Inside the Vault

HSW Advisors' Jordan Waxman is in his 20th year as a private wealth advisor. He is an attorney, an MBA, Accredited Investment Fiduciary® Designee, Certified Financial PlannerTM, Certified Investment Strategist® and Certified Investment Management Analyst®.

He has advised substantial families, company founders, CEO's, endowments, foundations and pension plans on all manner of offshore and onshore planning, securities and investment matters. He co-teaches Investments at McGill University and is a Member of the Board of Directors of HighTower, the largest advisor-owned independent private wealth management firm in the U.S.

Inside the Vault is a blog that will clarify and illuminate all aspects of private wealth management and investments. Jordan will describe the inner-workings of the investment world, highlighting inherent risks, opportunities and potential conflicts of interest.

Contact Jordan at 212-286-1173 Twitter: @hswadvisors

  • Accentuate the Positive

    Monday, July 13, 2015




    On a recent trip to China, I noticed how everywhere cranes constructed new apartments for those moving from rural areas to the big cities. This was true in all of the cities I toured – Xi’an, Ljiang, Shangri-La and Shanghai.  New apartment complexes, shopping malls and hotels with luxury brands being erected on former farmland.  Chinese families are touring the country with more disposable income.  In the Western press, it is reported that new real estate purchases from Chinese natives are fueling the housing market in parts of Canada and the U.S.

    The country is an amazing blend of 53 ethnic minorities, each rich in culture, tradition, history and cuisine.  The roots are deep and the soil is fertile.  20% of the world population resides there and it is bustling.  Financial journals estimate that China will show over 7% GDP growth in 2015; slower than in the past, but on a much larger base of activity.

    However, beneath the surface, there are some problems.  Firstly, many of those new apartments and hotels are built, but are tenantless.  The hyperactive city life, with its high rises and salaries also comes with staggering pollution, stress and poor diets.  Although we had three days of blue skies in Beijing, 250 days a year they are grey with smog, and many residents wear masks.

    The largest cities in Yunnan province, while expanding, have only about 90,000 residents. Young people from around the country are now looking for work in the area, as the mountain air, clean water and fresh food are more alluring than city pay packages.

    Marshall McLuhan once wrote, “The medium is the message.”  In China’s case, the government both controls the media and supplies the message.  I was reading China Daily, one of several English language papers reporting local and global news, and noticed the words to describe the state of affairs:  progress, bullish, strengthening.  Crime is low, corruption and pollution declining, and the markets are rising.

    Most other governments, and corporations for that matter, would rather be cautiously optimistic or even realistic, and build in a margin of safety to create confidence in the numbers. The reason is that markets move based on reports relative to expectations.  Upside surprises in earnings reports, economic variables and inventory reports move stocks, interest rates, commodity prices and markets.

    A major issue indigenous to China is that economic growth, savings, investment and prosperity in general are highly influenced by the central bureaucrats.  The government controls the leasing of land (duration and cost), taxes, interest rates, tariffs and the flow of funds in and out of the country.  In other words, they can make the skies look pink by supplying the rose-tinted glasses.  Optimism helps keep people motivated, happy and led.  In China’s case, this is particularly critical, as it affects 20% of the world’s population.

    Optimism is prevalent on Wall Street as well.  Research analysts and economists publish company earnings estimates, asset allocation tables, stock and bond market forecasts to their clients, subscribers and investors.  In the vast majority of brokerage firms, the lion’s share of stocks are rating BUY or ACCUMULATE, and stock market forecasts call for indices to rise each year.

    Although analysts calling stock market crashes are like lottery players—every now and then there is someone who gets the winning ticket—most firms make more money being bullish, as it drives more stock purchases, driving more commissions and fees.  Independent research firms, who are paid to give advice, tend to have more sanguine (now called contrarian) views on how to invest.

    In China’s case, Bloomberg News reported the following recently:

    “The Shanghai Composite has surged 124 percent over the past year through Thursday as margin debt climbed to a record and investors speculated monetary stimulus will revive the weakest economic expansion in more than two decades. The bull market, which turned 935 days old Friday, is the longest since Chinese bourses opened for trading in 1990 and more than five times the average lifespan of previous rallies.”

    However, that surge has created an environment of heightened volatility and fear-inspiring declines:

    “Futures on the CSI 500 Index of smaller companies dropped by the maximum limit of 10 percent, while contracts on the CSI 300 Index fell 9.5 percent…The stocks favored most by margin traders at the height of China’s boom in mid-June have since tumbled at least 24 percent, helping send volatility in the Shanghai Composite to the highest levels since 2009. The benchmark index has had nine straight sessions of intraday swings exceeding 2 percent.”

    Market participants usually take on margin debt when they are extremely bullish.  However, recently global investors have dampened their expectations for growth in many developing markets, including China at the same time citizens are still being told that the construction projects will be completed and tenants will fill them.

    Disappointment will breed dissent and thus a large-scale problem, especially if there is rampant unemployment, just as living costs are increasing.  Stock market uncertainty can have a similar effect, although perhaps on a smaller but no less influential contingency.

    In either case, blowing smoke on embers leads to hot flames, and a need for evermore firewood.  Those who desire capital stability and investment harmony, like the Chinese government, are best advised to under-promise and over-deliver.

