Wednesday, November 26, 2014

Justice Department targets J.P. Morgan Chase forex business in criminal probe

A few years ago I commented on the fact that the leverage upto 1000 times for forex transactions was a sure bet to lead to trouble. And look at that here we are investigations galor. Aivars Lode

J.P. Morgan Chase & Co.’s foreign-exchange trading business is the target of a criminal probe by the U.S. Department of Justice, said a company filing with the SEC on Monday.

The bank is also under civil investigation by U.S. banking regulators, the Commodity Futures Trading Commission, the U.K. Financial Conduct Authority and other foreign government authorities, according to the 10-Q filing with the Securities and Exchange Commission.
“These investigations are focused on the firm’s spot FX trading activities as well as controls applicable to those activities,” the company said in the filing. J.P. Morgan Chase said it continues to cooperate with all authorities and is in discussions with the Justice Department as well as regulatory and civil enforcement authorities “about resolving their respective investigations with respect to the firm,” the filing said. “There is no assurance that such discussions will result in settlements.”
J.P. Morgan Chase is the third bank to announce it’s under investigation over its forex practices in just over a week. Last week, Citigroup said the Justice Department, CFTC and FCA were looking into its FX program, and UBS said its FX business was under a Justice Department probe.

Continuing gold backwardation may cause a new financial crisis

Interesting perspective on gold. You know my thoughts on it's manipulation continuing gold backwardation may cause a new financial crisis. Aivars Lode

