Saturday, August 20, 2011
The following ratio chart says in a picture just how severely undervalued the gold stocks are in relation to the price of bullion.
You might recall that as the credit crisis erupted in the summer of 2008 with the failure of Lehman Brothers and subsequent meltdown of other large financial firms, stocks and commodities plummeted as the Yen carry trade unwound and deflationary fears escalated.
The rumors began to circulate as the crisis deepened that the Federal Reserve was getting ready to implement some unorthodox policies in an attempt to stave off the deflation and prevent a credit market lockup. That was when the phrase, “Quantitative Easing” first began making the rounds in the markets.
So confident were traders that the Fed was not going to sit idly by while the entire US financial system imploded that they began covering shorts and bidding up the price of equities and commodities ahead of what was then announced with certainty in November of that year.
Look at the chart and you can see that while the HUI/Gold ratio is not at the depths it reached during the peak of the credit crisis, after today, it is now at levels last seen just before the QE1 was actually implemented.
If you look across the chart to the left and note the blue line reaching back to the end of 2001, you can see that the mining shares relation to gold had actually plummeted to levels last seen near the VERY BEGINNING of the now decade + long bull market in gold. That is how cheap the shares had become to gold bullion in the third quarter of 2008.
Quite frankly, we are not all that far off from levels seen at that time with today’s round of selling across many of the mining shares. This has occured in spite of the fact that we have spent more than $2.5 TRILLION between QE1 and QE2 and seen the gold price leap from $700 in November 2008 to over $1800 as of today’s close.
Based on this fact alone, either the price of gold is going to have to plummet quite sharply from current levels or the shares are going to be at levels last seen in relation to the price of gold bullion when the bull market in gold began and that was at a price level of $270-$290 gold. While gold may correct at any time from its strong rally, why in the world would the gold price be the one moving lower given the current state of the global economy and particularly with all the implications regarding the integrity of the currencies of many nations in the West? The only way to correct this glaring imbalance is for a very sharp and incredibly swift rally in the mining sector.
I have been detailing the ratio-spread trade being employed by the hedge funds across the mining sector for some years now. As a trader I understood the rationale behind that trade – why risk issues related to mines such as management changes, labor disputes, environmental lawsuits, hostile laws and regulations, aging mines, etc. when you can get leveraged exposure to gold by using the ETF’s instead. One could buy the ETF or Comex gold and sell short some of the weaker gold shares and laugh all the way to the bank. As an investor myself in the gold shares, I was not happy to see this trade but I could understand it.
I must say that it has now reached a point where those who ply the trade are treading on very thin ice. There is no longer a fundamental case that can be made to justify the trade at current levels of the shares in relation to the price of gold. Smart traders will run a trade as long as they can but they will leave the last 20% for the foolhardy and the novices who think that they are clever enough to pick exact tops or bottoms in markets. The pros do not practice such stunts – if they do, they do not remain pros for much longer but soon become, “EX” traders.
The first hedge funds out the door of this trade are the ones who are going to make the money in it. They will take their profits and they begin looking for another golden goose that may lay yellow eggs for them. The ones that stick around and think they are quick enough to exit before getting run over by all the rest of the funds in such a crowded, lop-sided trade will be the ones who overstayed their welcome and end up losing big when they could have retired the trade with decent profits had they not been so mindlessly greedy.
The first inkling we get of any acquistions by a major gold mining outfit of a quality junior and it is game over for this trade.
Wake up hedgies – the trade to have been in for the last few months was to be long the miners and short the broader markets. There was your money maker. How many times on this site did we mention this trade and urge you to get out of the wrong one? Stop relying on your damned computers and do some thinking and analysis on your own.
For more from Trader Dan check out his blog at www.TraderDan.net
My last update on the long-term performance of the Dollar, Gold and Silver was posted on April 25th, just four days before the S&P 500 set its interim high (click to view).
Here now is a fresh look and the world's reserve currency and the two metals, starting with a 20-year timeline for the Dollar and Gold. Since late April, the Dollar has been in a narrow range with yesterday's close down 0.2% from our last inspection. Gold, in contrast, has risen 18.59%.