  • Deflated Footballs and Deflated Currencies

    Friday, January 30, 2015




    In the 2014-15 NFL AFC Championship game, it was discovered that eleven of the New England Patriots’ dozen footballs were deflated to 11psi (below the 13 psi standard), prompting every football fan to start learning about football protocol, and forever remember the moniker, “Deflategate.”  Reducing the air in the football apparently makes it easier to grip and maintain control, especially in cold weather.

    I have so many questions.  For instance, why 11 out of 12 balls?  Shouldn’t whoever inflated (or deflated) the balls have checked that they were all at 11psi, to have a plausible excuse, like the cold air in Foxboro, MA?  And why don’t referees inspect the balls before the game to insure they are up to code? And given the 45-7 final score in favor of the alleged Deflators, how much of an advantage was it?  Seems they could have won throwing volleyballs.

    That got me to thinking about the current global currency wars being waged, and what they mean.  As I have written, central banks are like World Series of Poker players at the final Texas Hold ‘Em table.  The chip counts are high, the blinds are growing, and the flop just showed Queen, King, Ace.  So, the players do what they must to win the diamond bracelet…they go ALL IN.

    The backdrop is that globally, prices for goods, services and especially energy are dropping due to sluggish demand and oversupply.  So, central bankers must pull whatever levers they can to stimulate banks to lend money to individuals and businesses, and to improve the fortune of their country’s industries, even at the expense of others.

    Central banks set Monetary Policy for what securities they will take from other banks as collateral for funding, and the rate at which they borrow.  The more accommodative they are on collateral and interest rate, presumably the less restrictive banks will be about lending to individuals and businesses, spurring more spending on capital, consumer goods and services.

    In addition, central banks have a tool called Quantitative Easing, used aggressively by the US after the 2008 credit crisis, by which they purchase bonds, keeping prices high and yields low.  This allows homeowners to refinance their debt at lower rates, banks to show gains on their balance sheets, and corporations to borrow from banks (short-term funding) and investors (longer-term) at lower rates.

    Another common tool is Intervention in the currency markets.  In other words, with a huge balance sheet and the ability to print money, central banks can enter the currency market and buy or sell currencies to move their values.

    Well, the world outside the USA today, from Osaka to Barcelona to Toronto, is a growth flame in dire need of oxygen.  Currency wars have produced a topsy-turvy landscape of anomalous quirks:  as a result of central bank actions, trillions of dollars of bonds are now yielding negative rates.  This means investors will pay governments to store their money and provide a return OF capital, rather than a return ON capital.

    So, what does this have to do with #Deflategate?  Well, macroeconomists and central bankers know that the higher a country’s expected trajectory of short-term interest rates, the more likely investors will sell their deposits (in their own currency), to exchange into the higher yielding deposit currency.  So the foreign exchange rate between to currencies (known as a “cross rate”) is directly correlated to the interest rate differential between the pair.

    In addition to deposit flows, countries experience foreign direct investment into their industries.  So, aside from the pure math of the equation, currency markets also change based on the emotion of participants.  If investors believe the central bank is aggressively lowering rates to stimulate the economy, they smell fear and loathing in the country and push currencies down further.

    As bad as this sounds, this is all part of the plan.  Central bankers are well aware of the health of their domestic industries.  So whether the country sells cars, turbines, software or vacations to global investors, these become more affordable with a weaker currency, and those industries can borrow cheaply (remember lower rates), thus keep afloat, pay their workers and spur higher demand, and eventually higher prices (inflation—the Holy Grail).  This is the “Beggar Thy Neighbor” strategy in currency deflation…the Currency #Deflategate.

    The conspiracy theorist in me believes this is also part of the plan of various elected officials to stay elected.  Central banks are supposed to be independent from governments, which have their own Fiscal Policy measures to stimulate the economy, encouraging wage and income growth.  However, most legislative bodies are dysfunctional at best (perhaps the subject of another blog), so often the best they can do is to hold hearings with central bankers, cajoling them into changing monetary policy.

    When prices increase, currencies recover; central banks raise interest rates, tapping the brakes on the economy.  However, they are often behind the curve, and end up ratcheting up the cost of borrowing too fast, causing the economy to roll over and contract, causing a recession, or contraction in GDP.

    That is obviously not the current picture, but brings to mind the image of a faulty shower – too hot, too cold, too hot, too cold – in every market cycle.  It is about as regular an occurrence as the annual Super Bowl.

    So during this coming Sunday’s Super Bowl, as New Yorkers are buying up fashions from Milan 25% cheaper than last year–due to the weak Euro–and football fans from Hamburg are cursing the high price of Bud Lights in the stadium in Arizona–owing to the strong dollar–I hope the refs check the pressure of the 108 footballs (yes, not 24, but 108!) so there is at least one level playing field.

  • I.O.U. – Part II

    Monday, December 15, 2014

    Jordan Waxman Inside the Vault IOU HighTower HSW Advisors



    If a little debt can be a good thing, what then are the best practices? We know from the 2008 Great Depression that excessive borrowing (aka leverage) was a major problem.  The collateral upon which leverage applied was questionable, and the number of turns of leverage (the number of times you can multiply the equity to determine the size of the loan) was too high.  For example, as a rule of thumb, the IRS allows 9x leverage when making intra-family loans.  In other words, $1million of collateral can be used as equity for a $9million loan.  This is a valuable and time-tested way to allow family members to borrow from one another, and when properly applied can be a good wealth transfer technique.