By Fraser Murrell
Antal Fekete {1} warned many years ago that a “permanent gold backwardation” would act as a financial black hole that would consume the entire global financial system. Subsequent “scholars” [2} found (minor) flaws in his argument. However (I believe) Fekete was right and that his warning is particularly pertinent today - as gold now enters its fourth year in (or near) backwardation.
First - some definitions. The GOFO (gold forward rate) measures the differencebetween the spot gold price and the forward (futures) price, measured as a percentage, quoted individually over 1, 2, 3, 6 and 12 months. GOFO is (a swap rate) paid by the gold owner, who puts up his gold as collateral to borrow dollars. If GOFO is positive (negative) respectively, then he will pay (receive) interest to get dollars and have his gold stored. Now if the owner of the gold immediately invested those dollars at the risk free rate LIBOR, he would have a total return of GLR = (LIBOR – GOFO) at the end of the lease period. The (implied) GLR stands for the Gold Lease Rate, which is the theoretical risk free return paid to the owner of physical gold for leasing it into the market. For later reference, I write this simple formula here in all its variations:
Now if GOFO is positive (negative) respectively, the market is said to be in contango (backwardation). The normal market state is contango (GOFO > 0 or GLR < LIBOR), because there are costs associated in holding gold over any period of time (storage, insurance, lost interest). Backwardation (GOFO < 0 or GLR > LIBOR) is (or rather once was) very rare and indicates that the market will pay a higher rate of interest to borrow gold than to borrow cash, despite the associated costs of holding gold. It usually indicates (short term) supply issues and a strong demand for physical gold for immediate delivery. However, when this demand cannot be met over a long time period, we get a “semi-permanent backwardation”, which the world has already experienced during the 1970’s after Nixon took us off the gold standard - and gold rose from $35 to over $800 before the backwardation could be broken. But if ever we get a “permanent backwardation”, then the demand for gold can never be satisfied and the value of gold tends towards the infinite, consuming the entire financial system (a black hole, as Fekete describes it). This means the total collapse of fiat currency, as has occurred previously in the Weimar Republic and Zimbabwe.
Now some “financial experts” (who have called Fekete a “pseudo-expert”) including Dr Tom Fischer with help from Bron Suchecki (Perth Mint) [2] , have claimed that backwardation represents nothing special and that it creates no arbitrage opportunity and so it has NO effect on the economy. However, their argument fails to understand the nuance of “fractional reserve bullion banking” whereby (in addition to buying and leasing physical gold) a bullion bank can create (out of thin air) and sell into the market gold certificates which carry none of the costs of holding physical gold The extra saving results in the arbitrage. To prove my point, I will consider three cases calling them Bullion Banks A (Fekete), B (Fischer) and C (Real World).
Bullion Bank A has physical gold stored and insured at an annual cost of X% and they enter a lease whereby the gold is physically transferred out and returned a year later at the lease rate GLR. They would therefore have a cash return of GLR on the lease plus the unpaid costs of X%, for a total profit of GLR + X% - which money they would not have received had they not leased the gold. Fekete claimed that this was an “arbitrage” profit, but Fischer correctly pointed out that because the gold is leased for that year, the owner has given up his right to sell that gold during the year (equivalent to an additional sale of a put option) which explains the extra amount received. However, Fischer then fails in logic by arguing from his own (special) case to a (general) conclusion.
Bullion Bank B starts with zero holdings and borrows money paying LIBOR, to buy physical goldand lease it into the market to receive GLR and receive GOFO on the sale of the gold a year later, thereby returning the bank to its original position (zero) except for the profit (loss) on the arbitrage. But there is no profit (loss) because his expense (LIBOR) equals his gain (GLR + GOFO), because LIBOR = GLR + GOFO and so there is no arbitrage. However, what Fischer is missing is the fact that in the real world, bullion banks (1) don’t generally buy and sell or even lease physical gold and (2) they instead create and issue certificates as a promissory notes for gold for which they do not have to borrow money, and (3) they sell more certificates than are covered by their own physical gold holdings, and (4) they can hedge their additional risk in many ways at cheaper rates than GOFO, and (5) not all Bullion Banks are totally honest (which point I will try to ignore, no matter how interesting).
My point is this - neither case A (Fekete) nor B (Fischer) accurately represent the real world and in any case you cannot prove a general principle from a specific example. That said, I will now show that the bullion banks can indeed create an arbitrage and then go on to discuss the implications of what it means if this arbitrage remains open indefinitely – which (I think) helps explains how the bullion banks have gotten us to where we are and what happens next..
Bullion Bank C holds an unknown amount of physical gold and engages in the normal business practice of “fractional reserve bullion banking” - whereby they create (out of thin air) certificates, sell (or lease) them as gold and hedge their exposure in the futures markets and elsewhere, using all sorts of fancy techniques. As a base case, the profit comes from creating the certificates and either (1) selling them receiving LIBOR and hedging the risk by paying GOFO for a total return of (LIBOR – GOFO) = GLR, or (2) by leasing them out at GLR and hence the return is exactly the same. Thus to make a guaranteed arbitrage profit, they do not even need gold backwardation (GOFO < 0) all they need is for (GOFO < LIBOR). Thus the lower GOFO goes, the greater the arbitrage and if gold goes into backwardation (GOFO negative), the arbitrage remains open for so long as LIBOR remains positive (perhaps indefinitely).
The next question is can and under what conditions do bullion banks make arbitrage profits in the opposite direction? Fischer correctly points out that if the banks buy physical gold, there can be no arbitrage, but if the banks buy back there own certificates, they need only pay what the sold them for (large joke just made) which is GLR = (LIBOR – GOFO). However this cost becomes an arbitrage profit when GOFO > LIBOR. Thus there exists an arbitrage whenever GOFO is either sufficiently large or small relative to the risk free rate LIBOR – and only when LIBOR = GOFO does there not exist any gold arbitrage at all.
Now all this makes perfect sense because (1) when there is high market demand for physical relative to future gold, the bullion banks can arbitrage by selling (expensive) spot certificates and buying (cheap) futures, and (2) when there is high market demand for future gold relative to spot gold, the bullion banks can arbitrage by buying back (cheap) certificates and selling (expensive) futures.
There is however one obvious risk in this business, namely that they get stuck with a full arbitrage book in a permanent backwardation – whereby they have sold (unbacked) gold certificates and the market never swings back into a contango to let them out. Indeed their worst nightmare would be if they sold a great number of certificates and a determined buyer (such as the Hunt brothers, or China) stood for and demanded physical delivery. Bear Stearns is rumoured to have collapsed in 2008 due to their massive short position in the silver. But since that time the banks have written themselves an escape clause, allowing (among other things) cash settlement upon default - thus reducing the need to chase physical metal to cover paper contracts. Today all they have to do is drop the price and then default on all outstanding contracts, thus escaping and making money at the same time! However the resulting scandal would probably close the market.
All of that said, my actual proof for the existence of an arbitrage rest with the fact that without a guaranteed return, the banks would not be in the business in the first place and would not have subsequently made profits every day for years on end without a single loss. And yet they are and they do, so QED – there is an arbitrage! Admittedly, the arbitrage comes from investor’s mistaken belief that “paper gold” is the same as “physical gold”, but because the banks have mitigated their risks, an arbitrage does in fact exist (at least for them). Having finally established this (important) fact, what then are the ramifications of it?
Firstly, there is incentive for the banks to run the gold price (or rather GOFO) up and down as often as possible so as to regularly open and close arbitrages and make profits on each swing. With this knowledge one can then predict which way the bullion banks will be trading because as a general rule, when they are selling (buying back) gold certificates the gold price will go down (up) respectively. But this subject is off topic and so I leave it to you to look at the charts, crunch the numbers and see what I am talking about.
Secondly, it appears that movements in GOFO and the actions of the bullion banks have a significant effect on the global economy. To understand this consider the size of the gold market. Each day (on Comex alone) around 500,000 contracts are traded, there being 100 oz per contract, with each ounce valued around $1,200. So there is around $60 billion of gold traded per day or around $15 trillion per year. I do not have the figures for all the other markets (London, Shanghai, Hong Kong, Singapore, etc), but when you add it all up, it should be obvious that the global gold market is big enough to influence (and perhaps dominate) any other market on planet earth.
Now look again at the GOFO and LIBOR charts and notice that GOFO leads LIBOR (by around three months) and not the other way around !!! Furthermore the sudden withdrawal of gold from the markets in Sep 2007, resulting in a plunge in the GOFO rates from over 5% down to zero (being caused by the unwinding of a massive gold arbitrage and the establishment of another arbitrage in the opposite direction) was probably responsible for the plunge in LIBOR rates from over 5% down to zero three months later, resulting in the current ZIRP (zero interest rate policy) worldwide. One can argue “chicken and egg” and more research is always needed, but it certainly appears that gold and its GOFO rate (backwardation or contango) lead global interest rate markets and thereby directly influence (or dominate) the global economy.
Thirdly, while geo-politics are beyond the scope of this note, there are reports of large and ongoing buying (by China and others) of physical gold and there are suspicions that this demand has been offset by both a reduction in the physical gold holdings of the bullion banks and by the selling of additional “paper gold” into the market. Although such market conditions (backwardation) encourage the selling gold certificates, there is always the danger of over-extension. Indeed, some reports suggest that there are now over 100 paper claims for every physical ounce of gold held. Furthermore, because a large proportion of the physical gold that backs the markets has been moved offshore (with cash used as collateral instead), the market has become ever more unstable and vulnerable to sudden collapse. Chaos theory tells us that “you never know which snowflake will cause the avalanche, the important thing is the degree of instability of the underlying state” and I would argue that the gold market is in fact unstable and moving ever closer to its “snowflake moment”.
In a “short term backwardation”, the mathematics clearly dictates that the bullion banks should arbitrage by selling certificates. But as the backwardation becomes “semi-permanent” - as it has been since 2011 - the market risks entering a negative feedback loop, causing the backwardation to become ever deeper. This is caused by investors stubbornly buying physical gold thereby removing the backing for the market itself. Announcements by the US Mint of “record sales” and “shortages” do not help.
One solution to breaking such a backwardation is to take LIBOR negative, which seems impossible, but this is strangely happening in Europe where banks are now charging customers interest to safely store their money. Other solutions are (1) to drive the spot gold price ever lower, in the HOPE of getting the spot price to stay below the futures price and thereby create a positive GOFO, and (2) to drive the gold price so high that investors stop buying and the gold hoarders start selling (or leasing), all with sufficient quantity so as to create a lasting contango.
This problem should be well understood by both the bullion banks and the Governments because they have already seen it once before in the 1970s. When Nixon ended the “gold standard” in 1971, there was a massive flight to gold and a “semi permanent” backwardation resulted. The gold price rose from $35 to $200 in 1974 and then the price was taken back down to $100 in 1976 (presumably in the hope of ending the backwardation). But this only caused a surge in demand which eventually took the gold price back over $800 in 1980. Inflation skyrocketed, requiring interest rates to be raised to around 20%. Finally, some sellers and leasers of gold appeared and the backwardation was broken, allowing for the normalization of interest rates and the economy.
But the same problem is repeating today and so far the response has been the same. From 2008 to 2011 the gold price tripled from $650 to $1,900. Over the last three years the bullion banks and Governments have tried to break the backwardation and normalize the economy by dumping huge amounts of physical gold and “paper gold” at the gold spot price. But they have failed, because although they have reduced the gold price from $1,900 back down to $1,200, they have not been able to create a lasting contango. Instead, the gold buyers and hoarders have dug in, bought everything and demanded more – which has only strengthened the backwardation.
Sooner or later, the bullion banks and Governments will run out of ammunition and they will be forced to step back and allow the market to do its thing. Which is to repeat of the 1970s – the worst of all economic outcomes – stagflation. Unfortunately, this is the consequence of all the money printing and while it can be delayed – it cannot be stopped. The gold price will eventually peak in the tens of thousands of dollars and unless the bullion banks unwind their short positions, they will either default or go bankrupt.
But the most serious outcome is Fekete’s vision of a “permanent backwardation” whence, unlike the 1970’s, the gold backwardation can NEVER be broken. In this case, the gold price tends towards the infinite, taking inflation with it. The gold lease rate GLR is also driven to infinity (by the market seeking gold) and LIBOR is dragged up with it under the relationship LIBOR = GLR – GOFO. But in this case there is no end - confidence in dollars is completely lost and gold goes into deep hiding (bid no offer). Under these circumstances we get a hyper-inflation and a total collapse of the fiat money system. Just like the Weimar Republic and Zimbabwe. Gold will then have (once again) reasserted its supremacy.
The world will then be divided between those who have gold and those who do not. War and chaos will reign until the poor countries accept the terms of the rich countries under a new world order using gold as currency. Somewhat ironically, this scenario was originally dictated in the US Constitution - but as Winston Churchill famously said “you can rely on Americans to do the right thing AFTER they have exhausted all other possibilities”. And so I think history will judge the period from 1971 (Nixon) to 2014 (?) as the era of American economic insanity.
Professor Antal Fekete is the pioneer of this argument, although his “colourful style” has often left him open to criticism. I would also like to thank Dr Tom Fischer whose criticism has got me to rethink the problem and then add support to Fekete’s work.

