Duhigg -- A Very Important Article

High frequency traders have the advantage of miliseconds:
http://www.nytimes.com/2009/07/24/business/24trading.html?em

"You Would Need 15 Enrons For the District to Lose Money" -- School District's Retirement Plan Gets Screwed

new_york_times:http://www.nytimes.com/2008/11/02/business/02global.html

By CHARLES DUHIGG and CARTER DOUGHERTY
Published: November 1, 2008
On a snowy day two years ago, the school board in Whitefish Bay, Wis., gathered to discuss a looming problem: how to plug a gaping hole in the teachers’ retirement plan.
It turned to David W. Noack, a trusted local investment banker, who proposed that the district borrow from overseas and use the money for a complex investment that offered big profits.
“Every three months you’re going to get a payment,” he promised, according to a tape of the meeting. But would it be risky? “There would need to be 15 Enrons” for the district to lose money, he said.
The board and four other nearby districts ultimately invested $200 million in the deal, most of it borrowed from an Irish bank. Without realizing it, the schools were imitating hedge funds.
Half a continent away, New York subway officials were also being wooed by bankers. Officials were told that just as home buyers had embraced adjustable-rate loans, New York could save money by borrowing at lower interest rates that changed every day.
For some of the deals, the officials were encouraged to rely on the same Irish bank as the Wisconsin schools.
During the go-go investing years, school districts, transit agencies and other government entities were quick to jump into the global economy, hoping for fast gains to cover growing pension costs and budgets without raising taxes. Deals were arranged by armies of persuasive financiers who received big paydays.
But now, hundreds of cities and government agencies are facing economic turmoil. Far from being isolated examples, the Wisconsin schools and New York’s transportation system are among the many players in a financial fiasco that has ricocheted globally.
The Wisconsin schools are on the brink of losing their money, confronting educators with possible budget cuts. Interest rates for New York’s subways are skyrocketing and contributing to budget woes that have transportation officials considering higher fares and delaying long-planned track repairs.
And the bank at the center of the saga, named Depfa, is now in trouble, threatening the stability of its parent company in Munich and forcing German officials to intervene with a multibillion-dollar bailout to stop a chain reaction that could freeze Germany’s economic system.
“I am really worried,” said Becky Velvikis, a first-grade teacher at Grewenow Elementary in Kenosha, Wis., one of the districts that invested in Mr. Noack’s deal. “If millions of dollars are gone, what happens to my retirement? Or the construction paper and pencils and supplies we need to teach?”
The trail through Wisconsin, New York and Europe illustrates how this financial crisis has moved around the world so fast, why it is so hard to tame, and why cities, schools and many other institutions will probably struggle for years.
“The local papers and radio shows call us idiots, and now when I go home, my kids ask me, ‘Dad, did you do something wrong?’ ” said Shawn Yde, the director of business services in the Whitefish Bay district. “This is something I’ll regret until the day I die.”
Selling Risk
Whitefish Bay’s school district did not intend to become a hedge fund. It and four nearby districts were just trying to finance retirement obligations that were growing as health care costs rose.
Mr. Noack, the local representative of Stifel, Nicolaus & Company, a St. Louis investment bank, had been advising Wisconsin school boards for two decades, helping them borrow for new gymnasiums and classrooms. His father had taught at an area high school for 47 years. All six of his children attended Milwaukee schools.
Mr. Noack told the Whitefish Bay board that investing in the global economy carried few risks, according to the tape.
“What’s the best investment? It’s called a collateralized debt obligation,” or a C.D.O., Mr. Noack said. He described it as a collection of bonds from 105 of the most reputable companies that would pay the school board a small return every quarter.
“We’re being very conservative,” Mr. Noack told the board, composed of lawyers, salesmen and a homemaker who lived in the affluent Milwaukee suburb.
Soon, Whitefish Bay and the four other districts borrowed $165 million from Depfa and contributed $35 million of their own money to purchase three C.D.O.’s sold by the Royal Bank of Canada, which had a relationship with Mr. Noack’s company.
But Mr. Noack’s explanation of a C.D.O. was very wrong. Mr. Noack, who through his lawyer declined to comment, had attended only a two-hour training session on C.D.O.’s, he told a friend.
1
2
3
4 Next Page »

