(Bloomberg View) -- Programming note: Money Stuff will be off next week. Have a good holiday and I'll see you next year, when my New Year's resolution will be: less bitcoin.
Bankruptcy.
Bankruptcy is notoriously expensive, as bankers and lawyers charge bankrupt companies millions of dollars in fees, but even by those standards the story of Joseph Soto is a little much. Joseph Soto had a business plan for RadioShack. (This is back in February 2012, when "a business plan for RadioShack" sounded slightly less oxymoronic than it does today.) So he sent that plan -- titled "RadioShack: The New Future" -- off to RadioShack, as one does, and then waited for them to call him back. They did not call him back. Eventually RadioShack went bankrupt, in January 2015, and then for good measure it went bankrupt again in March 2017. Perhaps they should have called Soto back about his business plan -- how much worse could it have been than their actual business plan of double bankruptcy? -- though I have my suspicions. Anyway, while RadioShack was busy not calling Soto back, Soto was busy waiting by the phone. Twenty-four hours a day, 365 days a year, for three years. At $200 an hour, that quickly adds up, as Soto explained to the bankruptcy court (PDF from the docket):
The Claim filed by Mr. Soto is in the amount of $21,024,000. Mr. Soto reported to the Court that he calculated the amount of the Claim based upon a stated hourly consulting rate of $200. Mr. Soto alleges that, after sending the proposed business plan to RadioShack in 2012, he was available to RadioShack 24 hours a day, 365 days a year for the three years preceding RadioShack's bankruptcy filing.
That math does not add up but that is the least of its problems. Now that RadioShack is bankrupt Soto was presumably willing to take less than his full consulting fee, but in the event the court disallowed his entire claim for the dull prosaic reasons that "the business plan was neither solicited nor requested by RadioShack," "there is nothing in the record to support a finding that RadioShack actually utilized the business plan in its operations," and that even if there were, "Mr. Soto's calculation of his claim would bear no relation to reality or business practice: a claim for hourly fees, 24 hours a day for years on end, is entirely without any foundation."
I have to say, it is a disappointing result. I just thought of a business plan for RadioShack (the title is "BlockchainShack" and that's pretty much the whole plan). I am not going to go to the trouble of mailing it, and I am only willing to be available 8 hours a day, 5 days a week, with reasonable vacations, to not talk to them, but even so at my $200 hourly rate that is still $400,000 a year that I would like to collect from the RadioShack estate for not using it. I have similar business plans for Men's Wearhouse Inc. ("Blockchain Wearhouse"), Toys R Us Inc. ("Blockchains R Us"), AutoZone Inc. ("CryptoZone"), Dollar General ("Bitcoin General") and JC Penney Co. ("JC Satoshi"), that I would like to simultaneously bill those companies for not using. It seems somehow un-American to let the absence of any "relation to reality or business practice" interfere with my desire to be paid great gobs of money for doing nothing.
Happy Bitcoin 12,000 Day.
Remember the first Bitcoin 12,000 Day? I sure do. It was two weeks ago, in the midst of that golden age of bitcoin in which it was adding a couple of thousand dollars pretty much every day. Bitcoin 12,000 came on the same day as Bitcoin 13,000 and Bitcoin 14,000, two days after Bitcoin 11,000, and one day before Bitcoins 15,000 and 16,000. Those were good times. We talked about getting hats printed, "Bitcoin 25,000 Before Dow 25,000." It seemed obvious. Everyone wanted in. Paul Krugman's barber's brother-in-law put everything in bitcoin. Bitcoin's essential characteristic, for the last month or so, was that it went up.
Now it's going down! Bitcoin fell through $13,000, rallied back above $14,000 this morning, and then resumed a plunge to below $12,000 as of just after 9 a.m. Happy Bitcoin Various Prices In Various Directions Day, I guess.