EU Believes Apple, Fiat Tax Deals Broke Rules

After a crisis, countries look for additional tax and tighten loop holes. Aivars Lode
By Tom Fairless
BRUSSELS—European Union regulators explained why they think tax deals granted to Apple Inc.  in Ireland and Fiat SpA in Luxembourg constituted illegal state support—the next stage of an investigation that could result in the companies paying huge sums in extra taxes to the governments concerned.
In documents released Tuesday, the EU laid out the reasoning behind its decision to open formal tax investigations in June. While the probes are in their early stages, a final ruling against the tax deals could result in back taxes being owed by Apple, Fiat, Starbucks Corp. and potentially other companies.
The announcements are likely to set off alarms for a swath of multinationals and funds operating in Europe, particularly those that, like Fiat, arrange their financing and treasury operations through Luxembourg, experts said.
"Taxpayers across Europe will be reviewing their affairs carefully in the light of this development to make sure they are robust to challenge," said Neal Todd, a partner with Berwin Leighton Paisner LLP in London.
In a hard-hitting letter to the Irish government published Tuesday, the European Commission, the 28-member bloc's central antitrust authority, said it had reached the "preliminary view" that tax deals struck with Apple in Ireland in 1991 and 2007 constituted state aid.

"The commission is of the opinion that through those rulings the Irish authorities confer an advantage on Apple," the letter said.

A spokesman for Apple said the company had "received no selective treatment from Irish officials over the years," and that its tax payments "in Ireland and around the world have increased tenfold" since 2007. "We're subject to the same tax laws as the countless other companies who do business in Ireland," the spokesman said.
At issue are the tax rulings, or so-called comfort letters, sent by governments to multinationals to give clarity on how a specific tax will be calculated. These would be illegal if they gave selective advantages to some companies.
The commission said it had specific doubts—based on an analysis of exchanges between representatives of Apple and the Irish tax authorities—about the methods used to calculate taxes payable by two of Apple's subsidiaries in Ireland: Apple Operations Europe and Apple Sales International.
AOE manufactures personal computers and provides other services to Apple subsidiaries in Europe, the Middle East and Africa, and ASI procures finished Apple products from third-party manufacturers and sells them to overseas distributors.
In its letter, the commission said the costs attributed to AOE appear to have been "reverse engineered" to arrive at a specific taxable income. The regulator also says that excerpts from conversations between Apple and the Irish authorities indicate the reduction of Apple's tax rate after a certain threshold "would have been motivated by employment considerations."
Apple employs more than 4,000 people in Cork, Ireland, where all its Irish subsidiaries are based.
Apple set aside about $12 billion for U.S. federal and state income taxes in fiscal 2013, on sales of $62.7 billion in the Americas, according to a filing with the U.S. Securities and Exchange Commission. The company, which doesn't break down revenue by country, set aside just $1.1 billion for foreign income taxes over the same period, on sales outside the Americas of about $88 billion. It reported foreign pretax earnings of $30.5 billion that fiscal year.The Cupertino, Calif.-based company paid less than €20 million ($25.4 million) in taxes in Ireland for each of the years 2010-2012 through the two Irish subsidiaries that the commission has focused on, according to the commission's letter.
Apple could be asked to pay up to $200 million in back taxes, said Heather Self, a tax partner at Pinsent Masons LLP in London. She said the company could also agree to pay a smaller amount to settle—or pay nothing if Ireland offers a robust defense.
The commission doesn't fine countries for providing illegal state aid.
An Irish government spokesman referred to previous comments saying Ireland was "confident that there is no breach of state-aid rules" in the Apple case.