    The mark of a company’s ability to pay the interest on its loans is known as its interest coverage, which is determined by dividing the interest costs into the free cash flow of the company.  The free cash flow is the net income less any deferred payments it owes, plus any non-cash charges that go into the calculation of the net income.  If the free cash flow covers both the interest costs and the dividends the company pays, it is considered stable and high quality.

    Likewise, for individuals, income from all sources, less taxes, interest, gifts paid and all expenses, plus tax refunds and gifts received should be a positive number.  Many individuals have ample assets and cash flow, and thus can afford to borrow if the returns they can achieve through their investments are greater than the interest costs.  For the past six years, the Federal Reserve has targeted short-term interest rates between zero and 0.25%.  Banks’ costs of capital are a spread above Fed Funds, and the rate at which companies can borrow from a bank with their cash flows as collateral is a number of percentage points higher than that.  The more creditworthy the borrower, the lower the rate at which they borrow from banks.  Individuals can usually borrow against their own securities more cheaply than corporate bank loans, as their liquid portfolios are the collateral.

    Corporations, governments and municipalities also borrow long-term in the public debt markets, issuing bonds that pay a stated interest, normally every 6 months.  These usually have a fixed maturity, but the issuers may be able to refinance the bonds during the term if interest rates are lower than when they went to market.

    Since we live in a “Credit Cards Accepted” world in which borrowers and lenders meet in the capital markets, we must appreciate the unique times in which we live now.  Without the ability to expand their balance sheet (borrow) and use the money to buy securities to keep prices high (and thus interest rates low) governments would not have the ability to step in during times of economic crisis and prevent catastrophic losses.

    Bond yields tend to rise and fall with future expectations for inflation, or the change in prices of goods and services.  Here is a rudimentary example to begin the explanation:  Say the price of Royal Gala apples is $2.00 per pound today, and we expect the price to be $2.20 next year.  Then there would be 10% inflation in Royal Gala apples.  Well, every month there is a report of prices for raw materials for the makers of stuff (the Producer Price Index or “PPI”) and the prices of a basket of goods and services for the users of stuff (the Consumer Price Index or “CPI”).  The higher the inflation expectations, the more a borrower will have to pay a lender to lock up money at a fixed rate, since the lender will need more money for groceries next year and will need the interest on the bonds to help pay the tab.  The lower the inflation expectations, the higher the demand for fixed income and the lower the yields.

    In the US, inflation is tame but positive.  Today’s CPI reading in the US showed a 1.9% year-over-year change for the “core” index—which strips out more volatile food and energy price moves—but the index showed no increase over last month’s. In some European countries, prices are actually falling, which means there is less demand for stuff than supply, thus eroding business and consumer confidence and business activity.

    Deflation usually creates the domino effect of lower interest rates, thus individuals make less income from savings (the flip side to lower borrowing rates) lower consumer and business confidence, resulting in a recession in which companies reduce wages and/or employees.  Thus, the European Central Bank recently set its borrowing policy at a negative rate, which ultimately means individuals will pay banks and banks will pay the Central Bank to deposit their money.  This creates a disincentive to save, and an incentive to lend and invest.

    So, like a bicycle pump getting the tire pressure right, the government, through its monetary policy tools, plays a key role in deflating and reflating the economy.

    Another sign of this topsy-turvy time is that today many companies pay more in stock dividends than in bond interest.  There is more demand for (and less perceived risk in) some companies’ fixed rate bonds than their higher-yielding common stocks.  So these companies tap the bond markets at the lowest interest rates in a generation to buy back their shares, pay higher dividends or acquire other businesses.  On this latter point, it should be noted that merger activity is at an all-time high.  This reduced the number of shares outstanding in the market (the supply), at a time when demand for growth assets is high (because retirees are living longer) and essentially signals that common stocks are undervalued today.

    Papa Paul, who lived to age 92, was a pretty straightforward guy.  In fact, whatever he was eating would fly straight forward onto his tie (and yours) every night.  However, I doubt he had thought through micro- and macroeconomics before crystallizing his thinking around the merits of debt.  He just told you it was bad.  My late grandmother, Molly, who lived to the ripe age of 100 said, “Everything in moderation.”  So, which sage was right?

    The way I figure, if governments and corporations are using debt in a sensible, flexible and proactive way, then individuals could and should be doing the same, and perhaps live a fullness of days.

  • I.O.U. – Part I

    Monday, October 20, 2014

    Jordan Waxman - HSW Advisors - Inside the Vault Blog


    Growing up in Canada, I always heard my grandfather Paul say, “Debt is a four-letter word.”  I knew early on what a “four-letter word” meant, but really wanted to know about this thing called “debt,” and why it was so bad.

    Like many successful business people, my grandfather was a self-made man.  He came to Montreal at age 9 from Poland, and started work very young, sweeping floors in a dress factory.  Years later, he came to own the dress company and its building, and invested in a couple of other office buildings to secure cash flow and hard assets for the family.  On one of the buildings there was a small mortgage, but on the other a larger one with a high interest rate that could not be renegotiated.  So, despite being very successful, he ended up handing over the second building to the bank when occupancies and the value of the building declined and the cash flow could not keep up with the interest costs.

    Since the financial crisis of 2008, this has become a more common tale, in both residential and commercial real estate.  However, there are some notable differences between then and now.  For instance, the underwriting standards in Canada are pretty high, and banks usually extend loans to those with the means, plans and assets to support them.  In the US, as evidenced by the exposition of lending practices in the media, courts and in front of Congress, banks issued debt fast and furious, without the usual regard for the likelihood of repaying, as they could book fees on the loans, then more fees to repackage pools of debt, market and sell them to other buyers, thus freeing up more regulatory capital to underwrite more loans…lather, rinse and repeat.