What about Silver? It has been more volatile than Gold, but over the same timeframe, it has a nearly identical gain of 18.11%.
The next chart starts the timeline in 1980, the earliest date my source, Stockchart.com, supplies data. Gold and Silver data are available across the complete timeline, but the Dollar tracking begins in mid-1983.
By starting in 1980, we see the downside of the historic bubble in Silver that peaked on Silver Thursday, March 27, 1980.
www.RealTerm.de via Wikipedia
The circumstances surrounding the 1980 Silver Bubble, nicely summarized in this Investopedia article, were unique in modern history. In nominal terms, Silver is back in the territory of the 1980 bubble, but in real terms, and in light of the global financial distress, precious metals will doubtless remain attractive to many investors.
What about the Dollar? As of yesterday's close, the Dollar is down 55% from its 1985 peak. I won't hazard a forecast as to where it's headed, but I wouldn't be surprised to see the range of the past two years set the boundaries for the next several months.
I warned that the rally of the last week was nothing more than a snapback move from oversold conditions.
Indeed, these kind of sharp moves are normal for market collapses. As I’ve noted, during the two months of October-December 2008 we had three sharp rallies of 11%, 17%, and 20% respectively. Every time the market rolled over hard soon afterwards.
We’re seeing the exact same sort of moves today. Indeed, this last snapback rally was about 10%. And the market has rolled since rolled over hard. Whiping out nearly all of the gains post the Fed FOMC meeting in just two days.1,175 didn’t offer any support for the S&P 500. By the looks of it 1125 won’t either, which leaves the next place for a likely bounce at 1,075 or so.
As I’ve pointed out many times, Crashes follow a well known pattern. That pattern is:
1) The initial drop
2) The snapback
3) The REAL Fireworks
This latest collapse is following this perfectly. The bounce is now ending and we’re going into the REAL fireworks.
The reason I’m writing this is just to convey a personal financial SHTF situation that happened to us, and describe how my “preps” beforehand helped me sail through the experience with minimal impact. Just to be clear, this isn’t an exciting shoot-the-looters story, it’s just a tale of how the “boring” aspect of preparation are still important to ensuring stability.
My background: I’m a businessman. I earned my undergraduate degree and then an MBA, and have worked since then in professional services. In my spare time I’m also a gun nut with over 300 hours of tactical / self defense firearms and other fighting training, and am a serious shooting competitor. I suppose I became a “prepper” when I was a kid living in Miami and watched the riots in Liberty City (1980) and Overtown (1982) unfold on TV. I vowed even then that for the rest of my life I’d be ready for any type of calamity. But I didn’t get serious about it until 9/11 which left me stuck on the other side of the country from my wife.
After 9/11 I’d often visit “survivalist” forums (you know the ones). Although full of a lot of hot air, the forums did provide me with some useful things such as the idea of building a priority grid: the matrix where you sort out the most high-likelihood, high-impact events and prepare for those first. During my long flights I would work on the grid and eventually saw that my #1 priority was to prepare for a recession / layoff. Dang, and I had wanted so much to prep for an EMP strike. Oh well. But how to prepare? I’d weathered several recessions before, and had never been laid off in my life, so I had to think a lot about what it would mean, what the impacts would be to my life. And, how could I mitigate those impacts? I put together two lists to deal with this potentiality: stuff to buy and stuff to do.
· Stuff to do:
o Pay off all debt and save up cash for 6 months of expenses.
o Write down on paper what an “emergency budget” would be. It stripped out all nonessentials like lawn service, cable TV, restaurants, movies in theaters ,etc. And I was sure to go through it with Mrs Stryder to make sure we both knew what to expect and agreed to it BEFORE anything happened.
o Always be doing a job search. Reach out to networks, contacts, former clients, etc.
o Plant a garden
o Raise chickens
· Stuff to buy:
o Food storage, starting off with 30 days, built out gradually. I got to 120 days. I’d LOVE to have a year’s supply… still working on that.
