15 February 2009

Hate the Game, Not the Players...

The year is 2005. You are the CEO of a $50 billion bank. You crunch the numbers and realize that there is no possible way that: a) there are enough qualified home buyers to justify the number of new housing starts; b) housing prices are rising so much faster than wages that there is no way for people to continue to be able to afford them; and c) investments in subprime and alt-a loan packed mortgage backed securities are soon going to backfire horribly. You look at the data over and over again and come up with the same conclusions.

Things are good, though. Your stock price is up. Your investors are being rewarded. Your bonuses have been out of this world. And your bank has been making record profits for three consecutive years.

What do you do? Do you pull out of the mortgage business? Do you invest in less risky, and less rewarding investments? Do you go to Congress and say, "Woah...something really bad is going to happen if we don't put a stop to this!"?

For the first time in this blog's life, I'm going to defend the bankers. I argue that most bankers had little choice but to continue doing what they did. A bank's job is to maximize profits for shareholders. Banks were making record profits off of the gravy train of the real estate bubble. So were their investors. If a large bank's CEO were to decide to pull out from this line of business, their financial performance (though it would still be strong) would have lagged dramatically behind the competition. What would that mean? Lower stock prices, and the loss of his/her job. If a bank CEO made any of the above moves, he/she would be replaced with someone who believed in never-ending record profits. Boards don't like pessimists...nor do investors.

It's easy to vilify bankers...especially these days. But the problem here is even the banks that played it relatively safe have paid a heavy cost. Hate the game, but don't hate the players. There aren't enough fingers in North America to point out all of the people responsible for the mess we're in. Bankers were simply doing their jobs.

This is yet another reason I'm glad we have credit unions.


Jeff_H said...

This may be the ultimate left-handed compliment ...

Derivatives expert Satyajit Das, in an interview with MSN Money Columnist Jon Markman last year ...

I asked Das how so many U.S. banks could have been so stupid that they made the same losing bets on subprime mortgages at the same time in the middle of this decade. He laughed and noted that bankers may dress well, but they have been lemmings from time immemorial. To make his point, he quoted John Maynard Keynes. In 1931, amid the Great Depression, the famed British economist said: "A sound banker, alas, is not one who foresees danger and avoids it, but one who, when he's ruined, is ruined in a conventional and orthodox way along with his fellows, so that no one can really blame him."

Christopher said...

Great post! The lemming syndrome is one of the unfortunate side effects of the way corporate reporting is currently handled. Our way of handling quarterly reporting forces companies to think short term and there isn't really a way for a corporation to tell its investors, "Well, we're lagging behind every one of our competitors, but we'll catch up. Honest. Trust us."

What do you think? Time for reform?