
Wall Street Stole My Smart Friends - jsomers
http://jsomers.net/street.html
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startingup
Let's remember that this is not "capitalism" in a classical sense. Federal
Reserve policies have created "financialism" where leveraged speculation has
been exceedingly profitable. The _typical_ leverage of a hedge-fund is 5-to-1,
even 10-to-1. Meriwether of LTCM fame ran a "conservative" fund this time with
14-to-1 leverage.

That kind of leverage is the _direct_ outcome of the 1% interest rates the Fed
ran for a while (banks borrowed at 1%, lent to the hedgies at 4-5%, pocketing
a nice spread, and the hedgies used that cheap money to run their own
leveraged speculation ...) They get 20% of the upside if they win, and get to
walk away if they lose.

The net result is a _transfer_ of wealth from productive classes of society
towards speculative classes. This is what _primarily_ caused the heightened
inequality we witnessed in the last several years. I say all this as an
entrepreneur with a libertarian bent.

From an individual point of view, it is perfectly rational to speculate this
way. It is the Fed policy that created the incentives to speculate.

My point is that Wall Street riches have not been fairly earned in a
capitalistic marketplace, but in an artificial environment fostered by the
Fed.

~~~
ctkrohn
I don't think you can argue that excessive leverage is the result of low
interest rates. LTCM, which was levered around 30 to 1, operated in an
environment where the Fed funds rate was around 6%, not 1%. Likewise, Japan
has had extremely low (even 0%) overnight interest rates since the 90s, but
there hasn't been an explosion of Japanese hedge funds to the extent that
there's been an explosion of American ones.

People have found ways to lever themselves rather through derivatives, rather
than simple borrowing of cash... e.g. if you want levered exposure to a
portfolio of high-grade corporate bonds, you don't borrow money and invest in
cash bonds. You get an investment bank to structure a bespoke synthetic CDO
tranche which, according to your single-factor Gaussian copula model, gives
you exactly the risk and return that you want. If you want levered exposure to
interest rates, you don't borrow money and speculate on Treasury notes; you
pay (or receive) on an interest rate swap whose notional amount is far greater
than the amount of cash you have. With the current state of derivatives
regulation, people will be playing these games whether Fed funds is at 0% or
10%.

I will grant you that giving fund managers a call option on their returns
isn't a great idea. It has the advantage of being cheap, since the value of a
call option is less than the underlying. But at the same time, the value of a
call option increases in value as the volatility of the underlying increases.
So not only do hedge fund managers have incentive to get good returns, they
have an incentive to get volatile returns as well -- this leads to perhaps
more risk-taking than is necessary.

Edit: and the funny thing is that JWM Partners, Meriwether's post-LTCM fund,
is supposedly down 20% this year. To be fair, they apparently did a pretty
good job from 2000-2008 or so.

~~~
kingkongrevenge
Speculative bubbles have always and everywhere been about inflation of the
money supply. Dutch tulips, south sea bubble, mississippi company, 20s stocks,
nikkei, dot coms -- it's ALWAYS been about the money supply.

Here is why finance has changed so much and become such a big deal since the
early 90s:
[http://www.mises.org/content/nofed/makegraph.php?tms=true...](http://www.mises.org/content/nofed/makegraph.php?tms=true&unit=lin&range=max&bars=true&size=med&Make+Graph=make)

~~~
vlad
What change does the graph illustrate? Each 10 year period is double what it
was before. It's not a linear function but it wasn't in the first place.
Thanks.

~~~
kingkongrevenge
There is an inflection point in 1995 when reserve requirements were
dramatically lowered, permanently as it turned out.

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ctkrohn
As someone who works on Wall Street, I'm getting a kick out of etc. etc....

I don't think it's quite true. Most of the people I work with are pretty
smart, but I haven't come across too many geniuses (I am certainly not one).
Wall Street draws different types of people: the type of "talent" attracted to
a corporate finance/investment job is very different from the type of "talent"
attracted to trading. Different kind of intelligence, different tolerance for
risk, different personality.

One thing is for certain: investment banks and hedge funds aren't going to be
hiring as many people in the next year or two.

