If there was a crucial tile in the Jenga Pile o'Shit (also known as the recent financial meltdown), it was the cratering of Bear Stearns stock. I can't have been the only one who thought, "Damn if I had only shorted Bear Stearns...." Turns out some anonymous investors did just that under some...unusual circumstances:
As the story lacked prurient interest, it was left to Bloomberg.com to
unearth persuasive information that the Wall Street firm was seemingly brought down by a conspiracy that netted its participants a profit of upwards of $250 million on an investment of $1.7 million in a week or so. Nice work, if you can get it.
The putative conspirators, whose name or names have not been made public, pulled off their heist with ease. They bought a bunch of what Wall Street calls "puts." A put is a piece of paper guaranteeing its owner the right to sell 100 shares of stock at a stated price within a specified period of time. In the case of this bank job, the period of time was as little as five days.
With Bear Stearns stock selling at over $60 a share, somebody bought the right to sell almost 6 million shares at $30 a share. To make money on these puts, the price of Bear Stearns stock would have to lose more than half its value fast. In fact, in the days immediately after the unknown person or persons bought all those puts, Bears Stearns stock dropped like a duck shot out of the sky, to a price of $10 a share or less. The persons behind the scheme then bought Bear Stearns shares at $10 or less and exercised the puts, thereby selling them for $30 and pocketing the difference.
How could someone know that in a matter of days the fifth-largest trading house on Wall Street would see the value of its stock drop to next to nothing?
...Matsumoto quotes one broker as saying, "When you buy $5 strikes [puts] when the stock is trading over $50, you either have to be manipulating, or you have to have insider information." Another broker quoted in his report remarked, "Nobody in their right mind would buy that put unless you knew what was going down."
...At a crucial moment when rumors were rife on Wall Street that Bear Stearns customers would not be able to withdraw their money, the stock market was hit by a large number of orders to sell Bear Stearns stock. That augmented the force of the rumors of insolvency already working to depress the price, even as panicky customers fell over one another getting their money out. There are too many disastrous coincidences here to be explained just by bad luck.
As you might expect, the perpetrators are being protected:
The name of the bearer of this bad luck remains hidden. A spokeswoman for the Chicago Board of Options Exchange, where the puts were bought, has refused to tell Bloomberg the name.
We know the name of the mother of the baby John Edwards did or did not sire, but we are in the dark as to who may have authored the scheme that cost thousands of people their jobs and their savings and that gave the financial markets a major kick down the mountain, a fall that will continue to take millions of us with them.
Somebody needs to issue some subpeonas.
I guess I'm asking myself the following question: if the only reasonable explanation of why someone would spend so much money on such an unlikely incident -- UNLESS they had inside information (which is illegal) -- why is it even allowable?
Meh. If it hadn't been Bear Stearns, it would have been somebody else. Maybe not that week, but not that long after... You can't base your entire economy on an elaborate Ponzi scheme without it eventually collapsing. Every one I know in finance has been predicting this kind of thing for years.
As for the suggestion that all is not entirely above board, and that certain well-placed players are making huge fortunes out of the collapse... I'm shocked, shocked I tell you! Next you'll be telling me that those "Earn a million in your spare time" seminars aren't all they're cracked up to be...
The whole system is a racket. It was designed as such.
What is illegal is the insider trading. Put options are normally used as a form of insurance to protect against swings in prices (not just stock think commodities and currency as well)
I sometimes think the whole stock market is broken. Shares have gone from being, well, shares in a business to goods in their own right. People aren't interested so much in whether a business is succesful, but what the stock price is going to do.
Thing is, as quoted above everybody thought that was an absolutely ridiculous put, unlikely in the extreme to work. Which means the puts were very, very cheap. Doesn't have to be anything illegal going on; just a group of people placing am inexpensive side bet on a long shot.
From the quoted story
To make money on these puts, the price of Bear Stearns stock would have to lose more than half its value fast.
That's factually false. The price of an option is in part determined by the volatility of the underlying stock (variance, standard deviation) as well as by the distance to the strike price. Constant distance to strike and sharply increased vol equals increased value of the puts. With American style options One doesn't have to wait until the stock price falls below the strike price to make money on puts by exercising them (or the reverse on calls). You can just sell the puts (provided there's a buyer out there, which there may not be, in which case one waits and exercises them).
Second, Nassim Taleb for years has had a very disciplined approach to taking advantage of situations where a melt-down is not unlikely (based on public information) and it wouldn't surprise me a bit if he was one of those buying far out-of-the money puts.
One possibility (although I'm more likely to believe it was insider trading) is that it was just a gamble by some rich person or people. If you approach a sporting event where there's some long odds that you think might be too long you might put $10, or even $100, on the long odds, because that just isn't much money and the upside, if it happens, would be great. This was $1.7 million. That means for it to be like $100 to me the person or people would have to have a couple hundred million in net worth -- not all that uncommon nowadays.
If you take a fairly standard "up to 5%" of your investment total for speculative trading, you'd need even less in net worth. So for a person with, say, $200 million, this would be a pretty speculative investment of less than 1%.