That investigation is potentially more significant than the Irish probe due to the large number of funds and other companies that are based in Luxembourg and could be affected by future investigations, experts said. The EU's probe has also spread to Inc. 's operations in Luxembourg and other companies operating there, according to a person familiar with the matter.In a parallel development, the commission also published its letter to Luxembourg's government on Tuesday, saying it had reached the "preliminary" conclusion that a tax decision concerning Fiat amounted to state support for the car maker, and the regulator had "doubts" about the deal's conformity with EU law.
The EU's state-aid rules are meant to prevent governments from offering sweetheart tax or subsidy deals to companies that distort competition inside the bloc.
The EU has also said that it was seeking information from the governments of Belgium and the U.K. in separate tax enquiries. The EU said the documents requested from the U.K. related to its overseas territory of Gibraltar.

Tuesday, November 18, 2014

A High-Speed Trader Looks to Slow Critics

A High-Speed Trader Looks to Slow Critics. They do not provide liquidity; they are arbitragers of time and do not add value. Aivars Lode
By Bradley Hope
Jason Carroll helps run one of the most active trading firms in the world, accounting for more than 5% of U.S. stock transactions on most days.
But to a chorus of critics, his Hudson River Trading LLC represents everything wrong with modern markets.
Mr. Carroll is a high-frequency trader.
After years of operating out of public view, Mr. Carroll and his colleagues are now in the cross hairs of some regulators, politicians and investors who believe firms like Hudson River can gain an unfair advantage and manipulate prices using complex algorithms and superfast communication links to exchanges and other trading networks.
The Securities and Exchange Commission, New York’s attorney general and Federal Bureau of Investigation are among those investigating whether high-frequency traders violate market rules or break laws. Earlier this month, a Chicago grand jury handed up an indictment of a small New Jersey-based firm on charges of fraudulent and manipulative trading, in the first criminal case against a high-frequency trader.
High-frequency traders use their own capital to buy and sell securities, and their willingness to trade rapidly has made them an increasingly important market middleman. If a mutual fund buys shares of a blue-chip company like General Electric Co., for example, there is about a 50% chance it will trade with a high-frequency firm, according to Tabb Group, a Massachusetts-based firm that tracks the trading industry.
In his first interview about the business since co-founding New York-based Hudson River in 2002, Mr. Carroll said he and his colleagues have been unfairly cast as market villains. In their view, they simply used technology to supplant an expensive and inefficient system of floor traders and brokers.
“What we do is very hard to understand,” said Mr. Carroll, 37 years old, whose jeans and T-shirt wardrobe is more Silicon Valley than Wall Street. “Turning the tide of public opinion might be the next big challenge for our industry.”
Critics say the complex structure of markets is what allows high-frequency traders to flourish. Still, Mr. Carroll has aligned himself with industry executives pushing for a less complicated trading environment. Among those who have said markets should be simpler are Jeffrey Sprecher, chief executive officer of exchange operator Intercontinental Exchange Group Inc., and Brad Katsuyama, CEO of trading firm IEX Group Inc.
Mr. Carroll acknowledges he wouldn’t be speaking out if it wasn’t for “Flash Boys,” the best seller by Michael Lewis published on March 31. The book argued the markets were rigged to benefit firms such as Hudson River Trading, as well as big banks and exchanges.“I truly believe investors would feel much better if there was a simple system,” rather than the byzantine collection of order types and fees that drive much modern trading, Mr. Carroll said. “Let’s focus on getting rid of everything that incentivizes the creation of a system that’s more complex than that.”
As the backlash that accompanied the book intensified, Mr. Carroll wrote a memo to employees urging them to keep their heads high.
“You should be incredibly proud of what you’ve done and where you work, and your friends and family should think very highly of you for that,” he wrote.
The controversy was jarring for a firm that enjoys a light-hearted work environment.
When the U.S. stock market opens for trading, computers at its offices in lower Manhattan are programmed to play a clip of cartoon character Homer Simpson bellowing, “No time for that now, the computer’s starting!”
Next to screens showing information about market prices and the status of the company’s trading systems is a live video feed of the ping-pong table in the game room, known as the “Play Tank,” where researchers and programmers often compete in tournaments.
Mr. Carroll, who grew up in Silver Springs, Md., joined Tower Research Capital LLC immediately after graduating from Harvard University with a degree in computer science in 2000.
Tower was among the very first high-frequency trading firms, and it gave Mr. Carroll a glimpse into the way technology was changing the business. He and four friends—also graduates of top schools, with science or math degrees—decided to set out on their own, using about $600,000 of savings and money from family members and friends.
In the early years, they did little more than build programs that automated many of the market-making decisions made by floor traders. Over time, their strategies grew more sophisticated to include algorithms that used statistical analysis of data from across the markets to make short-term predictions on where prices were headed.
After the markets closed, they stayed late in the office to play computer games such as “Warcraft.”
The company, which has 100 employees, made the founders wealthy. Mr. Carroll, who owns the largest stake among partners after buying out others over the years, owns Argo Racing, a sailing team that travels around the world to compete in regattas.
In addition to its massive trading in U.S. stocks, Hudson River also is active in futures, options, European and Asian equities, currencies and bonds on about 75 exchanges and marketplaces around the world.
The firm doesn’t disclose financial measures such as revenue or profit.
Hudson’s head of business development, Adam Nunes, said the firm’s trading isn’t predatory as some critics allege about the industry.
“We don’t try to race ahead of an institution’s order or sniff out whether someone is trying to place an order here or there,” said Mr. Nunes, 38, a former Nasdaq OMX Group Inc. executive.
The firm operates according to one main rule: Every order entered into the market should represent a real desire to buy or sell that security, Mr. Nunes said.
“We are in favor of things we think are better for the long-term stability of the markets,” Mr. Carroll said. “If capital markets aren’t healthy, that’s bad for our business.”