o Water storage containers: started off with 7 gal water cans, would buy one a month, fill & store in dark area. Eventually Mormon family next store told me they had a lead on cheap 55 gal barrels & I got one of those. Approx. 3 weeks of water stored now, not including water heater + whatever we could store in Rubbermaid tubs given notice
o Energy production: my idea was to get small scale solar panels to reduce electricity costs during a layoff …. Never got around to doing this, the cost:benefit ratio was too high.
o Security: guns were already taken care of, as I suspect they are in any self-respecting “prepper’s” home. I took over 300 hours of self defense / tactical firearms training as well, in addition to edged weapon and mixed martial arts fighting. Also hardened home with better locks, security system etc.
Job Situation: bankruptcy and layoff
Fast forward to 2008. There were strong indicators in the Fall that my firm was headed for bankruptcy, and we employees knew it. So, I started to both “up my preps” as well as seriously look for a job. My company was laying off in droves and within six months, 75% of the company had been let go. I was still there in Summer of 2009, one of the last people left in the firm. I tell you it’s an odd feeling to be the one to turn out the lights in a corp. you helped build.
I started job searching in the Spring 2009, and had my first interviews before my official final day, which enabled me to credibly say in my first interviews that I was still employed. This was key as it was 2009 and it was the worst job market in almost 10 years, in a state (Oregon) with the 2nd highest unemployment rate in the country…. Not a good situation so I had to maximize every point of leverage I had. When I got “the call,” I was 100% mentally ready and prepared for it due to all my “preps.” I can’t say it felt good to be let go from a place I worked hard to create value in, but I had faced reality long before, so that when the time came it just felt like an emotionless business transaction.
From that point onward I put my job search into high gear, and put the whole emergency budget into effect. Fortunately my company gave me two month’s severance pay as well as all my unused PTO (six weeks! I told you I worked hard there…) so I made it my goal to not tap into my emergency fund. It became like a game for us: I took on the grocery shopping duties, always looking for the best deals, and we had weekly challenges to see how little gas we could use. I’d ride my bike to the store when possible and Mrs Stryder took the bus to work. We’d also shop at “that store” in “that part of town” where “those people” normally shop. Former colleagues of mine – who were themselves out of work – in contrast shopped at Whole Foods. I showed them how much cheaper it was to shop elsewhere but they still managed to rationalize spending 50%-100% more on groceries just because they like the decor. Whatever.
Each day I just kept myself busy, with a schedule. I devoted 4-5 hours of focused time to the job search and the rest of the time was spent on other worthwhile activities like shopping, tending the garden, home repairs, reaching out to friends & family, etc. Having productive activities each day enabled me to keep from feeling down and playing the useless “what-if” mental game.
Within two weeks of my last day, I had my first job offer. It wasn’t a place I really wanted to work in, so I held off committing to see if I would get any other offers. I had this leverage since I knew that I could survive / get by for 9-12 month before NEEDING a job. So I waited, and within three more weeks, I had two more job offers in hand that paid more, and better suited to me. It felt good to not have to take a job I didn’t want just because I needed a paycheck.
Lessons learned: Debt Reduction and Mindset
When I drove to my first day of work at my new job, I thought, “wow, my plan really worked!” OK sure I wasn’t in a life or death LA Riots type situation but … damnit we it was a real SHTF event for us, and we got through it with minimal impact, due in no small part to the preparations we had made.
When I first got out of B-school in ‘99, my mindset was way wrong, having bought into the image that “I have an advanced degree from a top school and work at a top firm. Therefore I must live in a ritzy neighborhood, drive a new car and belong to the country club, and golf every weekend.” I realized after some years that that just wasn’t me, and it didn’t jibe with my desire as a prepper to be secure & safe, and so I changed my mindset.
I switched from being a conspicuous consumer to being a saver, and focused on “reducing fixed costs” in accounting-speak. My work colleagues couldn’t & still can’t understand why I drive a 10 year old car, and live in a more affordable neighborhood away from the city. Whenever they ask, I answer honestly, “because it’s cheaper.” And that answer is almost always met with stunned silence, or some rationalization of why spending more money on a newer car or being closer to the city helps me enjoy living now. Ummm, I kind of enjoy my life actually!