    The banks held quite a bit of the debt on their balance sheets as well, as most of the firms traded securities actively for their own accounts.  So, when asset values on real estate declined, the risk of the loans increased, credit spreads widened, bond and loan prices fell, and thus so declined the assets of the banks.  In financial companies, loans are assets.  Banks also borrow money—their liabilities—but the mortgages they held on the books were on the asset side of the balance sheet, held for income and potential capital gain.  Banks funded themselves through short-term commercial paper and used the assets as collateral to get up to 30x as much debt so they could trade more and buy more securities.  I’m pretty sure that this leverage has a four-letter synonym.

    On a Balance Sheet, Assets = Liabilities + Equity.  The Assets of the banks include the securities they hold for return and those they cannot sell.  Liabilities include customer bank deposits.  Equity is the retained earnings of the firm.  So, with asset values declining, and customers wanting to deposit more cash for safety, the banks were forced to write down the equity value, and thus began the mad scramble to sell equity, convertible debt and entire companies to potential investors from Omaha to Osaka.

    Through the credit crisis, confidence declined, business activity dropped and employers, from corporations to the government laid off workers.  This impacted their ability to repay debt, especially as real estate prices dropped.  Whichever bank held the mortgages on individuals’ homes and buildings had to decide whether to foreclose on the property, and thus take a permanent write-down of assets, negotiate with the tenant or just do nothing until they had the reserves to deal with the problem.  Given the transgressions of the underwriters, and the pain to their citizens, several states issued moratoria on foreclosures.  That is why after its expiration, New Jersey reported a more-than 100% increase in foreclosures this month.

    In 2010, major reforms like the Dodd-Frank Wall Street Reform and Consumer Protection Act forced banks to reduce risks like proprietary trading, and tighten underwriting standards.  Since then, lending standards have become much more stringent (and since banks have laid off tens of thousands of employees, the process of obtaining a mortgage can be frustrating at best).  Banks are extra-cautious, as borrower may cite excessive fees, restrictive terms or a lack of ability to repay at underwriting as defenses in a foreclosure proceeding, without any regard to any stature of limitations.

    Despite the potentially nefarious side of credit, can you imagine a world without it? Car buyers would walk into dealerships with “fat stacks of Benjamins” (my favorite Breaking Bad reference) or Bugs Bunny sized gold nuggets to pay for carrots. The only way to live in an apartment would be to pay cash for it…there would be no such thing as a lease.  The only ecommerce would be by debiting one’s bank account for purchases, and banks would do little more than administer debits and credits.  Governments would (gasp) have to balance income and spending, and only be able to spend once it received or saved the income.  No debt ceiling debates in Congress anymore!

    On a broader scale, in a “Cash Only” environment, the global economy would grind to a snail’s pace and the disparity between “haves” and “have not’s” would be enormous; the crumbling infrastructure would continue to crumble, (Ghostbusters: “cats and dogs, living together”) and then eventually, taxes would rise and prices drop to a low enough point to level-set the value of goods and services, and everyone would live within their means.  That sounds either utopian (if you are an organic farmer), or apocalyptic (if you are a Wall Street trader, investment banker, tort lawyer, pharmaceutical company or anyone that provides high cost products and services or use capital markets), but given how ubiquitous credit is in our society, we should assume it is here to stay.  So, assuming a little debt is a good thing, the next point of order is to flesh out the good aspects of debt.

    To Be Continued…

  • Reading the Signs

    Wednesday, July 30, 2014

    Image: Randy Glasbergen

    Image: Randy Glasbergen


    The first non-textbook on investing I ever read was One Up on Wall Street by Peter Lynch.  In it, the former Fidelity fund manager detailed his homespun rules of investing.  One I remember, and follow to this day, is that when people line up to enter a store and the merchandise is at full price, versus on sale, it usually augers well for the retailer.  As a father of three, I more than seldom find myself in shopping malls, and as a habit, walk in and out of retailers to put the discipline to the test.  Even with the growth of online sales, the boots-on-the-ground research is often spot on.

    In 2008 and 2009, business activity was reeling from the recession.  Restaurants were half full at lunch and dinner, and airports were sparse.  Now that many of the large airlines have had their debts forgiven and merged with other carriers, ticket prices are higher than ever and service at its low-point.  Since that time, global equities have returned about 20% per year, twice the long-term average.

    A few weeks ago I took my teenage daughter, Lily, on a trip to Italy.  45 minutes outside of Florence is a designer outlet mall, in which the highest fashion brands have elegant stores with this season’s new wares.  The mall was full of tourists, mostly from Asia and Russia, who arrived in cars and buses to shop for Milan-designed pocketbooks, clothes, shoes and accessories.  Some of the stores queued the shoppers to control store traffic.

    On my last trip to Slovakia, I noticed that Business Class was full, as were the airport lounges in Austria and Germany, the restaurants and bars.  In Paris, velvet ropes made the stores in the Galleries Lafayette seem like nightclubs and in London, businessmen packed the Wolseley until 10:30 a.m.

    These observations are all to say that in the developed world, business is booming, and people from the entire world, including the emerging markets are spending capital on luxury goods, whether real estate in Manhattan or London, or Prada bags in Florence.