Why did it drop? Search me. The fact that bitcoin's drop came just as bitcoin futures came online at regulated exchanges is a little suggestive: Maybe all those smart-money hedge funds who were clamoring to short bitcoin actually did it, and it paid off. That seems a little too neat to me: Shorting a volatile soaring asset might be smart, but it is also terrifying, and it's hard to imagine institutions piling in early to do it in size. Or maybe people who bought bitcoin at $2 or $200 or $2,000 or $12,000 decided to take profits while the getting was good, and interpreted the last couple of weeks' worth of non-stop white-hot bitcoin coverage as about as good as things were going to get. "A frenzied demand for coins with limited supply has now led to unsophisticated investors holding the bag at the top," Oanda Corp. trader Stephen Innes told Bloomberg News. Eventually you are going to run out of people to sell bitcoin to, and maybe Paul Krugman's barber's brother-in-law was the last one in the door.
What does it all mean? Search me. Bitcoin's volatility makes it a poor currency, sure, but we all knew that, and this is not the sort of newsletter that thinks that "bitcoin is a bad currency" is a good argument against bitcoin. On the other hand, the good argument for bitcoin is that it is a store of value, an uncorrelated asset that can be used to preserve wealth, a more concealable and transportable form of gold. Bitcoin's volatility makes it not a great store of value either, you know? If you spent $19,500 on a bitcoin this Sunday, and you have something like $11,500 today, you might fairly complain that its usefulness as a store of value has been overhyped.
Goldman Sachs Group Inc. is setting up a trading desk to make markets in digital currencies such as bitcoin, according to people with knowledge of the strategy. The bank aims to get the business running by the end of June, if not earlier, two of the people said. Another said it’s still trying to work out security issues as well as how it would hold, or custody, the assets.
One thing that you'll notice in bank earnings is that when volatility is low, market-making revenues tend to be low, because volatility means that clients are trading. On the other hand, when volatility is very high, market-making revenues are sometimes also low, or at least variable, because volatility is what causes market makers to lose money on inventory. You want a nice happy medium, volatile enough to get some action but not so volatile that you're constantly losing your shirt. Bitcoin's 30-day realized volatility is a bit over 100 percent. (Versus a bit under 7 percent for the S&P 500 Index.) "Realized vols in BTC are unlike anything we’ve seen in other asset classes," says JPMorgan Chase & Co. I bet Goldman (disclosure: I used to work there) will have fun with that.
Elsewhere:
- Belarus is pivoting to blockchain.
- "Don’t Fall for Cryptocurrency-Related Stock Scams," says this Financial Industry Regulatory Authority Investor Alert, which ... thanks, Finra?
- And there is this:
CamSoda, a leading adult entertainment webcam platform, announced the launch of BitCast, a platform that allows people to track the success of the cryptocurrency investment – and get sexual pleasure from it. The platform pairs interactive sex toys for females and males with the performance of Bitcoin, Ethereum and Litecoin, increasing or decreasing the frequency of vibration based on the real-time value of the cryptocurrency. If the value of the currency goes up, the vibrating increases; and if the value goes down, the vibrating decreases.
Shouldn't it be the other way? Shouldn't the thing give you more sexual pleasure as your bitcoin fortune falls? You don't need a vibrating whatever-it-is to get excited when your bitcoins are going up.
Accelerated monitoring fees.
Private equity firms charge their portfolio companies "monitoring fees" for, let's say, monitoring them. When they sell a company early, they will sometimes charge it a lump-sum accelerated monitoring fee for all of the future monitoring fees it won't be paying. This is a little weird, since when they sell a company they don't have to monitor it anymore. (It's the Joseph Soto business model of charging fees for work you're not doing.) But you can see why they do it. They do it because it's money! They like money! If you own a portfolio company, you can charge it a fee, and then you can make it pay the fee, and then you have the fee. Why wouldn't you do that?