So, Mrs. Stryder and I have long been focused on saving money and realized the goodies we normally enjoyed (such as maid service, cable TV, etc) could go away at the drop of the hat. And because I had socked away a good amount of $$, and because I was on top of things, the impact to our lives was minimal. Despite all that was going on: unemployed for the first time ever, terrible national economy, worse local economy, stock market crash, bank nationalizations, TARP, QE 1 & 2, etc., I slept well every night because I knew we’d be OK. And that last sentence is to me what the value of being prepared was.
Mindset really is key. But what specifically did that mean for us in this case? It meant we simply had it in our minds that we would NOT be put down by this layoff. We knew who we were, and that this bizarre set of circumstances was just a bump in the road of life. Having the right Mindset helps you adopt a frame of mind that you keep with you daily. You thus train your mind to see opportunities and possibilities – and take advantage of them – when you otherwise may not have.
What I would have done differently
Honestly, I don’t know what else I could have done. I guess the only other thing I might have done in hindsight was to not be part of the big Obama Gun Buy of 2008. I spent a lot of $$$ on that. But on the other hand, I wound up getting all the things I had planned to anyway for “preps,” just earlier than I had planned.
Info that helped me along the way
· Financial: Millionaire Next Door, Dave Ramsey radio show. Rich Dad Poor Dad was OK but you can sum up the entire book in about a paragraph.
· Real world survival in an economic decline: FerFAL of course!
· Mindset: Listening to Katrina (“Keep Moving Forward”), Cody Lundin’s 98.6 Degrees and When All Hell Breaks Loose for his phrase “Party On”
· Gardening: Square Foot Gardening, Jack Spirko’s podcast.
"Dr. Doom," that is — also known as Marc Faber, the Hong Kong-based investment manager, author, and publisher of "The Gloom Boom & Doom Report," his monthly musing about the state of global economics and geopolitics.
Faber is to financial-market optimists what the Grinch is to Christmas. He doesn't often like what he sees, and nowadays he finds even less to like about the world's economic situation than he did in 2008 — as if that wasn't bad enough.
"Financial conditions are today worse than they were prior to the crisis in 2008," he said in a telephone interview earlier this week from Thailand. "The fiscal deficits have exploded and the political system [in both the U.S. and Europe] has become completely dysfunctional."
Certainly, the unprecedented global stock market volatility in this hot August, including Thursday's rout, suggests that investors and traders alike are looking for someone, somewhere, to take the wheel.
Pin that against a backdrop of fragile economies, inflationary government policies, high unemployment, social and income disparity, military actions and geopolitical tensions in the Middle East and Asia, and you get a good picture of how Faber sees the investment map.
Faber (pictured left) doesn't take a contrarian stance in the strict sense; it's more of a constant vigilance — capital preservation over capital appreciation — so that one can live now to fight for investment gains another day.
"The way I look at it," Faber said, "I am ultra-bearish about everything geopolitically. In an environment of money printing, we have to ask ourselves, how do we protect our wealth? ... Where do we allocate the money?
Good question, but in fact a fairly straightforward one if, like Faber, you believe that Federal Reserve policy is stoking speculation over savings and debasing the U.S. dollar, hyperinflation is a real possibility, the stock market's recovery since 2009 has favored the rich and powerful, cash is trash, and gold and land in the countryside are the only true safe havens.
"The Federal Reserve is a very evil institution," Faber said with characteristic bluntness, "in the sense that they punish decent people who have saved all their lives.
"These are people who don't understand about stocks and investments," he added, "and suddenly they are forced to speculate."
Speculation is the opposite of investing — of which there is little of nowadays from the corporate sector, let alone government and retail stock buyers. Corporations are instead hoarding cash out of concern that slow global economic growth will slam profits.
