“I’ll be gone, you’ll be gone”

A Wall Street money manager named Barry Ritholtz wrote a good article in the Washington Post about the IBGYBG management philosophy of so many Wall Street banking and brokerage firms.

IBGYBG is shorthand for “Let’s grab everything we can get now because I’ll be gone and you’ll be gone when everything crashes.”

I do not care what shareholders and their boards pay the people who create enormous value. … … On the other hand, many others received huge bonuses for bankrupting their firms and driving the economy into recession. Their job performance should be the subject of your ire and of regulators. They brought the world to the abyss of economic collapse because they had incentives to do so.

If that sounds unbelievable, consider:

– Subprime mortgage brokers who were paid based on the quantity – not the quality – of their mortgage writing. The loans lenders sold to Wall Street to be securitized carried a 90-day warranty. Hence, the brokers’ jobs were to find people who would make the first three monthly payments of a 30-year loan. After that, it was no longer their concern.

– Derivative traders who knew that what they were buying was going to blow up. In 2007, I published an e-mail from one such trader who wrote, “We knew we were buying time bombs.” The motivation was deal fees and bonuses. Once the derivative machinery was in motion, they had to “keep buying collateral, in order to keep issuing these transactions.”

– Collateralized debt obligation managers whose job it was to assemble pools of mortgages, yet had little or no understanding of the underlying loans. The salespeople, traders and managers working in the mortgage sector had incentives that were upside down. The greater the risk they took, the more they were paid. But brunt of those risks was on third parties, never themselves. It was shareholders and taxpayers who shouldered them.

This is backward. The people who should bear the downside are the ones who have the upside. Instead, the system was perversely one of private profit but public risk.

He named names:

l Lehman Brothers Chairman and CEO Richard Fuld Jr. made nearly a half-billion – $490 million – from selling Lehman stock in the years before it filed for Chapter 11 bankruptcy.

l Countrywide Financial (now owned by Bank of America) founder and CEO Angelo Mozilo cashed in $122 million in stock options in 2007.  His total take is estimated at more than $400 million dollars.

l Stanley O’Neal, who steered Merrill Lynch into financial collapse before it was taken over in a shotgun wedding with Bank of America in 2008, was given a package of $160 million when he retired.

l Bear Stearns former chairman Jimmy Cayne, rescued by a $29 billion Fed shotgun wedding to JPMorgan Chase, received $60 million when he was replaced;

l Fannie Mae CEO Daniel Mudd received $11.6 million in 2007. His counterpart at Freddie Mac, Richard Syron, brought in $18 million. In 2008, the two were forced into government conservatorship.

via Washington Post.

As Ritholtz pointed out, things weren’t always this way.  Once most Wall Street firms were partnerships, and the partners went into personal bankruptcy when their firms failed. Their mansions, yachts, automobiles and even their watches were auctioned off.  During the 1970s and 1980s, the big partnerships became public corporations, and the principle of limited liability meant that the owners were only on the hook for what they put into the firms, not for what they took out of them.

It’s not practical to turn the Wall Street firms back into partnerships.  Instead Rithholtz suggests legislation to make corporate executive personally responsible for reckless management and to claw back their excessive compensation.  I think that’s an interesting idea.  A better idea, in my opinion, would be to make the corporate decision-makers criminally liable for criminal actions of a corporation.

Paul Krugman had an interesting column in the New York Times about how corporate executives and their defenders object to subjecting them to the rule of law.

…  The rich are different from you and me: when they break the law, it’s the prosecutors who find themselves on trial.

To get an idea of what we’re talking about here, look at the complaint filed by Nevada’s attorney general against Bank of America. The complaint charges the bank with luring families into its loan-modification program — supposedly to help them keep their homes — under false pretenses; with giving false information about the program’s requirements (for example, telling them that they had to default on their mortgages before receiving a modification); with stringing families along with promises of action, then “sending foreclosure notices, scheduling auction dates, and even selling consumers’ homes while they waited for decisions”; and, in general, with exploiting the program to enrich itself at those families’ expense.

The end result, the complaint charges, was that “many Nevada consumers continued to make mortgage payments they could not afford, running through their savings, their retirement funds, or their children’s education funds. Additionally, due to Bank of America’s misleading assurances, consumers deferred short-sales and passed on other attempts to mitigate their losses. And they waited anxiously, month after month, calling Bank of America and submitting their paperwork again and again, not knowing whether or when they would lose their homes.”

Still, things like this only happen to losers who can’t keep up their mortgage payments, right? Wrong. Recently Dana Milbank, the Washington Post columnist, wrote about his own experience: a routine mortgage refinance with Citibank somehow turned into a nightmare of misquoted rates, improper interest charges, and frozen bank accounts. And all the evidence suggests that Mr. Milbank’s experience wasn’t unusual.

Notice, by the way, that we’re not talking about the business practices of fly-by-night operators; we’re talking about two of our three largest financial companies, with roughly $2 trillion each in assets. Yet politicians would have you believe that any attempt to get these abusive banking giants to make modest restitution is a “shakedown.”

via NYTimes.

The public limited-liability corporation is an organizational structure that has made possible much of the enterprise and economic progress of the past 150 years.  But laws and court decisions that treat corporations as if they were persons are a big mistake.  They make it possible for the actual human beings within the corporate structure to escape personal responsibility.  To fine a corporation is to punish everyone within the corporate structure, most of whom are probably hard-working, law-abiding and responsible citizens, while the actual culprits may have vamoosed.

Krugman is right as far as he goes.  Bank of America and Citibank should make restitution to the people who have been cheated.  But cheating will go on until the actual cheaters – the human beings – know they risk having to face a Grand Jury.

Click on Putting an end to Wall Street’s ‘I’ll be gone, you’ll be gone’ bonuses for Barry Ritholtz’s complete article.

Click on Another Inside Job for Paul Krugman’s complete column.

Click on Behind the foreclosure crisis, big banks’ reign of error for Washington Post reporter Dana Milbank’s account of his problems with Citibank.

Click on The Big Picture for Barry Ritholtz’s web log.

Click on The Conscience of a Liberal for Paul Krugman’s web log.

This was rewritten for clarity and completeness, and to correct the misstatement that most Wall Street firms were partnerships in the 1970s and 1980s.

Tags: Banks, Civil liability, Corporate crime, Criminal liability, Limited-liability corporations, Wall Street