    Given how low global interest rates and inflation are, the fact that there are more consumers who are spending on goods, services and travel is a bullish sign for the equity markets.  In addition to the fact that companies can grow their profits with inexpensive cost of capital, investors are living longer (needing more growth in their portfolios), companies are buying back their shares (boosting stock prices and earnings per share) or finding companies with which to merge (thus sucking the supply of stock from the market).

    So, the question on many people’s minds is “When does the bull market end?”  Usually bull markets end when the market goes up on bad economic and corporate news.  That is a signal that the majority of investors are bullish, believing the market cannot go down.  That is not the case today.  The market is split between bulls and bears, according to most surveys.

    Bear markets also tend to start when valuations are excessive.  The price to earnings ratio of the broad market is often cited, and today it is elevated but not excessive.

    In addition, companies discount their future earnings stream by their cost of capital, which in turn is influenced by interest rates generally, credit spreads and inflation.  These latter elements are quite low today, and firms have more financial flexibility (cash) than ever before, cautious about embarking on a hiring spree for fear of the next downturn.  This means corporations can withstand shocks and engineer profit growth amid the economic recovery.

    Despite my observations on global commerce, the recovery itself is muted but consistently positive.  Economists postulated that the reason the US GDP showed contraction in the First Quarter of 2014 was due to the Polar Vortex – an unseasonably cold winter across parts of the globe.  If ice and snow can keep folks from getting higher wages and buying homes (labor and housing are the driving forces in the US economy), then we are probably far from having inflation and high interest rates spoil the stock market rally.

    Investing is both art and science.  We consider qualitative and quantitative factors of each solution in sync with the investor’s needs for liquidity, income, safety and growth.  However, the degree to which we emphasize any particular asset class or investment is heavily influenced by our future outlook.  We look for direction from current economic readings, but often, like in the case of the contraction in First Quarter 2014 GDP, contrasted with over 200,000 new non-farm jobs created in each of the first five months of 2014, the data is contradictory.  It is then that boots-on-the-ground scent-smelling helps us better read the signs.

  • Too Slick to Jail?

    Thursday, May 29, 2014




    I tell my teenage children, who are starting to plan for the future, “If you are lucky enough to do what you love and love what you do, and you work very hard, you will be happy and successful.”  It took me a long while to find my calling (I tell people I was on the 10 year university plan), but Private Wealth Management has been my first and only career, one that has been changing, exciting and challenging.

    I was interested in finance and economics from an early stage, and during Law School, my buddy Phil and I waited each day to buy the only two copies of the New York Times at the kiosk and flip right to the Business Section.  As we studied in Montreal, there was no Wall Street Journal and it was 1987 – before the internet took hold.

    Two seminal events stuck with me from that era and shaped our respective paths, at least for a while:  the Leveraged Buyout of RJR Nabisco (subject of the must-read book, Barbarians at the Gate) and the successful prosecution of gangster, Manuel Noriega.  Phil was intrigued by the LBO and he has gone on to succeed as an M&A attorney, investment banker and now partner in a prominent asset management firm.  Having studied the Lost Generation and the history of American gangters in college, and bank secrecy, criminal procedure and securities regulation in law school, I could not get enough of the capture and trial of “Pineapple Face” Noriega.

    My dream was to become a white-collar criminal prosecutor, pursuing bank, securities and wire fraudsters.  To this day, having dinner in Miami with Miles Malman, the District Attorney who won Noriega’s conviction on tax evasion—a modern day Al Capone story—was one of my most cherished memories.  Having him sign a copy of his final summation was like having Derek Jeter sign his rookie card.  I was a giddy law geek and did not care!

    Here we are, 22 years after graduating, and the US Attorney General, Eric Holder, is talking tough about a new breed of modern day rogues–large banks.  Holder said recently that he is personally overseeing major financial institutions and that his department is on the verge of laying criminal prosecutions.

    While that may sound like a shark with big teeth, lurking beneath the surface, to date, there has been little bite –virtually no arrests, let alone incarcerations.  According to prosecutors, the goals in bringing criminal charges are threefold:  forcing structural changes, punishing bad behavior and pursuing individuals. In fact, deferred prosecution agreements prevail, where companies promise to reform and pay large fines in lieu of a guilty plea.

    First, let us look at the crimes.  I say “crimes” and not “alleged crimes”, as the banks have admitted liability.  Acknowledged acts include abetting tax evasion, money laundering, price fixing and bribery, to name a few.  The same firms bend the rules as well, inflating the price of commodities and colluding on interest rates.

    The punishment for individuals engaged in such activities would likely be imprisonment.  Most insiders who are caught trading on insider information go to jail.  These other crimes similarly create illegal profits, and should be prosecuted and sentenced the same way.

    In reality, these firms have “gotten away with” paying fines to various government departments without anyone serving jail time.  And who pays the fines? Not the execs, but the shareholders.  Considering that the role of these institutions is to safeguard deposits and investor capital, provide credit, advice and smooth capital markets, you would think execs would be prosecuted, fired and ostracized.

    Ironically, a large firm recently admitted having miscalculated the way securities are valued on its balance sheet, wiping out $4 Billion from its reserves, squelching it ability to raise its dividend and buy back stock, and causing the stock to decline 8% over the next few trading days.  My first thought was, “Isn’t the very definition of a financial services firm one that is made up of people who know finance?” Since the CEO’s pay was increased substantially in 2013 based on the firm’s alleged vigor and “growing” reserves, my second thought was, “The CEO should take a pay cut for sure or the CFO should be fired.”  I was wrong on all counts:  at the shareholder meeting a week after the admission, shareholders gave the CEO and CFO a pass and raised CEO pay by 17% to $14 million.