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andr
From my experience, I wouldn't say the guys on Wall Street and in the City are
"out there dancing". Most of them are in there, working 16 hours a day, up to
7 days a week. Think about supply and demand. Would they be getting such high
salaries if the job was actually pleasant and fulfilling?

There are exceptions, of course, but the average fresh-out-of-college Wall
Street employee isn't having much fun.

~~~
nostrademons
It depends on the subfield. I've heard that I-bankers work crazy hours - 16/7,
as you say. But my hedge fund friends usually work a pretty standard 9 hour
day, 5 days a week (well, occasionally they'll be researching financials on a
weekend, but it's because that's what they like to do). And they take pretty
frequent vacations.

There's an element of risk-transference in the high financial industry
salaries. When times are good, lots of money flows into the financial
industry, which props up salaries. When times are bad, firms go under, people
get laid off, and salaries drop. However, the loss is never _entirely_ born by
the employees - after all, somebody out there lost all their principal because
Bear Stearns imploded. So on average, Wall Street employees will make more
than people in steadier, more risk-free jobs.

Same goes for entrepreneurs, for that matter. If the company does well, they
get multi-million-$ payouts. If the company folds, their investors bear part
of the loss. So on average (mean), an entrepreneur will do better than an
equivalent employee, even though on average (median), the entrepreneur ends up
with nothing.

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cratuki
"is a society that sends so many of its brightest college graduates into a
capital markets monkey pit maximizing welfare?"

It's not "Society" that is sending people into jobs in banks, it's individuals
making individual decisions to accept individual contracts. That's their
right, as it should be and there is no act of theft involved.

I don't understand why this chap feels that he should object to that. Nobody's
forcing him to do it.

The paragraph that begins "It helps that investment banking has a low barrier
to entry" doesn't make a point, nor does the one following.

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apathy
Well, the nice thing is that the author may be getting some of his smart
friends back, now that Wall Street has overreached.

Perhaps some of the statisticians will come back to work on fundamentally (as
opposed to monetarily) interesting problems, more of the sharp deal-makers
will again be available for non-financial-sector positions, and the
equilibrium to which the author alludes will briefly allow for a bit of
overcorrection in favor of societal benefit.

It's a bit optimistic, to be sure, but not impossible.

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iowahansen
Any Wall Street hackers reading this? I heard that while you earn big chunks
of money at investments firms (nice 200-500k bonuses if you are really good),
you are still seen as a second class citizen to the actual people that deal
with the money stuff.

Is it possible to attract such talent in NYC through a great start-up working
environment (like described in Joel on Software) while paying less, or are
money and prestige too though to beat?

------
sdurkin
"But I'm left to ask: is a society that sends so many of its brightest college
graduates into a capital markets monkey pit maximizing welfare?"

This is the part of the argument with which I take issue. Allocation of
investment is the heart of a capitalist economy. In a socialist economy,
investment is dispensed from a central location. In a capitalist economy such
as ours, where there are many competition-driven individual firms, we benefit
from each of them making wise investment decisions.

Investment firms literally decide how we spend our accrued wealth. I can't
think of a better place to send our best and brightest.

~~~
kingkongrevenge
> Allocation of investment is the heart of a capitalist economy.

Allocation of _capital_ is at the core of a capitalist economy. That's not
what most people in finance are doing. They are speculating with funny money.
There isn't really that much actual capital involved; savings rates are
abysmal after all.

~~~
startingup
Excellent point. The result of financial speculation of recent years was the
allocation of credit to the real estate industry, distorting the real economy
in multitude of ways, by pulling resources in an unsustainable fashion.

In 2000, there were 100+ optical networking companies in the 10 mile radius
around Palo Alto. That was the result of that period's credit bubble, which
worked its way through credit -> stock market/debt market -> telecom companies
-> start-ups.

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tphyahoo
I worked in finance here and there.

There are a lot of smart people there, but also many people with advanced
degrees that are more book smart than street smart. So they sell book-smart
snake oil, or help others do that indirectly via a stable of credentialed
eggheads. (Cf Nassim Taleb on derivatives shenanigans.)

Street smart is a lot more important than book smart on wall street.

Too bad I'm so book smart :)