Such a miserly attitude can become a self-fulfilling prophecy. Faber noted that corporate earnings will likely disappoint stockholders across the board, including commodity shares, with the exception of traditional defensive sectors such as health care, consumer staples and utilities. (more)
I was just a toddler, so I couldn't fully appreciate the next-generation Camaro that had just come out or the release of the new Pontiac Firebird Formula.
But of course, very few remember 1973 as the year of the Firebird or Camaro. That's because something else was brewing that would push the U.S. economy off a cliff.
An organization that most Americans had not yet heard of called the Organization of Petroleum Exporting Countries (OPEC) was about to flex some muscle, and punish the U.S. economy.
OPEC Tries to Get Revenge on AmericaIn 1973, the U.S. government re-supplied the Israeli military during the Yom Kippur war. The decision-makers at OPEC didn't like that one bit. So they decided to get even.
As payback, they significantly cut back the flow of oil to the United States.
This cutback in oil production from OPEC lasted until March of 1974. This, along with other factors, helped to slow down our economic growth while inflation soared. Up until that point, economists had said "high prices" and "sluggish growth" were nearly impossible.
But there it was: a new phenomenon known as stagflation.
With oil prices rising, corporations had to pay more to transport their goods. They had to raise prices to cover transportation costs. Suddenly everything Americans bought cost more − practically overnight.
The economy went south. Corporate profits slowed, and stocks went into a two-year bear market. Companies also had massive layoffs, and unemployment rose to 8.8%.
Meanwhile, the new fiat dollar slumped in value.
All this happened just because some oil bigwigs decided to decrease our oil supply. After all, prices only rise either because demand increases or the supply decreases (or both). In this case, it was the decreased oil supply.
These problems persisted for quite some time, too. You see, even though the oil embargo was over in March of 1974, gas prices continued to soar until March of 1981. In today's dollars, the peak price was equivalent to $3.41.
Back in the 1970s there wasn't much the average person could do to fend off the effects of stagflation on their personal finances. Americans either had to sit in cash or watch their stock portfolios bleed money. (more)
If you want to know what the rest of the world is thinking, get the Economist, which is known for its insightful articles and analysis of politics, business, finance, science and culture. Edited out of London with local U.S. editions, every issue is filled with lively writing, thoughtful analysis and amusing captions. Most of all, The Economist is not afraid to state an opinion.
read it here
I know this headline just sounds too good to be true and nobody could blame you if you stopped reading right here.
Consider this though: It is said that a penny saved is a penny earned. It sounds clich but it's accurate. If your stock portfolio is down by $1,000, you have to earn an extra $1,000 to bring your net worth back to even. So a penny saved really is a penny earned.
Now ask yourself; How much money did I lose since the May highs or the beginning of the year? To make up for the loss, you'll have to work extra hours. But what if you didn't lose any money? You would have preserved your purchasing power and be able to buy at lower prices (if you so chose).
In other words, knowing when to sell a position is equally - if not more - important than knowing when to buy. Buying low and selling high (or the opposite if you are shorting the market) require serious insight about the market.
Here is one simple strategy that protects your profits and helps you identify winning trades without having a clue of what the market - whether Dow Jones (DJI: ^DJI), S&P (SNP: ^GSPC), Nasdaq (Nasdaq: ^IXIC) or Russell 2000 (Chicago Options: ^RUT) - is going to do next.
Below you will find some actual trade recommendations. The number in front of the trade recommendation in the article corresponds with the number in the chart. Red numbers were sell signals, green numbers were buy signals.
Blind as a Bat but On Target
Bats have poor vision but they always find their target simply because they work effectively with what they've got. Nobody has 'stock market radar vision,' so we too have to work with what we've got. We need to identify an edge and exploit it.
Every person may have a different 'edge.' My edge is knowing the S&Ps hot buttons - levels that tend to force the S&P to change trends or confirm a trend (the red and yellow lines drawn in the chart show some hot buttons).
Imagine a car driving on a long road with a few traffic lights. If the car is going to stop, accelerate, or make a U-turn anywhere on the road, it will most likely be at a traffic light. If the S&P is going to reverse, it will likely be at support/resistance.