Of course the fees ultimately come out of the pockets of the private equity funds' investors, and the investors eventually got wise to the fact that paying monitoring fees for not monitoring is a little silly, and so now the firms either don't charge these fees or share them with their funds. But for a brief golden age of private-equity silliness this particular racket was part of the fun, and the Securities and Exchange Commission doesn't like it. So it has been slowly fining the big private equity firms -- Blackstone Group LP in 2015, Apollo Management in 2016 -- for doing it. This week it got TPG for $13 million.
The private equity firms are always a little peevish about these settlements. "The SEC matter at hand relates to the absence of express disclosure in marketing documents, eight or more years ago, about the possible acceleration of monitoring fees, a then-common industry practice," said TPG. "As the SEC order acknowledges, TPG disclosed its receipt of these fees." The problem is that the SEC is essentially a disclosure regulator, and it fines the firms for not disclosing the fees. But the firms did disclose the fees. At the launch of each fund they would tell investors, in effect: "We are going to charge your portfolio companies a comical array of fees, really, you will laugh when you see some of the fees we've got cooking for you." And then they'd charge accelerated monitoring fees, and promptly tell the investors that they had charged them, and the investors would laugh, but it was a rueful laugh that was quickly followed by demands that the firms get rid of the fees or start sharing them with the funds. The system kind of sort of worked, and was filled with high comedy and copious disclosure.
The SEC, on the other hand, thinks that the accelerated monitoring fees themselves were dumb and bad. It is not wrong, exactly, about that. But dumb and bad fees are not, in general, violations of the securities laws, and so the SEC has to pretend that the dumb and bad fees were also not disclosed. It is sort of a charming picture of the investment industry: If a fee is dumb and bad enough, then no investor could have agreed to pay it, so it must not have been disclosed. Even if it actually was.
Big Ponzi.
This seems bad:
The Securities and Exchange Commission today announced charges and an asset freeze against a group of unregistered funds and their owner who allegedly bilked thousands of retail investors, many of them seniors, in a $1.2 billion Ponzi scheme.
The complaint alleges that the Woodbridge Group of Companies and its owner Robert Shapiro raised "more than $1.22 billion from over 8,400 unsuspecting investors nationwide through fraudulent unregistered securities offerings":
Shapiro promised investors they would be repaid from the high rates of interest Shapiro's companies were earning on loans the companies were purportedly making to third-party borrowers. However, nearly all the purported third-party borrowers were actually limited liability companies owned and controlled by Shapiro, which had no revenue, no bank accounts, and never paid any interest under the loans.
Despite receiving over one billion dollars in investor funds, Shapiro and his companies only generated approximately $13.7 million in interest income from truly unaffiliated third-party borrowers. Without real revenue to pay the monies due to investors, Shapiro resorted to fraud, using new investor money to pay the returns owed to existing investors.
The SEC claims that he "used at least $328 million to repay principal and interest to investors and spent at least another $172 million on operating expenses, including $64.5 million on sales agent commissions and $44 million on payroll," and "at least $21 million of investor funds on extravagant personal expenditures."
I sometimes question the SEC's focus on small-time retail consumer protection -- as opposed to market-structural issues that affect the big institutional investors that actually control most people's money -- but really shutting down a $1.2 billion Ponzi scheme seems like about the most important thing it could do. If the SEC's allegations are true, then this company stole at least hundreds of millions of dollars from people who really needed the money. These people were "unsophisticated," but they don't seem to have been especially stupid or greedy. The investments were marketed as "low risk," "simpler," "safe" and "conservative"; the returns promised were good but not ludicrous (5 to 8 percent per year on medium-term promissory notes); the patter ("hard money" lending, "first-position" liens) was broadly plausible.
Of course the problem is that the SEC didn't catch the alleged Ponzi all that early. It does sees to have accelerated its demise: It started looking into Woodbridge, it subpoenaed some documents in January, Woodbridge allegedly stonewalled it, and then earlier this month Woodbridge filed for bankruptcy. Ideally the SEC would have caught it before it became a billion-dollar Ponzi. But at least they caught it before it became a two-billion-dollar Ponzi.
