Wolf Richter: Financial Engineering Wildest Since The 2007 Bubble

Lambert here: Tapeworms at play.

By Wolf Richter, a San Francisco based executive, entrepreneur, start up specialist, and author, with extensive international work experience. Originally published at Testosterone Pit.

Financial engineering had a glorious year in 2013. The last time we had this much crazy fun had been in 2007. Back then, Merger Mondays were hot on CNBC. Deals, no matter how large and how insanely leveraged, were announced with great hoopla. Rational people were seen shaking their heads at incongruous moments. Stocks were defying gravity. That was the last time we had this much fun because the bubble collapsed, and some of its detritus was skillfully heaped on the Fed’s balance sheet or on the taxpayer’s shoulders.

But now finally, after five years, the crazy fun is back, and the good thing is: this time, it’s different. This time, the smart money is selling!

In total, 229 IPOs were priced in the US in 2013, up 58% from last year, raising $61.3 billion, the highest amount since 2007, according to Dealogic. Stocks of companies that went public this year saw their prices soar on average 61.6%, compared to the already dizzying 38% of the Russell 2000 Growth index and the 27% of the S&P 500 (Renaissance Capital, chart).

In terms of dollars raised – not hype generated – the largest deal was Houston-based pipeline outfit Plains GP Holdings LP, which raised $2.9 billion in October. Who was selling? The smart money! Among them, Occidental Petroleum, The Energy and Minerals Group, Kayne Anderson Capital Advisors, and of course the smartest of them all, the executives.

Hilton’s IPO, which raised $2.7 billion in December, was in second place. Blackstone had taken Hilton private during the LBO frenzy in 2007 in a mind-bendingly leveraged deal for $26.7 billion, including debt. For how this came about, read David Stockman’s trenchant and scathing analysis: Bernanke’s (Untough) Love Child: The $27 Billion Affair at the Hilton.

Pfizer unloaded animal-medicine subsidiary Zoetis in January, raising $2.2 billion. In fourth place, finally a Silicon Valley hero, and certainly number one in hype, Twitter. It still hasn’t figured out how to make money, but it raised 2.1 billion. Natural gas driller Antero Resources, controlled by Warburg Pincus, raised $1.8 billion.

It was a huge year for IPOs. We knew it would be. We’ve been informed. “We’re selling everything that’s not nailed down,” explained Leon Black, CEO of private equity giant Apollo Global Management back in April. The smart money has been busy doing that. And not just through IPOs….

Global junk-bond issuance rose 12% from last year, to an all-time high of $477 billion. It was powered by veritable frenzy in Europe where deal volume surged 54% to $122 billion. In the US, the taper tantrum over the summer caused junk bonds to dive, a harbinger for things to come when the Fed actually stops buying bonds, rather than just talk about it. In May, it still looked like a record year. But with turmoil rippling across that space over the summer, volume for the year dropped 6% to 260 billion, from last year’s all time high of $275 billion.

Who made the big bickies, as my friends from down under might say? Card-carrying financial engineers. In the US, investment banking fees rose 12% to $36 billion, about matching the previous record set during the bubble of 2007. In Europe, fees rose 10% to 18 billion.

But there was a fly in the ointment. Asia Pacific had its worst year since the crisis of 2008. That includes Japan despite its money-printing binge whose magnitude trumped anything that even the Fed in its reckless splendor has dared to do. While M&A dollar volume rose 11% due to some large deals in China, activity fell 12% to the lowest number of deals since 2006. Volume in the debt capital markets plunged 15%.

There was another problem in Asia: competition. Banks that had piled into the space competed ferociously, which put downward pressure on fees. So, investment banking revenues dropped 10% to $11.7 billion – a grizzly 26% below the peak year of 2010.

Despite the debacle in Asia, global investment banking fees rose to $73 billion. And that too was the highest since the bubble year 2007, when investment banks pocketed $90 billion. Think of how much more fun could have been had if Asia hadn’t dilly-dallied around.

And who got the lion’s share of these fees? JP Morgan gobbled up 8.6% globally and Bank of America Merrill Lynch 7.5%. They were followed by Goldman Sachs, Morgan Stanley, and Citigroup. For the first time since 2009, the global top five were our too-big-to-fail friends on Wall Street. The top ten were rounded out by Deutsche Bank, Credit Suisse, Barclays, Wells Fargo, and UBS.

