Wednesday, September 20, 2006

Leftovers again

Just going back over the Amaranth matter, in the context of the Thai coup. Each of those is a separate but potentially interdependent "finger of instability". The imagery is of a cascading effect as one instability destabilises another and the chaos created feeds on itself. Not saying it will happen, and really don't expect any serious market wide repercussion (but see this), but it is interesting to follow the dynamic.

And on the Amaranth episode, it bears repeating the broader story (or so the story has been told so far, and keeps being told).

Notwithstanding all the sage, calming advice we get (e.g., this) that the markets can deal with the unregulated hedge funds and other derivative trading, and that they are level playing fields (efficient markets), it looks like one "small" ($450 MILLION) hedge player (MoonRock) took the view that natural gas was overcooked and bet prices would fall. It appears a Amaranth ($9B-b-billion) trader was damned and determined to push prices higher and cash out the short side. The immediate effect, for those 2 players, was they both got killed. Too bad, had it coming. But what about the larger market which has actual, real needs and uses for natural gas? They got put through a cement mixer just so those screen jockies with more testosterone than sense could hold a pissing contest.

Guambat had a prior rant about these guys, or guys like them:
In ways I cannot put together in a coherent, scholarly study, I have noticed a distinct change in the character of the equity markets over the last decade. It is becoming dominated by big, lightning quick money. Oh, the Big Boys have always had a major impact, and in that regard there is nothing new. They've always enjoyed their power to push the market this way or that. They've always enjoyed a clubiness that allowed for information to be shared in ways that didn't quite pass the "insider trading" bright lines. But they usually bought stuff to own it, to manage it, to work it, to put it in thieir trophy room.

But these new guys are not just big bullies; they're bold, cold Matrix-like machines. Just listen to CNBC at the number of times they mention how dominant block trading has become. Do you remember the term "hedge fund" being common parlance more than a decade ago? What about "black box" trading?

A black box is not some fatcat in a pin-striped suit and a big cigar. It is a streak of cyberdata, a stateless, motherless virus hellbent to ambush, arbitrage and retreat faster than a ninja. And they are everywhere, in to everything. Their bytes permeate every conceivable market, like a monstrous whale seiving the nutirients and little, bottom-of-the-food-chain investors and small players from the oceans of cash that trade the world's goods. They derive their gains from diverse derivatives of incalculable numbers and varieties, trading the shadows of what used to be a currency or a commodity or a stock or a bond, but now come under the most obtuse and arcane of names that only financial rocket scientists can understand. Their trade is in ideas and concepts and notions and algorithms, not things and companies.

And, importantly, these new guys push around greater wads of money than the old fashioned pin-striped broker because they don't have to use as much (if any) of their own money, and the "products" they deal in control vastly greater amounts of the "real" underlying stuff than that stuff would cost in its own markets.

Fair disclosure: Guambat trades SPI futures on the Australian market for fun and occasional gains, and frequent losses.

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