you. You shouldn't even be looking at the
market on more than an annual basis.

"The market has changed over the last 3 years" and is driven by macro issues?
Yes we've been through a severe global recession driven by the bursting of a
global credit bubble. Of course macro issues have dominated and volatility has
been extremely high.

(The wider) Wall Street's business is not and never was purely raising capital
for companies. In the 20s were market volumes way less than capital raised as
a proportion? I doubt it, but even if so it sure didn't prevent the Great
Crash. Why does government need to further incentivise capital raising, that
already brings in some of the highest possible fees (on individual
transactions) to investment banks of any "traditional" activity (equity and
debt underwriting, M&A, market making), i.e. excluding principal business and
super exotic trades. He also says that companies never go public anymore, yet
global IPO volumes are the highest in a decade
(<http://www.efinancialnews.com/story/2010-03-26/global-ipo-q1>).

The only point I really agree with is leverage - it fuels the growth of
bubbles, and exacerbates their bursting (or causes it when taken away in some
cases). Most of the major bubbles/crashes in the past 100 years were either
caused by excessive leverage (credit bubble, LTCM, various debt and currency
crises) or had leverage as a major feature in their bursting and the speed and
volatility of the movements (dot-com, Great Crash, credit bubble). The
possible exception to this is '87 (to a large extent computer-driven,
arguably) although again leverage played a big role.

Finally, the major, unforeseen crashes have typically come about due to
opaque, illiquid and/or highly leveraged situations (AIG, LTCM, CDS on CDOs,
day traders buying tech stocks on margin etc). High-frequency traders only
trade in the most liquid instruments, so ironically they are the ones trading
on exchange, transparently and with exchange-set collateral and trading rules.
Certainly illegal activities such as real front-running should be stamped out.
Possibly things like flash orders too. A level playing field should be
ensured. But he should worry more about the stuff going on off exchange than
in the public markets.

------
mixmax
Cracker, not hacker, is what he means. Annoying mistake.

~~~
_delirium
I dunno, it seems to be "hacking" in the relevant sense of figuring out how a
formal or mechanical system works and finding clever things to do based on
that understanding (of which "exploiting weaknesses for profit" is one, though
not necessarily the most interesting one). People here discuss "hacking
fitness" or "hacking productivity" or whatever, so I don't see why "hacking
the markets" is any worse of an analogy.

~~~
mortenjorck
The context in which Cuban uses it, though, seems to presume that any hacker
will use his findings for illicit personal gain rather than for the benefit of
the community.

Admittedly this is a bit pedantic, and I know the popular use of the term has
come to imply black hat, but this _is_ Hacker News!

------
ajg1977
One of the best articles that's been written about the issues with today's
wall street.

------
DanielBMarkham
_Put another way, there is zero moral hazard attached to any trade. So why
wouldn’t traders take the biggest risk possible ?_

I'm glad I'm not the only one who somehow says and types the exact opposite to
what I meant to say.

Mark means there is a maximum amount of moral hazard -- the brokers have
completely different interests than the principals. If there were zero moral
hazard, that would be a good thing.

------
known
Wall Street should give priority for investors over traders.

------
libber
I would like to be shown I am wrong because it seems like an oversight but the
answer to his main question is "the bond market" right?

------
borism
_There will be another crash, because there are too many players looking for
the trillion dollar score. They can’t all win, yet how many do you think
wouldn’t risk everything, even what is not theirs, for that remote chance to
score big ? Put another way, there is zero moral hazard attached to any trade.
So why wouldn’t traders take the biggest risk possible ?_

well I'm sorry, but that also applies to VC/angel funded startups game
nowadays, which Cuban participates in.

~~~
gruseom
I disagree. Angels and VCs make money by investing in people who build great
companies. What do derivatives traders build?

~~~
yummyfajitas
Derivatives traders build ways for great companies to hedge risk. They also
push the price of assets towards their correct value, allowing the price in
the present to reflect information on the future.

~~~
gruseom
The trouble with this argument is that it is a reductio ad absurdum after the
fiasco of the last few years. It's hard to hear something like "they also push
the price of assets towards their correct value" with a straight face.

Has it not become painfully clear that the financial system has come to
dominate the economy to a greater extent than the value it provides?
<http://en.wikipedia.org/wiki/File:NYUGDPFinancialShare.jpg> And that this has
been driven by the interests of those who profit personally from such a
configuration, in opposition to the interests of society as a whole?
[http://www.thisamericanlife.org/radio-
archives/episode/405/i...](http://www.thisamericanlife.org/radio-
archives/episode/405/inside-job). I'd say those statements are hardly
controversial to anyone without a vested interest in the status quo.

I grant that "hedging risk" and that other standby, "ensuring liquidity", do
have value, just not to justify the existing system. The liquidity argument in
particular comes off as ironic in light of the fact that trillions of public
dollars provided to the financial sector in the name of opening liquidity to
the general economy did no such thing.

~~~
yummyfajitas
Actually, a lack of proper derivatives did help to create the housing bubble.
Until a few years ago, it was very difficult to short the housing market. It
was only fairly recently that speculators such as Paulson, Magnetar and others
managed to successfully speculate in the right direction. This certainly
helped to bring housing prices closer to their proper level.

In any case, since you feel the financial sector is too large, what do you
believe is the proper size of the financial sector?

~~~
gruseom
I don't have time to study this question so my answer is useless, but to play
along, I'll go with 5% or so of GDP. Why? Because the two historical periods
that exceed 5% are (1) the Great Depression and (2) the 1980+ era of
financialization leading to the recent crash. (I'm getting this from the
Wikipedia graph I linked to.)

To turn to your other point, I certainly respect what you're saying, but once
again there's this problem of reductio ad absurdum: forces leading straight to
financial meltdown can hardly be representative of a proper system. What
you're saying sounds dangerously close to "the system worked". Or perhaps,
"the system just didn't follow its own logic consistently enough".