    Recently I served jury duty in New Jersey.  During the selection process for a personal injury case, prospective jurors were asked, “Do you know what tort reform is?”  I was a bit surprised that almost none of my peers knew what it was and I wondered if they did would they be in favor or opposed.  You can imagine that by not knowing, they were much more attractive jury candidates for the case! I was not.  I told the attorneys and judge that in addition to being an attorney, I know full well what tort reform is.  The judge asked me if I was for or against.  When I resoundingly answered in favor, I was nicely excused from the case.

    I bring this up because while there is pressure on the DOJ to bring criminal prosecutions on financial services firms, it seems the public and shareholders are complacent.  Laws are written to create social order, protect the rights and freedoms of citizens, promote justice and deter crime.  It stands to reason then that breaking laws harms society as a whole.  Trillions of dollars, millions of jobs, lives and families were lost and destroyed by greed and crime leading up to, during and after the credit crisis.  Stylizing deviant acts in Scorsese’s The Wolf of Wall Street does not begin to cure the loathsome behavior of the perpetrators, so either the government is toothless, or perhaps unmotivated.

    In the end, deferred prosecutions are the Malibu rehab of Wall Street: a well-intentioned but naïve form of tough love.  In order to cure the addiction to greed, nothing promotes cold turkey like the unpromising clink of prison bars.

  • If You Can’t Do the Time, Just Pay the Fine

    Thursday, February 20, 2014

    Inside the Vault Jordan Waxman Blog

    Image: Randy Glasbergen


    Imagine you park your car every day in front of a “No Parking” sign, amassing tens of thousands of fines, payable to the local municipality.  Imagine after paying these enormous penalties for your admitted wrongdoing that you ask your accountant to deduct them from your taxable income, thereby lowering the amount of tax you owe the government.  Sound ludicrous?  Of course.

    Now imagine you are a large financial institution that avoided its risk management, anti-money laundering, regulatory and administrative duties and paid individuals, the government and its agencies over $20 billion in 2013.  So egregious were these violations that the government still may levy criminal sanctions.  Should the bank be able to write off the fines against taxable income, as a “cost of doing business?”  Ironically, it can, and it is making some Congressmen and plenty in the financial services industry burning mad.

    In late October 2013, reps Gutierrez (D-IL) and Welch (D-VT) re-introduced H.R. 3445, aka the Stop Deducting Damages Act of 2013 and sent it to the House Ways and Means Committee for consideration.  The bill’s purpose is “To amend the Internal Revenue Code of 1986 to disallow deductions for the payment of compensatory and punitive damages to a government, and for other purposes.”

    This was the second try for Mr. Welch, having amended an earlier version of the bill.  These irked Congressmen were livid that a certain “too big to fail” institution, which helped Bernie Madoff move $150 Billion through its coffers over decades, would be able to lower its corporate taxes.  This double standard is effectively double whacking the taxpayers by first helping to create the worst economic depression in history and then getting a tax break for ‘fessing up’ to it.

    The bank CEO’s pay package was raised a mere 74% in 2013, approved by the Chairman, who some time ago negotiated his own $400 million retirement package from a Fortune 100 company.  The government no longer controls most financial institutions’ executive compensation, so that issue remains up to shareholders to address.  However, as long as the economy gradually improves, interest rates and stock prices tick higher and the fines are viewed as a cost of doing business, what can shareholders expect to accomplish?

    Regulation has increased and yet the malfeasance continues.  What H.R. 3445 needs is a little bipartisan support and much more power behind the message.  For now, on Wall Street, if you can’t do the time, just pay the fine.

  • If it Quacks like a Duck

    Monday, January 13, 2014

    Jordan Waxman Blog

    Image: Leo Cullum


    The other day I asked my partner, Rich – a former Research Analyst — the following hypothetical:  if I found a company that was the darling of many storied investors, and that company made, say, pain relievers, bandages and candy…and it was discovered that the management failed to notice, or was complicit in the act of ignoring the FDA’s rules around the safety of the pain reliever, made bandages with cheap dissolving glue and candy with toxic ingredients…and paid tens of billions of dollars in fines and penalties for that bad behavior…would you say this was good management or bad management?  Would you ever work for that company or invest in it?

    These were rhetorical questions, of course, but Rich gave me an incredulous look and said emphatically, “Not a chance!”

    For the past five years, since the fall of Lehman Brothers, the SEC, FINRA and the Department of Justice, in addition to State regulators and Attorneys General, have been suing for and recovering hefty sums from financial services firms.  It seems the practices that led to an overextension of easy credit and a bubble in housing markets, followed by the implosion of credit and stock markets were promulgated and accelerated by these firms.  They hyperactively leveraged, lent and securitized assets to grow profits, disregarding proper standards and procedures.  Simply put, they wronged investors, clients, taxpayers and society.

    One would think that after frenetically gearing up, lending and securitizing assets to grow profits, disregarding proper standards and procedures, the financial services firms at the heart of the recent credit crisis would shape up.  After all, they harmed investors, clients, taxpayers and society and have paid massive fines for their wrongdoings.  However, even after receiving government bailouts and favorable resolution of liabilities, the shenanigans continue.  For example, one of the largest “Too Big to Fail” institutions claim it was hedging its own risk while its traders racked up enormous risk, resulting in a $6 billion loss.  See my blog:  “Institutional Trading—The Whale and the Sharks.”