I spend much of my work hours identifying support/resistance levels. Trend lines, Fibonacci, pivots, sentiment, prior highs/lows, etc. are important tools to identify such hot buttons. (more)
When Capt. Mark Olvera, who runs the LAPD’s Newton Division, spotted a beefy man with a gold chain around his neck the other day, he worried the guy might become a victim. “He looked like he could take care of himself,” Olvera said. “But that’s a couple thousand dollars … on him.”
So far this year, gold chains have been snatched from the necks of at least 110 people during street robberies in Olvera’s South Los Angeles division. His officers are circulating fliers and showing up at churches and community centers to warn residents to stop wearing gold in public, or at least to tuck it under their clothes.
“It’s easy money. It’s easy to get, and it’s easy to get that gold fenced. You see all the ads, ‘We buy gold,’” Olvera said. “They sell it, melt it down and there’s no regulation.”
Gold jumped to a record $1,818.90 an ounce Thursday, nearly double its value two years ago. That’s made simple gold chains, watches and rings worth hundreds or thousands of dollars.
In downtown L.A.’s jewelry district, a series of brazen store robberies has created an air of tension. Stern-faced security guards stand outside some shops, arms crossed, pistols on their hips.
At 7th Street and Broadway, Bahram Zendedel was perched on a stool outside his store, Triplets Jewelry, watching every passing car with a gimlet eye.
Zendedel said he has been robbed twice in the last six months because of skyrocketing prices of gold, silver, platinum and other precious metals — traditionally safe-haven investments in uncertain economic times.
In one case, he said, a robber posed as a customer — trying on a gold chain, a gold watch and a gold bracelet. He then ran off with all three items, which Zendedel valued at $65,000. The merchant said he gave chase, but wasn’t fast enough.
Since then, Zendedel has closed one of the store’s two entrances and he’s opening two hours later each morning, hoping that busy streets will discourage theft. He also stays glued to his stool out front.
“That’s why I’m sitting outside,” Zendedel said. “I have to watch any cars that come by, looking for gang members.”
In some cases, the robbers are turning violent. On Tuesday night, three men robbed a Koreatown jewelry store and beat a security guard with a hammer. Last month, robbers stormed into 21st Century Jewelry in downtown L.A., doused the owner with pepper spray and made off with thousands of dollars’ worth of gold-plated jewelry.
Police are recommending that jewelers keep display cases inside their stores and hire extra security. The owner of 21st Century said he wishes he could hire guards, but he can’t afford it. He declined to give his name, saying he didn’t want to become a target.
“Some stores have been robbed two, three times,” he said. “I believe it’s possible to happen again.”
The LAPD has investigated 10 smash-and-grab robberies in the downtown jewelry district so far this year, said Lt. Paul Vernon, who oversees the LAPD’s Central Division detectives unit. They’ve made about a dozen arrests.
“It’s primarily based on the price of gold, because we didn’t see this as much before last year,” Vernon said.
Criminals are also targeting cash-rich gold buyers, setting up appointments to sell gold but then robbing buyers at gunpoint when they arrive, police said.
Erin Stevenson of Long Beach, who organizes gold-buying parties, takes a series of precautions to avoid becoming a victim.
Stevenson’s events are something like Tupperware parties in reverse. People come to sell their gold jewelry. Stevenson values the items, buys them and gives the party host a cut of the action.
Some nights, she walks away with thousands of dollars in gold. She takes care not to advertise that fact.
“We don’t do self promotion,” she said. “I don’t have on my car, ‘I buy gold.’ Why would you do that? You could be followed. The only people who know about it are the people I’m buying gold from. I always discourage the party hosts from putting it on Facebook. You don’t put fliers around town. You don’t want an unknown person showing up at your gold party.”
What makes the crimes even more profitable is that stolen gold can be quickly unloaded at gold-buying shops, the evidence melted into bars before police can track it down.
About $1.53 billion worth of jewelry and precious metals was stolen in the United States in 2009, the most recent year for which data is available, according to the FBI. That was a 25% increase from 2006.