Free Spending by Startups Stir Memories of Dot-Com Era Excesses

Sounds a little dot com-ish to me. Remember for those that didn't see the title of my first book, This time its different NOT, and then if not convinced the title of my second book So Did We Not Learn Anything From the First Book HUH. Aivars Lode

San Francisco real-estate agent Jeffrey Moeller wants tech entrepreneurs to spend less.
“A four-person startup will tell me, ‘We need a 10,000-square-foot office for future growth,’” he explains. “I’ll say, ‘No, you need 1,000 square feet.’”
“Generally, they just get angry at me,” says Mr. Moeller, who during the dot-com-bust had clients that were burned by leases they couldn’t afford.
Mr. Moeller is resisting pressure in startup land to spend, spend, spend. The trend is especially pronounced in San Francisco, where venture capital is pouring in, competition among startups is fierce and rents are rising to dot-com-boom levels.
Venture capitalists have spoken out in recent weeks. Benchmark partner Bill Gurley says Silicon Valley startups are burning capital faster than they have since 1999. Andreessen Horowitz co-founder Marc Andreessen has warned entrepreneurs about overspending, punctuating a string of tweets with the word, “Worry.”Startups feel the need to outspend on recruiting, marketing and designing their offices, echoing poor choices made 15 years ago when unprofitable companies overextended themselves, then crumbled when the market turned.
Big-spending venture capitalists are part of the problem, though. Low interest rates combined with once-in-a-decade investment returns on deals such as WhatsApp’s $19 billion sale to Facebook Inc. have enticed pension funds and university endowments to funnel money into venture capital. Meanwhile, crowdfunding sites such as AngelList have made it easier for entrepreneurs to attract early investment, and mutual funds and hedge funds have rushed in at later stages.
This year 84 U.S. venture-backed technology companies have raised at least $50 million in individual rounds of financing, a figure that was inconceivable a few years ago, according to Dow Jones VentureSource. U.S. companies raising financing in the third rounds or later collected $15.59 billion through the first half, on pace to break the full-year record set in 2000.
That rate is likely to accelerate; venture firms raised 53% more capital in the first half than a year earlier, according to VentureSource. But increased interest rates or a sudden stock-market chill could slam on the brakes.
“In an inflated market, everyone feels like a steroid-adjusted baseball player,” says Khosla Ventures partner Keith Rabois. “But once the steroids are gone, guess what, there are only about five to 10 people who can hit 30 home runs.”
Meanwhile, deep-pocketed startups are spending big on rents, salaries, marketing, public relations, interior design and seemingly limitless perks to impress potential recruits.
“I have one CEO who is building an octagonal, mixed-martial-arts cage-fighting ring because one of his employees asked for it,” says Valerie Frederickson, who owns a executive-recruiting firm bearing her name.
Costs add up quickly. The average salary for a software engineer is about $126,000, up 20% from 2012, according to tech-jobs site Dice. Top engineers’ salaries can be double that or more.
Justin Kan says startups are paying high salaries partly because they can. Mr. Kan, who started Exec, a personal-assistant service acquired earlier this year for less than $10 million, raised $3.4 million for his first round of financing. Justin.TV, which he started in 2006, raised just $300,000 in its initial round.
“When you raise a lot of money easily, it’s easy to try to solve your problems by spending money,” he says. Exec was quick to pay high salaries, he says. “I regret doing that.”
Then there are the perks. Free catered lunches cost about $12 a person each day. A $2,000 custom-designed standing desk may seem unnecessary. But some investors and founders say that such intangibles can help startups nab the best talent, who may be considering several job offers.
“No one wants to lose a candidate over the last emotional mile,” says Dustin Dolginow, a partner with Atlas Venture.
Bay Area interior designer Lauren Geremia, who has consulted for app makers Instagram and Path Inc., charges about $50 a square foot to outfit an office with custom furniture or art.
Commercial rent in San Francisco’s trendy South of Market neighborhood hit about $56 a square foot in the third quarter, its highest level since 2000, according to Cassidy Turley, the real-estate firm where Mr. Moeller is an agent.
And not just any office will do. Entrepreneurs are on the hunt for cool space: exposed-brick walls, polished concrete floors and high ceilings with exposed pipes. Renovations to get that look cost nearly $15 a square foot, roughly a quarter of the cost to rent the space, Mr. Moeller says.
Matt Galligan, co-founder and chief executive of Circa 1605 Inc., which runs a mobile application for news, says rent on his 3,000-square-foot office in SoMa has roughly doubled since the company moved in two years ago. But the rent and renovations to expose the brick walls weren’t “unnecessary burn,” he says. His 12 employees “are spending nearly a third of their life there,” he says. “It helps for it to be a positive experience.”
More worrisome, Mr. Moeller says, are startups with small teams looking for massive spaces and locking themselves in to long leases. Startups are signing five- to seven-year leases on spaces that used to require two, and more landlords are pushing for 10-year leases on new construction. Those could become a burden if financing tightens.
Web-storage company Dropbox Inc. raised $850 million in financing this year and signed three leases in San Francisco in excess of 10 years each. Car-hailing service Uber Technologies Inc., which secured $1.2 billion in funding this summer, recently announced plans for new headquarters in the Mission Bay neighborhood that will consume a half-million square feet in a 15-year-lease.
Sam Altman, the president of Y Combinator, an incubator based in Mountain View, Calif., says he is more concerned about the cultural risk created by “fat startups.”
“I used to live on ramen and Starbucks coffee ice cream,” says Mr. Altman, a former entrepreneur. “It sucked, but it made me very focused on doing what I needed to do to make the startup successful.”
Mr. Altman says he met a few months ago with an entrepreneur who drove up in a new Porsche sport-utility vehicle. The man’s startup had completed a $10 million early round of financing the previous week. Mr. Altman says he looked at him sternly, asking him, “What message do you think you’re sending to the rest of the company?”
By Evelyn Rusli