They’re all celebrating their phenomenal success in extracting massive fees from a wheezing economy that has been barely wobbling along. But it’s also a warning signal: Financial engineering looks good on paper for a while, and the markets love it, and the hoopla makes everyone feel energized, especially those who take the cream off the top, and it feeds off the nearly free money the Feds hands to Wall Street. But after these financial engineers are done extracting fees and altering the landscape, they move on, leaving behind iffy debt, shares of dubious value, wildly growing tangles of risk, and other detritus. And a lot of these financially over-engineered constructs won’t make it in an environment where money isn’t free anymore. 

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About Lambert Strether

Readers, I have had a correspondent characterize my views as realistic cynical. Let me briefly explain them. I believe in universal programs that provide concrete material benefits, especially to the working class. Medicare for All is the prime example, but tuition-free college and a Post Office Bank also fall under this heading. So do a Jobs Guarantee and a Debt Jubilee. Clearly, neither liberal Democrats nor conservative Republicans can deliver on such programs, because the two are different flavors of neoliberalism (“Because markets”). I don’t much care about the “ism” that delivers the benefits, although whichever one does have to put common humanity first, as opposed to markets. Could be a second FDR saving capitalism, democratic socialism leashing and collaring it, or communism razing it. I don’t much care, as long as the benefits are delivered. To me, the key issue — and this is why Medicare for All is always first with me — is the tens of thousands of excess “deaths from despair,” as described by the Case-Deaton study, and other recent studies. That enormous body count makes Medicare for All, at the very least, a moral and strategic imperative. And that level of suffering and organic damage makes the concerns of identity politics — even the worthy fight to help the refugees Bush, Obama, and Clinton’s wars created — bright shiny objects by comparison. Hence my frustration with the news flow — currently in my view the swirling intersection of two, separate Shock Doctrine campaigns, one by the Administration, and the other by out-of-power liberals and their allies in the State and in the press — a news flow that constantly forces me to focus on matters that I regard as of secondary importance to the excess deaths. What kind of political economy is it that halts or even reverses the increases in life expectancy that civilized societies have achieved? I am also very hopeful that the continuing destruction of both party establishments will open the space for voices supporting programs similar to those I have listed; let’s call such voices “the left.” Volatility creates opportunity, especially if the Democrat establishment, which puts markets first and opposes all such programs, isn’t allowed to get back into the saddle. Eyes on the prize! I love the tactical level, and secretly love even the horse race, since I’ve been blogging about it daily for fourteen years, but everything I write has this perspective at the back of it.


  1. ambrit

    Thanks for reminding me why I stopped playing the stock market. All those insiders getting rich. Wasn’t that one of the reasons the SEC was created in the first place? One good thing about “Corrections.” They don’t play the regulatory capture game. They just plain don’t take prisoners, period.

  2. Adriannzinha

    Therein lies the key: “in an environment where money isn’t free anymore”.

    Borrowing now – for the huge institutions and corporations is easy and leads to very lucrative exploits in financial engineering as the article suggests. Yet it also reflects how the apple is quite rotten at the core: CapEx will not be growing anytime soon and long-term growth requires that very missing ingredient. Right everything is buttressed on goosing the denominator (the “E”) via cutbacks, buybacks, etc while the topline (the “R”) continues to stagnate or in many cases shrink. Throw in an ever shrinking workforce – it was as high as 67% less than 10 years ago and now we are teetering at 62,5-63 – and none of this is encouraging.

    It will be rather fascinating to watch as the central banks themselves are implicated given their ever-growing balance sheets. The Fed’s balance sheet is now bigger than the entire GDP of Germany, one of the top 5 economies in the world.

  3. Murky

    There’s a link in Richter’s article to David Stockman’s exposé on the financing of the Hilton hotel chain. Stockman excels at description of fraudulent financial engineering. And he makes clear how the Federal Reserve has been an accomplice to the the very worst actors on Wall Street. It’s a good read!

  4. GRP

    The stock markets have always been an engineered game. Sensing there was no chance of any real growth or recovery after the last financial crisis, Central Banks all over the West tried to keep up the myth of unending growth in prosperity for a while longer by propping up the asset markets. Not sure how long this will last, but when this bursts as it inevitably will, everyone can stop pretending about economic recovery, growth. Economic growth may still take place, but first a huge contraction has to happen.

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