Meanwhile, police departments around the country are reporting an increase in gold-related crime. Some local jurisdictions are trying to make it harder to fence stolen gold.
Officials in Cherokee County, Ga., passed an ordinance in May that requires gold buyers to fingerprint anyone selling gold and send their names and personal information to the sheriff’s office.
“Gold and jewelry don’t have serial numbers. It’s very easy to sell,” said Cherokee County Sheriff’s Lt. Thomas Pinyan. “This system will show us who the people most frequently selling gold and gems in Cherokee County are. And those could be people we are wanting to investigate.”
In L.A.’s jewelry district, Zendedel hopes his extra security measures will make his store less of a target. But he thinks gold-related crime will continue to grow as long as an uncertain economy keeps people out of work — and as long as the price of gold keeps soaring.
“People need money right now, and the price of gold is high,” he said. “There’s no business. There’s no jobs. Gas is expensive. Food is expensive. Clothing is expensive.”
Moody's Analyst Breaks Silence: Says Ratings Agency Rotten To Core With Conflicts, Corruption, And Greed
From 2006 to 2010, Harrington was a Senior Vice President in the derivative products group, which was responsible for producing many of the disastrous ratings Moody's issued during the housing bubble.
Harrington has made his story public in the form of a 78-page "comment" to the SEC's proposed rules about rating agency reform, which he submitted to the agency on August 8th. The comment is a scathing indictment of Moody's processes, conflicts of interests, and management, and it will likely make Harrington a star witness at any future litigation or hearings on this topic.
The primary conflict of interest at Moody's is well known: The company is paid by the same "issuers" (banks and companies) whose securities it is supposed to objectively rate. This conflict pervades every aspect of Moody's operations, Harrington says. It incentivizes everyone at the company, including analysts, to give Moody's clients the ratings they want, lest the clients fire Moody's and take their business to other ratings agencies.
Moody's analysts whose conclusions prevent Moody's clients from getting what they want, Harrington says, are viewed as "impeding deals" and, thus, harming Moody's business. These analysts are often transferred, disciplined, "harassed," or fired.
In short, Harrington describes a culture of conflict that is so pervasive that it often renders Moody's ratings useless at best and harmful at worst.
Harrington believes the SEC's proposed rules will make the integrity of Moody's ratings worse, not better. He also believes that Moody's recent attempts to reform itself are nothing more than a pretty-looking PR campaign.
We've included highlights of Harrington's story below. Here are some key points:
- Moody's ratings often do not reflect its analysts' private conclusions. Instead, rating committees privately conclude that certain securities deserve certain ratings--and then vote with management to give the securities the higher ratings that issuer clients want.
- Moody's management and "compliance" officers do everything possible to make issuer clients happy--and they view analysts who do not do the same as "troublesome." Management employs a variety of tactics to transform these troublesome analysts into "pliant corporate citizens" who have Moody's best interests at heart.
- Moody's product managers participate in--and vote on--ratings decisions. These product managers are the same people who are directly responsible for keeping clients happy and growing Moody's business.
- At least one senior executive lied under oath at the hearings into rating agency conduct. Another executive, who Harrington says exemplified management's emphasis on giving issuers what they wanted, skipped the hearings altogether.
Harrington's story at times reads like score-settling: The constant conflicts and pressures at Moody's clearly grated on him, especially as it became ever clearer that his only incentive not to "cave" to an issuer's every demand was his own self-respect.
But Harrington's story also makes clear just how imperative it is that the ratings-agency problem be addressed and fixed. The current system, in which the government anoints organizations as deeply conflicted as Moody's with the power to determine sanctioned bond ratings is untenable. And the SEC's proposed rule changes won't fix a thing.
Harrington's story is startling, both in its allegations and specificity. (He names many Moody's executives and describes many instances that regulators and plaintiffs will probably want to take a closer look at.)
Given this, we expected Moody's to quickly denounce Harrington as a disgruntled ex-employee and reaffirm its confidence in its ratings processes and integrity. Instead, Moody's did not return multiple calls seeking comment. (more)