Archive for March 14th, 2008

Where are the customer’s yachts?

March 14, 2008

The more and more I read about this sub-prime crisis and recent developments in India’s financial sector, the more I think- where are the customer’s yachts?

For the uninitiated, ‘Where are the customer’s yachts?’is a title of a finance classic written by Fred Schwed in 1940. This website explains:

He noticed that all the stock brokers, investment advisors, and fund managers had yachts. Obviously there was money to be made on Wall Street! But how about the customers? Where were their yachts? Wasn’t the financial services industry supposed to help the customer get rich?

The purpose of the financial services industry, on Bay Street and Wall Street, is not to enrich the customer. The purpose is to extract fees from the customer. The sooner you, the customer, figure this out, the sooner you start asking the right questions, the sooner you will be on your way to buying your own yachtrather than someone else’s.

Stock brokers, investment advisors, financial planners, and fund managers don’t get to buy yachts because they are great investors who know better than you what companies to invest in. Ultimately, they get to buy yachts because they’re great salesmen, who have perfected the art and science of extracting trading fees, spreads, commissions, service charges, trailer fees, expense ratios, administration fees, you get the idea.

It is funny that this was written in 1940 and little has changed since then. One of the main reasons for the recent subprime crisis was the search for better yachts (read incentives).

Before Rajan made a case for this rising search for yachts, it was a fact known long ago and nothing seems to have changed since then. Moreover, the nature of derivative markets is such that the hedge fund managers will continue to have their yachts. There is little wonder why John Bogle criticises the financial sector despite being from the same.

There is a remarkable correlation how this is true across the world. The cities that have financial centres like NewYork, Tokyo, London, HongKong , Mumbai are also the costliest places in the world. So, the organisation has to make enough money to first, afford to have offices and second to pay the employees so that they can manage a living. And we all know both the factors are managed really well.

We keep saying markets are getting efficient but the reality is different. If the markets were getting efficient we would see little purpose in having investment managers. But what we see is the opposite. The search has gone beyond yachts and now we have ranches, private jets etc. Moreover, they can under-perform and offer to resign, atke the severence package and join another firm taking home a bigger set of incentives.

There is still a lot of money being made and that is why we see top paying jobs being created in the finance sector and new firms being launched. I wonder what the efficient market proponents have to say on this development.

Assorted Links

March 14, 2008

1. WSJ pointsto a report which says possibility of intervention to support falling USD are rising. It also pointsto a Myron Scholes solution to prop up banks.

2. Check out this blog on behavioral economics by Dan Ariely. Lots of food for thought.

3. MR on trade-offs and points that Adam Smith’s house is on sale


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