Market Integrity Should Not Be an Oxymoron

Men occasionally stumble over the truth, but most of them pick themselves up and hurry off as though nothing had happened.

~ Winston Churchill

We are swimming in deficits globally. Many governments, financial institutions and consumers have been spending more than they take in for decades. For a while, it even became fashionable. It’s not anymore. But for all of the ink and pixels spilled over the lack of money, it seems to me that we are facing a few deficits that are a little more ominous, a lot more disturbing, and stubbornly pernicious.

For all of our political correctness, civilization, and progress, we still seem to exhibit massive deficits in responsibility, accountability, and perhaps most elusively, integrity. Our entire financial system rests on trust. Without transparency, it all falls apart. There have been many reasons for our trust to waver over the years, but the question today is whether the frequency, intensity, and repercussions of the violations we have seen lately have finally caused us to collectively walk away from the economic system as we know it (or thought we knew it) and get back to basics.

Market Integrity as Anachronism

Market integrity, like truth itself, is more of an ideal for which we strive than a realistically achievable goal. If we don’t attain it, but remain always close to it, we should be OK. Problems arise, however, when we lose sight of what it really means and allow it to become as anachronistic as polite discourse and mutual respect.

Market integrity, according to the IFRI (International Financial Risk Institute), is defined as “the need to ensure that markets operate fairly and safely in order to encourage the widest possible confidence in them, thereby promoting high levels of savings and investment.” Regulation of markets should involve the following:

  • Integrity of Price Formation: Market prices should accurately reflect supply and demand fundamentals.
  • Prevention of Manipulative Behaviour: Deliberate attempts to distort market prices should not be allowed. (Many knowledgeable market participants are likely spewing their beverages at this one, given that it’s increasingly evident that many regulatory authorities and branches of government have themselves been guilty of such distortions – see GM bondholders for one of hundreds of examples.)
  • Sound Legal Basis for Financial Dealings and Adequate Laws for Consumer Protection: We need effective insolvency laws and a stringent code of conduct for sales. (Again, I think I hear laughter.)

Can You Handle the Truth?

The truth is out there, if only we take the time acknowledge it. Sometimes it’s as plain as the smirk on Lloyd Blankfein’s face. Often, however, it is revealed by writers, filmmakers and other rabble who pursue endeavours not generally considered “real jobs”. Blankfein views his daily harvesting of others’ poker chips as “God’s work”, whereas folks like Brooksley Born, Elizabeth Warren, Bob Ivry, the late Mark Pittman and others foolishly try to point out that the Emperor’s new clothes are, well, reality-challenged.

Many of us (myself included) would prefer to believe that, although there are some dishonest people out there, maybe even a few at (gasp!) the highest levels of leadership, we live in a reasonably well-functioning democracy. The events of the past two decades, however, are conspiring to paint a less optimistic picture. Space limitations prevent me from listing all of the nefarious dealings, but the following are a few links to documentaries, news stories and blog entries that should serve to remind us that we need to remain vigilant in our leadership choices, active in the public process, and attentive to our personal financial situation. Incidentally, CBC is currently airing a four-part documentary on the financial crisis called Meltdown. I was able to catch Part 1 and I thought it was excellent.

Brooksley Born vs. Alan Greenspan, Robert Rubin, and Larry Summers

In the latter part of the 1990s, CFTC Chair Brooksley Born became concerned about the growth of OTC (Over The Counter) derivatives. PBS produced an excellent documentary called The Warning that detailed Ms. Born’s concerns and subsequent muzzling by Greenspan and company. Ms. Born’s warning has since proven to be all-too-prescient as the proliferation of derivatives significantly contributed to and complicated the recent financial meltdown. Ironically, Messieurs Greenspan, Summers and Rubin have gone on to become revered stewards of various portions of our financial system while Ms. Born has faded into the background. What’s the antonym for poetic justice?

Enron: Partners in Crime

If you haven’t seen Enron: The Smartest Guys in the Room, I would highly recommend it. Everyone knows that Enron manipulated the energy markets to the detriment of California electricity customers as well as Enron employees and investors. The devil (literally in this case), however, is in the details. When you hear some of the recorded conversations of Enron traders and realize just how low these guys stooped with the support of the U.S. government, you may just get angry enough to truly question the status quo.

Mr. Paulson Goes to Washington

Henry Paulson is now known predominantly as the U.S. Treasury Secretary who presided over, and, according to some, helped resolve the financial crisis of 2008. More knowledgeable observers, however, realize that it was sheer poetic justice that Mr. Paulson was asked to clean up the pile of excrement that he himself helped to create. In 2004, Henry Paulson, then C.E.O. of Goldman Sachs, led a group of investment bankers to lobby the Securities and Exchange Commission to relax capital requirements so that these banks could take on more debt. We all know how that turned out.