Goldman Ousts Currencies Trader Connected to Probe

I just love these headlines when i commented on this 3 or more years ago that manipulation was happening, and how, and we are now so amazed. Aivars Lode

LONDON— Goldman Sachs Group Inc., which wasn’t punished in last week’s foreign-exchange-manipulation settlements with U.S. and British regulators, has ousted a currencies trader who allegedly was involved with the misconduct before he joined the firm.
Frank Cahill, who joined Goldman Sachs in 2012 as a currencies trader after working at HSBC Holdings PLC, was asked to leave Goldman’s London offices on Tuesday as a result of his alleged involvement in the currencies-rigging affair, according to a person familiar with the matter.
“This relates to a period before he joined Goldman Sachs and he has now left the firm,” a Goldman Sachs spokeswoman said.
Reached at the office Monday, Mr. Cahill declined to comment, referring questions to Goldman’s public-relations office. He couldn’t be reached for comment Tuesday.
Mr. Cahill, a sterling trader, worked at Barclays PLC before joining HSBC in 2010, according to U.K. regulatory records. He was one of a number of unidentified HSBC traders whose conversations in electronic chat sessions were quoted by the U.K.’s Financial Conduct Authority and the U.S. Commodity Futures Trading Commission as part of their settlements with the British bank last week, according to people familiar with the chat transcripts.
The settlements, in which HSBC and five other banks were accused of trying to manipulate foreign-exchange markets to boost their own profits, resulted in the banks collectively paying about $4.3 billion. The banks didn’t dispute the regulators’ findings.
HSBC’s share of the penalties was $618 million. The bank said last week that it “does not tolerate improper conduct and will take whatever action is appropriate.” HSBC in January suspended two currencies traders in connection with the investigation.
Until now, Goldman Sachs has avoided the spotlight in the currencies-trading scandal. While at least a dozen banks suspended or fired more than 30 traders and sales people in relation to the investigation, Goldman Sachs had not taken any similar action with its staff.
Behind the scenes in recent months, Goldman was aware of Mr. Cahill’s involvement in the electronic chats and has been cooperating with British regulators, according to one of the people familiar with the matter. While Goldman isn’t under investigation, the regulators also have contacted the bank in the past few months to obtain documentation related to some of its currency traders, including Mitesh Parikh, who until leaving in September was the bank’s European head of spot foreign-exchange trading.
Mr. Parikh couldn’t be reached for comment. People familiar with the matter said in September that Mr. Parikh’s departure from Goldman was unrelated to the currencies investigation.
Documents released by the FCA showed that HSBC traders used information gathered by dealers at other firms to pick out the best time and method for conducting transactions designed to boost their profits, sometimes at the expense of their clients. The FCA also said it identified instances where HSBC foreign-exchange traders tried to make money by triggering automatic client orders to buy or sell certain currencies.
Mr. Cahill was one of the HSBC traders involved in those activities, according to two people familiar with the matter, although the precise nature of his involvement isn’t clear.
Mr. Cahill joined Goldman Sachs in October 2012, becoming vice president on the foreign exchange desk, according to a person familiar with the matter. As of Tuesday afternoon, he was still listed in the U.K.’s financial-services registry as an active employee of Goldman Sachs.

Monday, November 17, 2014

The Lesson of Forex Trading: Learn From Your Losses

When I learned that Rabobank the Dutch agricultural bank ( remember the Dutch tulip bubble in the 1600’s one of the first financial meltdowns in recorded history) was providing leverage at 1000 times to individuals trading Foreign currency, it did not make sense. It was an enticement to get people into the market, allow them to make small returns, and get them comfortable then as they made larger trades to wipe them out. I wrote about this before and it now is coming to fruition. Aivars Lode

