There are several elements of this recession that bother me. This discomfort and irritation stems from the lack of understanding I have regarding them. They don't make sense to me, and I don't see why they should make sense to anyone.

The first is AIG. They'll be paying out $165 million in bonuses to 370 people who are largely responsible for tanking the company. Now that seems unthinkable, idiotic, and stupid but hold your judgement. They're only paying the bonuses because they are contractually obligated to. Wait, what?

For the common worker, a bonus is something they get when they work hard and deliver for the company above and beyond the call of duty. It's an optional reward, usually tied to a specific, tight deadline or milestone. The average office worker is never guaranteed a bonus, they have to sweat for them. That's the whole point of bonuses, excel and you can reap the benefits. It's a pat on the back for a job well done, a reminder that companies value those who put in their best effort.

What in the name of sanity was AIG's HR department thinking when they made "bonuses" a contractual obligation. How can you even call it a bonus? I don't understand how that works or makes sense. It defeats the entire purpose and concept to award people who seriously fubar'd the company and economy such lofty sums.

The second confusion is short selling. I want to make sure I have this concept down. You borrow someone else's stock, which you don't actually own, and sell it. Then you rebuy it at a later date and give it back to them. You're betting the stock will drop, so that when you rebuy the price will be less than it was when you sold.

First issue: Whose stock are you borrowing? I want to know, because the idea that some creep can use my stock for such things is terribly upsetting. I can't walk into someone's house and sell their antiques, promising to buy them back later. It doesn't work that way.

Second issue: Doesn't this create a self-fulfilling prophecy of sorts? Say Mr. Financial Guru suggests short selling stock A. A whole crapton of people follow his suggestion and low and behold the stock drops. Tadah, short sellers make money, while whoever was actually holding on to the stock loses.

The financial markets are seriously whack. Seriously.


360 Trooper said...

Contractual bonuses are one of the perks of being an executive, much like being able to dip into corporate accounts so you can fly to Thailand and have sex with an 11 year old boy. In case you haven't noticed, corporate America is a country club. You can even call it an aristocracy. Sure, the lower ranking executives may have started as regular office workers, but the upper echelons were recruited straight out of business school because their uncles were all chief executives of one branch or another. Everyone is indebted to everyone else and at least half of them are related by blood or marriage. Of course, there are exceptions. The more successful companies tend to headhunt the best and brightest in the industry, while the long term failures are wallowing in their incestuous nepotism.

But if you want something really creepy, there was one bank (I forget which one) that encouraged employees to seek positions in "public service." As such, several of the people in charge of the bailout plan under Bush Jr. were former employees of the banks they were sending federal money to.

Magellan the Red said...

1. The amount of a contractual bonuses is not fixed at the time the contract is made. It depends on the performance of the company or some aspect of the company which the executive influences. They are still cushy, and the executive can rake in $$$ without doing much, but there's generally _some_ way, however unlikely, that if the company or individual screws up then the bonus is lost.

In this case, what with Uncle Sam wading in and providing cash, presumably the resulting balance sheets looked good enough that when the contracted formulas for bonuses were calculated, lo and behold lots of people had to get lots of money.

In my opinion the guy running AIG was ill-advised to slavishly follow the contract law, and thereby antagonize 300 million people.

2. The short seller isn't borrowing your stock unless your stock is on deposit with a broker such that your agreement with the broker allows them to lend out your stock. Don't know how common that is. Anyway short selling depends on a broker having stock _and_ being willing to lend it to you. They get a commission on short sales which helps make them willing.

3. You're combining two self-fulfilling things here. The guru who recommends selling (or short-selling) a stock does cause the stock to fall. He/she may have a financial interest in making it fall, which is why on reputable financial news sources the advisor always discloses whether or not he/she owns the stock.

The other self-fulfilling thing is that if you're powerful enough to short-sell a huge block of stock that's going to cause the price to dip. And if somebody notices that that stock is falling thay may think that is a trend, and sell their stock. This kind of thing can snowball, and enable the first person who did the short-selling to buy back the stock cheap and make a bunch of money. These self-fulfilling effects have been quite well known for many years, so people are on the lookout making them hard to exploit successfully.

Matoushin said...

I appreciate the explanations. I can consider myself somewhat more enlightened regarding the convoluted and miresome practices of the financial industry.