    This same firm recently agreed to pay the government a penalty of $920 million and another of $13 billion and admitted they broke laws.  The smaller probe into the bank accused it of “unsafe banking practices, misstating financial results and lacking sufficient controls.”  This is like probing a toy company for using lead paint and asbestos in their action figures! The CEO—who received $18.7 million in compensation last year– in unison with his Board, claimed the firm was now, “Smarter, Stronger, and Better.”  Thoughts of Lee Majors in the Six Million Dollar Man ran through my mind… “We have the technology.  We can rebuild him!”

    So, was this the work of rogue employees? Were the traders misguided or simply greedy? The answer is all of the above, but the bald-faced truth is that they were arrogant, and their firms support a culture of arrogance.

    The firms and their leaders have been in the headlines month after month, either for calling their clients “Muppets”, for robo-signing mortgage forms, shuffling tons of aluminum among dozens of warehouses to jack up storage fees, spending millions to revamp executive offices, or issuing hubris-laced statements like having now created a “bionic bank” while client service is but a vestige of what it used to be.  See my blog “Not Just Bank Tellers in Dubuque.”  These companies have ingrained in them a belief system which encourages management and employees to act in a way superior to their clients and to answer to no one, rather than a culture in which one serves humbly at the pleasure of their clients.

    This is not just shameful and deplorable behavior, it is endemic.  CEOs of financial services firms have lost touch with this simple principle: do what is in the best interest of your clients, and your own success will follow. That is the culture of a fiduciary relationship between advisor and client.

    Finding a sucker to buy snake oil is as easy and as old as the Bearded Lady at Barnum and Baileys herself.  Building a culture of accountability for doing what is right takes unanimous adoption of values around serving the interests of clients with an undivided loyalty.

    My partners and I worked at some of the firms to which I alluded in this blog.  In the early days we felt their leaders were honorable and noble and treated clients with deference, humility and professionalism.  Today, it appears the flock have lost their way.  Conversely and refreshingly, HighTower is committed to accountability for doing the right things and to the fiduciary standard.  The executives and partners know the right way to run a financial service business.

    Investors and private clients have a choice.  If they want to work with or make investments in companies that are socially responsible, well managed and put their clients’ interests first, there are plenty of birds of that feather.  However, if it does quack like a duck, it is probably a big canard.

  • The IPS – A Business Plan For Your Wealth

    Thursday, October 10, 2013

    Business Plan - Jordan Waxman

    Image: Ted Goff


    Successful CEOs run companies with business plans.  Good business plans are both comprehensive and flexible.  They spell out the purpose of the entity and its divisions, assigns roles for the execution and oversight of projects as well as the management and care of employees.  Traditional plans outline strengths, weaknesses, opportunities and threats confronting the business and it core competitive advantages in the marketplace.

    CEOs manage and grow according to these plans, and involve management and employees in business direction and the regular review and modification of the plan.  However, when it comes to their own family wealth and the decisions around investment, wealth transfer, retirement, tax and insurance planning, few CEOs have a well-articulated plan.

    The Investment Policy Statement (“IPS”) is the document most fiduciaries, investment consultants and Certified Financial Planners produce as the comprehensive “business plan” for substantial wealth.  Most institutions, whether regulated (for example, Taft-Hartley) or not, are required to have an IPS in place and to review it regularly.  Boards of Directors of endowments, foundations and pension plans may have a legal duty to follow these directives, and many also fall short of this requirement.

    The Investment Policy Statement is a custom-tailored document for the proper oversight, management and stewardship of substantial pools of assets.  The IPS enumerates the specific biographical information and influences of the individuals, their cash-flow, liquidity and other needs, investment biases, restrictions and objectives, and assigns roles and responsibilities to the parties under the plan, including communication guidelines and timetables and performance benchmarks and metrics.

    Whether or not an obligation exists to use an IPS, having a well-crafted plan is simply a best practice of those who view their wealth with a holistic or long-term view or who think deeply about the values they espouse and how to transmit those in a legacy to family members.

    Those who believe they can stay on top of the complexities of overseeing their own wealth should consider the following:

    CEOs have myriad professional responsibilities which limit the amount of self-directed investing and planning they may employ;

    1. They may lack the specific and current knowledge of tax, retirement, wealth-transfer, estate, trust and insurance planning, portfolio construction, manager search and selection and performance reporting which form parts of the IPS;
    2. With interest rates at historic lows and tax laws ever-changing, the costs of unpreparedness or inertia are high;
    3. Finally, unlike the days not long ago of stock and bond-brokers calling CEOs to execute commission-based trades, qualified holistic private wealth managers on whom to rely for a comprehensive suite of critical capabilities now exist.  These holistic managers are not simply asset gatherers, but rather are skilled in listening, drafting the IPS and providing advice and guidance on all the elements of the plan, as well as in constructing and executing “best-of-breed” investment solutions and delivering reliable consolidated reporting.

    Smart and successful CEOs take their businesses seriously enough to develop and adhere to business plans for their companies.  This ultimately leads to better decision-making and performance, nimble and flexible management in the face of changing regulations and industry trends, resource allocation and succession planning.  The same holds true when a properly drafted and executed IPS is employed for their family wealth.  The long-term financial success, ease of mind, and the fulfillment of one’s legacy are all by-products of proactive up-front IPS planning by qualified professionals.