By Jason Zweig
This past week, six big banks paid $4.3 billion to settle allegations that they had conspired to rig the global currency markets. But even if the bad behavior has stopped, the little guy still has the cards stacked against him. A new study of more than 110,000 transactions finds that individual “forex” traders lose an average of 3% a week.
Yes, a week.
Even if you’ve never put money into the $5 trillion-a-day foreign-currency market and never will, there’s a broader lesson here. No matter what you invest in, you can’t get better at it unless you focus on the one thing nobody likes to pay attention to: your losing bets.
That’s the implication of recent research by Rawley Heimer, an economist at the Federal Reserve Bank of Cleveland, and David Simon of the Berkeley Research Group in Emeryville, Calif.
The researchers tracked activity on a social network operated for individual forex traders—one of many such websites that track traders’ positions, rank the traders relative to each other and enable them to chat online. The one that provided the data received anonymity as a condition of the study.
Messrs. Heimer and Simon found that the most successful traders are nearly 50% more likely to talk about their trades than the least successful are. More important, the other traders they tell about those winners trade about 20% more often than usual in the following week, although it isn’t possible to observe whether these other traders mimic the same transactions exactly.
“People talk to each other about their investing performance, and it’s only human to talk more about successes than failures,” says David Hirshleifer, a finance professor at the University of California, Irvine. “And people are more inclined to adopt a strategy that sounds like it did really well.”
When talking about their trades, losers use a muzzle while winners use a megaphone. If you hear a lot more about profitable trades than unprofitable ones, you get a distorted view of how good that particular trader is, how profitable this kind of trading is overall and your own chances of learning how to be good at it.
As a result, “it is more challenging for some people to learn how long to hang on [trading forex],” explains Mr. Heimer in an interview. “They say, ‘This guy’s doing really well, this market can make you rich, eventually I can be one of the people who make millions.’”
Javier Paz, a senior analyst at the Aite Group, a financial-research firm, estimates that individual forex traders in the U.S. generated about $12.6 billion in average daily volume in 2013 and are likely to surpass that level this year. That’s up from $10.7 billion in 2012.
Forex isn’t the only kind of trading on the rise. On Nov. 3, the Chicago-based North American Derivatives Exchange launched a series of specialized options contracts for individual traders who want to bet on the up-or-down direction of the S&P 500, the Russell 2000, the Nasdaq-100 or the Dow Jones Industrial Average over 20-minute periods.
“People were voting with their clicks,” says Nadex chief executive Timothy McDermott, explaining that the exchange created the new options to meet popular demand. Individuals are trading about $300,000 worth of these contracts daily.
You can’t lose more than your initial capital on such a trade, and trading costs are relatively low. But these contracts, which confer no ownership rights to the underlying assets, are all-or-nothing, either appreciating to $100 or expiring worthless. There is a seller on the other side of every buyer. They can’t both be right.
A simple set of skeptical questions can help you surface the vital information about losers that would otherwise be lost in the noise about winners—whether you speculate in forex or invest in stocks and other assets.
How does the average person do? The National Futures Association, the industry’s self-regulatory organization, recently found that 72% of individual forex accounts were unprofitable and that the average life of an account was only four months. Forex brokers catering to individuals must disclose the percentage of their customers’ accounts that are profitable—a number that rarely goes above 30%.
Regardless of how much bragging you might hear about somebody’s big score, two out of three people trading forex are going to lose money. By the same token, historical data show that approximately two out of three actively managed stock mutual funds will underperform the market average.
Who is on the other side of the trade? In forex, it’s probably an institutional trader at a giant global bank. In stocks, it could be a computerized high-frequency trader, a hedge fund or a mutual fund. In options, it’s often a market maker or other professional trader. You might know more than any of these people (or machines). But you probably don’t.
Is this the simplest, safest, cheapest approach? Let’s say you think the dollar is no longer likely to keep rising. You could buy or add to an international stock fund, which should appreciate if the dollar falls, making the profits that non-U.S. companies earn in other currencies more valuable to American investors. Or you could move up that vacation you’ve been thinking about taking in Europe, enjoying how much your dollars will buy while they are still strong.
Those are probably better trades than a plunge into the forex market. If you’re right, you’ll come out ahead. But if you’re wrong, you won’t end up wiping yourself out.

Sunday, November 2, 2014

Google’s Results Disappoint on Slowdown in Paid Clicks

As we  have discussed, the usefulness is decreasing due to ad words consisting of a lot of spam. Aivars Lode
By Alistair Barr
Slower growth in advertising, heavy spending and a higher tax bill led to disappointing quarterly results for Google Inc., denting shares of the Internet-search giant.
Google said third-quarter revenue totaled $16.52 billion, up 20% from a year earlier, but shy of the $16.58 billion expected by analysts, according to S&P Capital IQ.
Net income fell 5.3%, to $2.81 billion, or $4.09 a share, from $2.97 billion, or $4.38 a share, in the same period of 2013. Those results include Google’s Motorola Mobility unit, which it is selling to China’s Lenovo Group Ltd. , and classifies as a discontinued operation.
Google is the leading online advertising company because its dominant search engine gives marketers valuable clues on what people want. That has fueled steady growth in revenue and profit in recent years. But the company is spending heavily as it invests in new businesses to maintain growth.Excluding Motorola and certain other expenses, Google reported earnings per share of $6.35. Analysts had expected $6.53 on that basis, according to S&P Capital IQ.
Such spending hurts short-term results and sparks concern among some analysts on Wall Street. While revenue increased 20% in the latest quarter, expenses climbed 28%. Among expenses, research and development costs soared 46%.
Hiring continues at a rapid clip. Excluding Motorola, the company added 2,980 employees in the third quarter, to 51,564.Google is also spending to build additional data centers to deliver more Internet content. Capital expenditures totaled $7.4 billion through the first nine months of the year, up 45% from $5.1 billion in the same period last year.
“There is a gap between expectations on the part of many investors and the reality of Google’s trajectory on expense growth,” said Brian Wieser, an analyst at Pivotal Research.
Google’s search-advertising business remains profitable, but its newer ventures—including display advertising, online video site YouTube and longer-term projects like delivering Internet service from high-altitude balloons—have lower profit margins, Mr. Wieser said.
Google shares fell 2% to $525.90 in after-hours trading Thursday, following the results. In 4 p.m. trading, shares fell $3.81, or 0.7%, to $536.92.
“Return on investment is very far off, so near-term margins could be impacted,” Mr. Sinha added.Sameet Sinha, an analyst at B. Riley & Co., highlighted Google’s increased spending on acquisitions and its recent expansion of Google Express, a same-day delivery service, which he described as “very asset intensive.”
Google’s third-quarter profit was knocked by a tax bill that climbed by 40% to $859 million. A nondeductible impairment charge related to Motorola patents affected the tax rate, the company said.
Google’s revenue growth also caused concern among some analysts. Excluding currency fluctuations, revenue increased 19% year-over-year. That broke several quarters of revenue growth at or above 20%.
“Things were a little bit slower than everyone was expecting,” said Steve Weinstein, an analyst at ITG Investment Research.
Messrs. Sinha and Weinstein pointed the finger at growth in the number of paid clicks on Google ads.
Google said paid clicks rose 17% in the third quarter, a deceleration from closer to 30% growth in recent quarters. Analysts had expected growth of about 20%.
Google made changes in the third quarter that reduced some paid clicks that were “lower quality,” Chief Financial Officer Patrick Pichette told analysts during a conference call. However, those changes also improved the price paid for those clicks on mobile devices, he added. The executive didn’t elaborate on the specific changes.
“We continue to be excited about the growth in our advertising and emerging businesses,” Mr. Pichette said.
Clicks on the sites Google owns, like, continued to grow nicely, at a rate of 24%. But clicks on Google ads on other sites rose only 2% from the prior year.
Google has been de-emphasizing clicks on other sites as these are sometimes seen by advertisers as being less valuable.
On the other hand, the revenue Google collects from each click, which typically declines, fell at a slower rate. The so-called cost per click fell just 2% from the same period a year ago, and has stayed roughly flat the past three quarters.

