April 27, 2010

The Ultimate Hedge

Filed under: Commentary — Tags: , , — zelator @ 4:32 pm

It is a brilliant idea – instead of just investing in one thing…which may lose money…you invest in a whole bunch of things.  Odds are good that if you pick things that are unrelated, like equities and futures, that you won’t lose both positions.  Hedge funds exist mostly because of traders’ competency in picking these various investments, and if they pick right, they get to drive a Lotus.

If you like to gamble, as I do upon occasion, you might enjoy roulette.  It’s a fairly basic game – rotating wheel, little ball plunks into the slot and there you go.  You don’t have to pick a number, you can bet on all kinds of things!  You can, for example, bet that the ball will land in a red or a black slot.  If you win, you get paid 2:1!  An amusing diversion, but certainly no way to make a bundle.  If you think, for example, that you can HEDGE by betting both red and black, you will be in for a surprise.  Not only will you break even on red and black, but you will LOSE if the ball falls into one of the two green slots, marked with a single and double zero.  That is how casinos work – the odds are stacked against you before you even walk in the door.  That is not how Wall Street works – it is the exact opposite.  The odds are already stacked in the favor of the players, who – except in the most unusual circumstances – can NEVER lose.

So, how does one become a player in this ‘other’ casino?  One thing I can tell you for certain is that there is a big buy-in at the Wall St. table.  Most private ‘wealth managers’ won’t even talk to you unless you can plunk down five million bucks in cash, so if you were thinking of playing with a few hundred dollars, you might have better luck in an actual casino than tapping in to the endless stream of wealth that is American capitalism.

So, what have we just witnessed in the Senate conference room?  CEOs of various investment banks on one side of the table, Senators on the other – lobbing accusations of market fixing and misrepresentation.  The current scheme is a brilliant one: package up worthless debt instruments, and sell them to investors.  If you get in early enough (like any good Ponzi scheme) you might actually make a decent return on your dubious investment.  But, once the value of houses plummet, if you are left holding the hot potato – you are screwed.  

This is where the fun begins.  If you are a humongous bank, like Goldman Sachs, you have nothing to worry about.  Since you already have payed out huge sums of money to every politician imaginable, you can have the rules changed so that the potato never ends up in your hands.  One of the ways of doing this is ‘shorting’, which is, of course, betting that the value of the worthless securities that you just sold to some investor will actually go DOWN.  But wait – this isn’t a roulette wheel.  Unlike a casino, you can win both ways!  Also, unlike a casino, that gives away free hotel rooms to the people who lose the most money, if you do happen to lose in both directions (like Citigroup did) you have the full faith and credit of the United States of America to bail your ass out, and set you right back on the path to fleecing investors.

That, my dear reader, is what capitalism is.  It is the cold-hearted hand of political influence, coupled with insatiable greed.  After all, if you were allowed to make the rules in the casino, you would almost certainly make sure you won at least a little something everytime you put money on both red and black.

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