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The End of an Investments Era

 Until last year it was normal for the traders to practice short selling (defined as selling share which you do not own but you will supply in a maximum of a period established by contract, obviously by buying them later). Or to sell the mortgages packed in thousands for a hefty price based on average yields. Or to loan to an Americans family so that they were supposed to pay in installments in one year more than they earned. Or, as was mentioning some time ago, to value higher and higher the shares of the investment banks, which measured their own assets.

Well, that era is gone. The Congress has barely approved today a substantially modified package of about $ 700 billion to support the banking system, the consumers and the banks themselves, but with big footnotes. And what was inimaginable for Wall Street’s darling, Lehman Brothers, is today a deceiptive story which most of the investors have accepted and even supported through shares buying.

Today this famous bank is gone, imploding at a rate unseen from Enron and Worldcom and Arthur Andersen. Nobody dares to mention the word “fraud” in junction with the investments banks – after all, it was just a bad timing, when all the mortgage markets have collapsed all together. Or was it? I think that this is just a nice way of hiding the truth. In fact, we at are sure to bet that in the books that will be written about the worst collapse after the 1929-1933 Wall Street crisis, the authors will mention a few things which will put your thoughts into action.

For example, they should mention that the investments banks were ruled by the Basel II valuation rules. These Swiss accounting for banking policies allowed the banks to value their assets (= their investments) at fair value. Which is a couple of words a little bit odd when you think what it means – that the banks could use their own judgement to measure their own assets. And the banks were of course ruled by managers who were fed huge stock options and performance bonuses, which were based on the profits. And of course, for an investment bank an important source of profits comes from their investments value increasing, so… do you see the pattern?

For me, this collapse is a different kind of Enron. As one famous investor once said, markets are governed by the equilibrium between greed and fear. And investment banks such as Lehman Brothers, Goldman Sachs (or Gold, Man, Sucks! oh yes) or Merril Lynch were full of greed and forgot to respect the basic rules of prudence, which say that a bank is worth its word for it. In our case, when you have to pay back the investments, they are worth how much you said they were worth, even overvalued. But why wonder, then? When you see such an under-regulated market sector such as the banking one, where all is about the money, no wonder that such terrible hurricanes storm them out…

Of course, no small investor could have foreseen this dramatic turn. But the small investors can be prudent too and when the signs of the storm appear (as happened last year, when all the banks started to write off billions of dollars of bad assets), he/she can sell. And this is of course an elegant exit, which most of the investors regretted by not taking in due time. Or, to quote Warren Buffet, the oracle of Omaha, “the mortgage derivatives are weapons of mass destruction for the stock markets”. Rhight again, huh?

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