Thursday, October 30, 2014

H-P Move Highlights Disruption in Tech

Iconic tech giants such as H-P, Intel Corp. , Cisco Systems Inc. and Oracle Corp. built huge franchises as computers spread to virtually every home and company. But growth has slowed for those technology pioneers, largely because they haven’t been able to reap similar rewards from the shift to mobile devices and cloud computing, where computing power, storage and software are delivered via the Internet.
These offerings make it easier for mobile employees to get work done remotely and reduce demand for traditional corporate computing gear from the likes of H-P, International Business Machines Corp. and Dell Inc.
The disrupters include Marc Benioff , chief executive of Inc., which offers business software via the Web. Salesforce is growing rapidly at the expense of rivals that sell software that customers install and run themselves.
When Mr. Benioff travels these days, he takes only his new Apple Inc. iPhone, no longer needing a laptop computer.
“The old-line tech companies ”were not architected for that world,“ Mr. Benioff said. ”They were architected for the last world."
At the same time, many of the companies that became household names in the 1980s and 1990s have experienced major shifts in leadership, or are soon likely to.
Larry Ellison stepped down last month after 37 years as CEO of Oracle, though he will remain chairman and chief technology officer. Microsoft Corp. this year appointed Satya Nadella , the first CEO who didn’t participate in the software company’s early years. Intel has been operating since May 2013 under Brian Krzanich, following the abrupt resignation of Paul Otellini as chief executive.
In August, Cisco announced plans to lay off 6,000 workers —the same month CEO John Chambers turned 65; the company hasn’t named a successor or specified when Mr. Chambers might give up the post.
“We are moving from the past generation of leadership to a new generation of leadership,” said Joseph M. Pastore Jr., professor emeritus at Pace University’s Lubin School of Business in New York. “Until that new generation of leadership really takes hold, it’s going to be a very ill-defined, undefined moment in the industry.”
H-P’s restructuring is being led by Meg Whitman, the former eBay Inc. CEO who became CEO in 2011 following the short tenure of Leo Apotheker. She had previously rejected his proposal to spin off the PC business.
But much has changed since then, she argued Monday, supporting the notion of splitting off one company that makes PCs and printers from another selling enterprise technology. For one thing, she said, the prior plan only involved PCs and required creating a new brand; under the new plan, the entity known as HP Inc. will use the company’s current logo to sell those devices and printers, too.
Stiff competition in the tech sector, she added, has also made it more important for companies to focus on a few areas where they can excel while streamlining their management structures for rapid decision-making.
“A lot of the big-cap tech companies are facing a marketplace that is changing at a very rapid speed,” Ms. Whitman said.
H-P isn’t the only company taking radical action. EBay last week said it would spin off PayPal to shareholders by the end of next year, a step initially proposed by activist investor Carl Icahn that it had repeatedly rejected. Michael Dell took his eponymous computer maker private last year after growing frustrated with Wall Street’s attitude toward the company.
Geoff Yang, a partner at venture-capital firm Redpoint Ventures, said investor pressures are likely to become a bigger factor in Silicon Valley—particularly among tech firms whose stock has languished. “My guess is that type of thinking is beginning to become much more front and center in boardrooms of tech companies,” he said.
The old-school tech giants, with varying degrees of success, are striving to keep up with the move to mobile devices and the cloud. Microsoft, for example, recently absorbed Nokia’s mobile-phone business and is making more of its software available for Apple devices as part of Mr. Nadella’s “mobile first, cloud first” strategy. Intel is offering special subsidies to get its chips into 40 million tablet computers this year, while continuing to benefit from sales of chips for servers used by cloud services.
The chip maker, and networking giant Cisco, have also been particularly vocal about an even newer opportunity dubbed the Internet of Things—a phrase to describe the introduction of computing and communications capability to everyday devices like appliances and cars.
But such companies still face the perception that their influence has waned in shaping the future of technology, at least compared with Web natives such as Google Inc. and Facebook Inc. Google, for example, currently carries a market value of about $390 billion, compared to about $69 billion for H-P.
So longtime Silicon Valley watchers expect more spinoffs and acquisitions to try to help prop up stock prices and kick growth into a higher gear. They also expect more management changes.
“I think you’re going to see all the last-generation CEOs get swept out, even the ones that are hanging on with their fingernails,” Mr. Benioff said.
—Shira Ovide contributed to this article.