An Enormous Serpentine Rescue

TARP, the U.S. government’s Troubled Asset Relief Program, was ostensibly intended to rescue the global financial system, but somehow Wall Street bonuses were restored and the unions were bailed out while middle class citizens foot the bill. TARP reportedly weighed in at about $US 700 billion dollars. Mark Pittman and Bob Ivry of Bloomberg, however, have done some pretty compelling math and submitted that the actual cost of the bailout is closer to $US 12.8 trillion dollars – that’s 18 times the amount reported for public consumption.

In fact, Bloomberg has successfully sued the Federal Reserve to compel them to reveal precisely how much money was spent or promised and to whom these benefits accrued. The Fed has appealed these decisions – and lost. Their next step is an appeal to the supreme court. An old proverb says that truth fears no questions.

The Beat(ing) Goes On

The examples cited above don’t even scratch the surface of our huge integrity deficit – from the ludicrous IPO of a taxpayer-supported automaker, to the SEC suing the state of New Jersey for fraud, to a bank with ties to President Obama receiving preferential treatment, there are many more tales of deception to be told. (I didn’t even mention Bernie Madoff!) How many more of these truths will we stumble over before we stop and take notice rather than hurrying off or planting our heads back in the sand?

The current glaring lack of market integrity is precisely what keeps my money out of the long side of the market. Apparently, I’m not alone as insider selling outpaced buying by over 650 to 1 in the past week as the markets rallied. There may or may not be another nuclear problem percolating below the surface in some corner of the financial system right now. But history shows, gentle reader, that if there is, you and I will be the last to know.

Has the lack of transparency in the current economic and political climate affected your personal financial choices?

Written by Kim Petch

15 Responses to Market Integrity Should Not Be an Oxymoron

  1. In a number of ways.

    First, I have traded any mutual funds I owned for Exchange Traded Funds.

    Second, I rely more now on technical analysis. There are free online tools that allow us to track what the “big” guys are up to.

    Third, I ignore the day-to-day media noise and concentrate on trends.

    Fourth, I take advice very carefully, and try to ascertain any unspoken agendas.

    Fifth, I take anything the financial services industry has to say with a grain of salt.

    We cannot control the direction or the intensity of the wind. We can get to where we want to go by adjusting the set of our sails.

    • It sounds like you’re looking at the market through as clear a lens as we have available at the moment. I rely more on technical analysis too, but I’m not all that confident in my skills in that department. I got rid of our mutual funds in favour of ETFs as well. I love the flexibility and lower fees. I like the analogy of adjusting your sails to the wind.

      Thanks for your insights! 🙂

  2. I think we all need to take a close look at the man or woman in the mirror.

    The market is us! When we lack integrity, the market lacks integrity.

    We saw the highest valuations we have ever seen in the late 1990s. Do you know what it means to say that stock prices are overvalued? It means to say that we are all telling lies about stock prices. Is that not so? An overvalued stock is a mispriced stock. A statement that a stock is worth “x” when it is really only worth “y” is a deception. And we all permitted lots and lots of such deceptions in the late 1990s!

    The market as a whole has as much integrity as the community of people who comprise it. One good thing that we can say about the crash is that valuations are now lower and that means that we are gradually gaining back our integrity!

    Things are getting better. Sometimes you have to take on some pain for things to get better. But things are getting better. I wish it would happen more quickly!


    • That’s a really interesting take on this. Does that mean the market is as much a reflection of the social climate as the financial one?

      • Does that mean the market is as much a reflection of the social climate as the financial one?

        That’s my belief, Two Cents.

        Some see this as discouraging. We don’t want to think that we caused this mess.

        I take it the other way. To accept that we are the primary cause of the mess is empowering. We don’t have to pass a law to change things. We just need to straighten ourselves out.

        We have the power to end this economic crisis any time we please. Not any one or two or three of us. But all of us together. So we all should get about the business of working with our friends and neighbors and co-workers to make it happen. When we do that, it will. Accepting that we are the ones who messed up gives us the power to turn things around.

        Accepting responsibility for one’s actions is empowering.


  3. As much as I would like to know the future, it is unknowable. It is depressing to review the liturgy of stupidity and greed of those who should know better. But, in reality, all the legislation in the world cannot stop this problem. Best to control what you can & keep a balanced portfolio.