  • The Perfect Flavor Is A Blend Of Spices

    Tuesday, July 9, 2013

    Inside the Vault Jordan Waxman Blog

    Image: Liza Donnelly


    This morning I had breakfast with a talented and creative client who has become a dear friend.  We talked about the trend for advisors to create “simpler” portfolios of mutual funds and Exchange Traded Funds (“ETF’s”) instead of using separately managed accounts (“SMA’s”). But what exactly are the differences between these investment vehicles and which one may be best for the individual investor?

    ETF’s are a burgeoning group of financial products that are designed to give the investor access to an underlying index or strategy through the purchase of a single stock.  For some investments, like commodities, it is normally difficult to buy and sell, because the futures market is generally limited to institutional investors.  So, buying an ETF to own for instance an interest in gold, agricultural commodities or palladium is easier and less costly.  Other ETF’s provide access to broad stock and bond indexes, and there are well-discovered areas of the markets in which passive indexes may be superior to active managers and should be considered.  Finally, there is a class of ETF’s that are 2x and 3x leveraged to the return of the underlying investment.  We do not use these, as they increase volatility risk and do not always work as advertised.

    The disadvantages of ETF’s are: 1. The investor cannot take delivery of the underlying investment, whether a portfolio of stocks or a bar of gold; 2. They are not very tax-sensitive.  In fact the advisor must actively sell and buy ETF’s to harvest gains and losses.  3. They often lack liquidity so the low cost of ownership is offset by higher trading spreads.

    Mutual Funds are pooled investments in funds over which the Registered Investment Advisor (“RIA”) has authority.  The investor owns shares of the fund, and inherits the unrealized gains or losses of the fund when buying in.  Mutual funds come in many flavors and one can even invest in strategies once in the purview exclusively of hedge funds, but now in mutual fund format, as well as in international strategies in local shares—something not normally achievable by the average investor.  Shares come in several classes, each with different management fees and placement or sales cost.  We typically own institutional classes that carry the lowest internal management fees, as we are also charging an advisory fee to search for, select and monitor the investments.

    The disadvantages of mutual funds are: 1. Not all investment managers issue mutual funds for their strategies.  Many boutique money managers only have SMA’s, so by focusing on ETF’s and mutual funds, the advisor avoids many managers with superior track records.  As a fiduciary, it is more important to deliver investment returns that satisfy client needs than reducing the number of accounts to administer.  2. The all-in cost of mutual funds is often higher than that of SMA’s, and 3. The mutual fund investor gets capital gains (and income) distributed on a n annual basis, whether or not he or she actually has a gain in net asset value of the fund from the time of purchase.

    SMA’s are separate accounts over which the Registered Investment Advisor (“RIA”) has discretion.  The client signs one or two contracts, depending on the advisory platform, and the RIA has unique authority to buy and sell securities in a discreet account, for a negotiated fee.  The client owns all the underlying securities, unlike owning shares of an ETF or mutual fund.  As the investor owns the underlying securities in an SMA, it is the most tax-sensitive–easier to harvest gains and losses to reduce a client’s capital gains exposure.

    The downside to owning SMA’s is that it creates another account to track.  However, if an advisor provides robust consolidated reporting and takes the time to educate the client on how to understand and internalize the report, it may be harder on the advisor to administer, but beneficial to the client.

    ETF, Mutual Fund, SMA Graph 2

    This last point is the real crux of the conflict of interest.  An Investment Steward carefully screens for and selects the best potential investment, regardless of the structure, but takes into consideration the cost of managing the assets when comparing performance of various alternatives.  Many advisors pitch their clients on the simplicity of having two or three accounts per taxpayer, when in fact that allows the advisor to be offer less customization, and be an asset gatherer rather than an investment steward.

    Endowments, foundations, pension and other retirement plans are mandated to hire fiduciary investment stewards who focus solely on what is in the best interest of the client, not the advisor.  They have customized, broadly diversified plans which are agnostic to whether they own ETF’s, mutual funds or SMA’s.  It is the fiduciary’s focus on the time horizon, cash flow, preservation and growth requirements of the client that drive the decision on how to allocate capital.  It is not what allows a broker to streamline his business.

    Image: Liza Donnelly

Jordan Waxman is registered with HighTower Securities, LLC, member FINRA, MSRB and SIPC, and with HighTower Advisors, LLC, a registered investment advisor with the SEC. Securities are offered through HighTower Securities, LLC; advisory services are offered through HighTower Advisors, LLC.

This is not an offer to buy or sell securities. No investment process is free of risk, and there is no guarantee that the investment process or the investment opportunities referenced herein will be profitable. Past performance is not indicative of current or future performance and is not a guarantee. The investment opportunities referenced herein may not be suitable for all investors.

All data and information reference herein are from sources believed to be reliable. Any opinions, news, research, analyses, prices, or other information contained in this research is provided as general market commentary, it does not constitute investment advice. Jordan Waxman and HighTower shall not in any way be liable for claims, and make no expressed or implied representations or warranties as to the accuracy or completeness of the data and other information, or for statements or errors contained in or omissions from the obtained data and information referenced herein. The data and information are provided as of the date referenced. Such data and information are subject to change without notice.

This document was created for informational purposes only; the opinions expressed are solely those of Jordan Waxman, and do not represent those of HighTower Advisors, LLC, or any of its affiliates.