Insider donating.
What is going on here?
[Michael] Milken was among hundreds of people who donated stock to charities near price peaks or a few weeks before the stocks tanked, a Wall Street Journal analysis of federal data shows. Such donations occurred more often than chance would dictate, according to researchers interviewed by the Journal.
One thing to say is that if you look at the entire universe of people who sell stock, they can't have better-than-chance timing in the aggregate. More people sell after peaks than before peaks; that is just how peaks work. Perhaps the people in the Wall Street Journal's sample -- of "some 14,000 donations of stock to private foundations" -- are also particularly good at timing their stock sales, though the article doesn't suggest that. If not, you are left with the odd conclusion that rich sophisticated investors are better at giving away stock before it goes down than they are at selling it before it goes down.
Why would that be? From the article:
Good luck or coincidence is one explanation for many of the well-timed stock gifts. Academic researchers say another possible explanation for some, given the outsize number of such gifts, is that some donors might be guided by inside information or backdating their stock gifts. Legal experts don’t agree on whether donating based on nonpublic information would be unlawful. Backdating a gift could be tax fraud, tax lawyers said.
I don't know the facts of any particular case, but in general "inside information" is an unsatisfying explanation. If these hundreds of rich people were all privy to inside information in the companies they invested in, and were willing to use that information for their own personal profit, why use it just to minimize taxes on donations? You can make a lot more money selling stock and keeping the money than you can donating stock and keeping the tax deductions.
Of course one answer would be that donating based on inside information really might not be illegal: With no sale of securities, how can you be committing securities fraud? This is not legal advice but it seems intuitive to me. Perhaps some sample of rich people regularly receive inside information about the companies that they invest in, and want to use that information to profit, but feel constrained enough by the securities laws that they won't just trade on it. But if they can donate to charity in a way that takes advantage of inside information? Well, that's a win-win.
Backdating, on the other hand, seems like an obvious and tempting explanation: You can't backdate a stock sale (if you sell after the stock drops, no one's going to pay you the pre-drop price), but you can donate stock after it drops and then, when you're doing your taxes months later, have a memory lapse about exactly when your donation occurred. But this answer may be ruled out by the Journal's methodology, which is based on reviewing investors' Form 4 and Form 5 filings. Those have to be filed fairly promptly after a transaction -- days, not months -- so if you are looking only at transactions reported on those filings, you will probably not get a lot of wildly backdated donations.
One further suggestion from Michael Stern on Twitter is that "many charities have a policy of selling any stock they receive," so "if the gift is large and the stock is illiquid, the charitable gift could be the reason for the subsequent drop in price."
Things happen.
Jefferies Lets Employees Choose When to Receive Their Bonuses. Timing Is Vital as Companies Set Bonuses, Spending Before New Tax Law. How the Carried Interest Break Survived the Tax Bill. Treasury Will Allow Fannie, Freddie to Retain Small Capital Buffer. Alphabet's Schmidt Hands Reins to Google Founders, New Leaders. Hedge fund chief Dalio questions value of tax cut. How Buying the Dips Made Them Disappear. Chinese Ride-Sharing App Didi Raises $4 Billion in New Funding. Conservation easements. Passive Fund Providers and Investment Stewardship. What Would It Take to Fix New York’s Subway? Museum of Selfies.
If you'd like to get Money Stuff in handy email form, right in your inbox, please subscribe at this link. Thanks!
This column does not necessarily reflect the opinion of the editorial board or Bloomberg LP and its owners.
Matt Levine is a Bloomberg View columnist. He was an editor of Dealbreaker, an investment banker at Goldman Sachs, a mergers and acquisitions lawyer at Wachtell, Lipton, Rosen & Katz and a clerk for the U.S. Court of Appeals for the Third Circuit.
For more columns from Bloomberg View, visit https://www.bloomberg.com/view.
©2017 Bloomberg L.P.
RECOMMENDED FOR YOU
POPULAR