    • I have to agree that more legislation just seems to complicate matters further. There will always be those who seek to circumvent the rules no matter what they are. But it does make me feel a little bit better to at least point out that some of the people who are still worshipped in some circles are disingenuous at best and criminal at worst.

      I guess a balanced portfolio, like truth, is in the eye of the beholder. 😉

      Thanks for stopping by!

    • Thanks Arjun. I guess I was just trying to point out that an imperfect regulatory system is a given, but that I think we can do a whole lot better than what we’ve got right now.

  4. 2cents, the words that come to me when I read this commentary are: scathing, visceral, and saddening.

    For the text: “(o)ur entire financial system rests on trust. Without transparency, it all falls apart.”

    Here is my concern. Do we legislate transparency, or do we allow companies like Enron to inevitably fall apart. (I did watch the Smartest Guys in the room and share your sentiment). I think true capitalism would let the free markets decide, assuming that if you ultimately give a bad service or product, you won’t stay in business. I think many Capitalists are conflicted on this one.

    The truth is out there, if only we take the time acknowledge it. Sometimes it’s as plain as the smirk on Lloyd Blankfein’s face.

    Okay, I take that you are not a Goldman’s fan. I do not know what he has done personally that to warrant so much criticism in the media. From the outside, I have always understood Goldman’s philosophy to be “trying to be the best” and “pushing things to the limit.” Sure, there are ethical conflicts, but I didn’t think they were so horrible overall. Blankfein’s comments during the Abacus investigation were … unfortunate. However, at least his gaffe wasn’t as bad as the former BP CEO. I’m not really trying to defend him as much as I am trying to understand if criticism of him stems from him appearing aloof.

    • I think legislating transparency for both governments and corporations would be a good way to enforce integrity in the capital markets. A lot of the unethical practices that have damaged the financial system have resulted from hiding things, whether it’s the true nature of a company’s (or government’s) balance sheet or the real terms of some of these bailouts.

      In terms of GS and Mr. Blankfein, it’s my understanding that the culture you describe of pushing the limits isn’t the same one today that existed a decade ago. In fact, it looks like they have crossed some lines with the help of U.S. authorities. I’m thinking specifically of the fact that Goldman was made completely whole in its exposure to AIG CDS by virtue of the AIG bailout. Further, evidence shows that Treasury officials deliberately tried to keep this knowledge from the public for obvious reasons.

      It’s tempting to ignore a lot of this stuff and just stick to the portfolio management rules that worked in the last cycle, but the untimely 50% haircut that a lot of boomers took just as they were about to retire reminds us that caution is warranted and timing is everything. I don’t think these problems are over yet, so I’m taking a lot less risk with our money.

      Thanks, as always, for your insightful commentary.

  5. I completely agree that the government deficit issue is a sobering one. I find it a positive that on the surface at least that attacking the U.S. deficit has fallen into favor. The realities of actually doing something about it are daunting, however, and I found that well articulated in a WSJ article that came out yesterday entitled, “Obstacle to Deficit Cutting: A Nation on Entitlements.” One quote from the story to illustrate this point:

    “Nearly half of all Americans live in a household in which someone receives government benefits, more than at any time in history. At the same time, the fraction of American households not paying federal income taxes has also grown—to an estimated 45% in 2010, from 39% five years ago, according to the Tax Policy Center, a nonpartisan research organization.”

    • I’ve heard similar statistics about the U.S.. The idea of not paying taxes at all just seems inconceivable. I would think that the number of adults in Canada that don’t pay any taxes would be a fraction of that. Anyone have any numbers on that?

      I’ve heard it said many times that there are no easy solutions to our problems. Still, it would be great if we could work together to map out a way forward, even if it means short term pain. I think the pain is coming either way, so we might as well take it on our terms. Increased transparency everywhere would be a great start. It’s amazing how human ethics and actions change when someone is looking. 😉

      Thanks for stopping by!

  6. I find the depth of the bailouts to be astounding. Is it really in our best interests as consumers and as a middle-class to keep asset prices artificially high in order to keep those of us in debt indebted and to promote further debt among those looking to purchase a home for the first time? Or is this all really in the interests of the financial industry?

    I think an argument could be made for part of the bailout as high deflation due to a credit bust leads to high social unrest, but surely there could have been a better use of that money?

    • The statistics on just how much the financial sector of the economy has grown relative to all of the others are quite astounding. (I can’t recall where I read about them, or I would provide a link for you.)

      I suppose only those who spent the bailout money will ever really know where it went. But the vast majority did go to the financial sector.

      Thanks for your comment!

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