Charles Duhigg's Article That Blew the Whole FNM and FRE Thing Out of the Water

new_york_times:http://www.nytimes.com/2008/08/05/business/05freddie.html

By CHARLES DUHIGG
Published: August 5, 2008
The chief executive of the mortgage giant Freddie Mac rejected internal warnings that could have protected the company from some of the financial crises now engulfing it, according to more than two dozen current and former high-ranking executives and others.
That chief executive, Richard F. Syron, in 2004 received a memo from Freddie Mac’s chief risk officer warning him that the firm was financing questionable loans that threatened its financial health.
Today, Freddie Mac and the nation’s other major mortgage finance company, Fannie Mae, are in such perilous condition that the federal government has readied a taxpayer-financed bailout that could cost billions. Though the current housing crisis would have undoubtedly caused problems at both companies, Freddie Mac insiders say Mr. Syron heightened those perils by ignoring repeated recommendations.
In an interview, Freddie Mac’s former chief risk officer, David A. Andrukonis, recalled telling Mr. Syron in mid-2004 that the company was buying bad loans that “would likely pose an enormous financial and reputational risk to the company and the country.”
Mr. Syron received a memo stating that the firm’s underwriting standards were becoming shoddier and that the company was becoming exposed to losses, according to Mr. Andrukonis and two others familiar with the document.
But as they sat in a conference room, Mr. Syron refused to consider possibilities for reducing Freddie Mac’s risks, said Mr. Andrukonis, who left in 2005 to become a teacher.
“He said we couldn’t afford to say no to anyone,” Mr. Andrukonis said. Over the next three years, Freddie Mac continued buying riskier loans.
Mr. Syron contends his options were limited.
“If I had better foresight, maybe I could have improved things a little bit,” he said. “But frankly, if I had perfect foresight, I would never have taken this job in the first place.”
Mr. Andrukonis was not the only cautionary voice at Freddie Mac at the time. According to many executives, Mr. Syron was also warned that the firm needed to expand its capital cushion, but instead that safety net shrank. Mr. Syron was told to slow the firm’s mortgage purchases. Instead, they accelerated.
Those and other choices initially paid off for Mr. Syron, who has collected more than $38 million in compensation since 2003.
But when housing prices began declining in 2006, choices at Freddie Mac and Fannie Mae proved disastrous. Stock prices at both companies have fallen by more than 60 percent since February, destroying more than $80 billion of shareholder value.
More than two dozen current and former high-ranking executives at Freddie Mac, analysts, shareholders and regulators said in interviews that Mr. Syron had ignored recommendations that could have helped avoid the current crisis.
Many of those interviewed were given anonymity for fear of damaging their careers by speaking publicly.
Now, some outsiders are saying that Mr. Syron and the top executive at Fannie Mae — some of the highest-profile figures in the business world — should be replaced.
“The top people should be booted out, and replaced by executives who have the confidence of the markets,” said Janet Tavakoli, a finance industry consultant and observer of both firms. Large Freddie Mac shareholders, speaking on the condition of anonymity, echoed those sentiments.
Mr. Syron and the Fannie Mae chief executive, Daniel H. Mudd, defended their choices, saying in interviews that they did not anticipate that the housing market would decline so quickly and that they were buffeted by conflicting pressures.
“This company has to answer to shareholders, to our regulator and to Congress, and those groups often demand completely contradictory things,” Mr. Syron said in an interview.
Indeed, executives of both companies maintain that one of the reasons the firms hold so many bad loans is that Congress has leaned on them for years to buy mortgages from low-income borrowers to encourage affordable housing. In 2004, Freddie Mac warned regulators that affordable housing goals could force the company to buy riskier loans.
1
2
3 Next Page »