MAY 11, 2012

THE ECONOMIC TIMES

Ec o no m ic a
Group Think

: Whacky research

N e w Gur u
ROB PARSONS
Place of Work:
Care for the Family

Bo o k Re v ie w
ales Growth emphasises an important S point: sales needs to play a greater role in management discussions, especially in a post-recession world. As the people who slug it out on the frontlines, sales executives and managers will find this book a useful guide to understanding the changing nature of their function. The authors Baumgartner, Hatami and Ark, partners of McKinsey & Co.'s Vienna, Paris and Detroit's offices, have a lucid writing style, and make their point with case studies including Coca-Cola, Vodafone, Novartis, Google and salesforce.com. All in all, around 120 sales leaders from various organisations share their ideas on the opportunities and challenges in creating the perfect sales machine. The book proffers a wide range of lessons for senior sales executives, from tips to mine less-than-obvious opportunities to customer-focused selling, optimisation of back-end functions and technology, performance management for the sales force and leading sales from the top. The voices of the managers in the book add up to provide clear and compelling strategies for selling better.

The Big Bulls play together, literally. Sociologist Brian Uzzi of Northwestern University in Evanston, Illinois, and colleagues analysed all trades taking place in a single firm of 66 employees over 2 years, according to a Science Now report. Stock trading firms show remarkably similar behaviour. As is usual in trading firms, the employees specialised in different markets-housing, autos, or health care, for example-so they had no obvious incentive to copy one another's behavior. The magazine reported, each trader typically bought or sold stocks about 80 times a day, which the researchers allotted to second-long time windows. A 7hour working day is roughly 25,000 seconds, so the chance of one employee's 80 trades randomly synchronizing with any of his colleague's is small. Yet Uzzi's group found that synchronous trading-that is, two or more employees trading in the same second-happened as often as 60% of the time. They blame group instincts and messaging for this herd mentality but the interesting thing was that it also meant they are in sync with the market and their chances of making money were greater.

The Big Idea:

There is more to life than work. Once a high-flying corporate lawyer, Parsons is today one of the top advocates for work-life balance. Not a corporate guru in the traditional sense, Parsons has been focused on driving home the importance of putting family at par with, if not above, your career. Most times it takes a minicrisis for people to realise this for themselves and Parsons hopes to drive this message home without you having to learn it the hard way.

Books Written:
The Sixty Minute Father, The Money Tree Name of the book: Sales Growth: Five Proven Strategies from the World's Sales Leaders Author: Thomas Baumgartner, Homayoun Hatami, Jon Vander Ark Publisher: John W iley & Sons, Inc. Price: 236

The Pitch:
Next time your boss tries to guilt-trip you into working on a holiday or cancel a family holiday, remember that in the long run, you will value the time spent with the family much more than working overtime on that one project.

Sa tya j i t Da s

n his 1933 inauguration address, Franklin Roosevelt attacked the 'callow and selfish wrongdoing' in banking and business. Roosevelt told the crowd of over 100,000 that attended that the 'rulers of the exchange of mankind's goods have failed' and that 'unscrupulous money changers stand indicted in the court of public opinion'. Some 80 years later, the money changers have not 'fled their high seats in the temple of our civilisation'. 'Ancient truths' have not been restored to that temple. Something corrupt and rotten continues to fester at the heart of high finance, economic life and, indirectly, modern society.

G reg Smith's sensational resignation fromone of the world's biggest i-banks exposes a saga of callousness and greed too shocking to believe

Mr. Smith Speaks...

On 14 April 2012, former Goldman Sachs Executive Director Greg Smith recorded a very public and sensational exit interview in the opinion pages of the New York Times. The letter criticised 'toxic and destructive' practices and cultures within Goldman Sachs, one of the world's largest and most influential investment banks. The criticism focused on practices that exploited clients and put the interests of the bank first. It alleged a culture that was focused on getting clients to invest in securities or products that Goldman was interested in getting rid of. The letter highlighted the use of complexity to confuse clients and the focus on highly profitable and (sometimes) unsophisticated clients who did not fully understand the risks of the transactions that they were being encouraged to enter into. The most noteworthy farewell speech since the film Jerry Maguire has been parsed as an expose of the alleged practices of his former employer. It is more subtle, highlighting a deeply flawed financial system as well as the poisonous and brutal culture of modern financial institutions. Unfortunately, it is doubtful that it will follow the same trajectory as Frank Capra's 1938 film Mr. Smith Goes to Washington, about a single honest man's effect on American politics.

his old firm to address identified culture issues, Smith's cri du coeur could be seen as an interesting career strategy at a time when antiWall Street sentiment is high and financial institutions are shrinking.

M r Smith Leaves G oldman Sachs

The shift was cultural as well as economic. In her 1999 book Goldman Sachs: The Culture of Success, Lisa Endlich, a former Goldman Sach employee on the trading side, makes snide comments about the 'feeble and hidebound' traditional investment banking culture, with its focus on the client. The trader culture, which Endlich celebrates, involves a transactional business model which is isolated from clients and highly resultoriented. Deals and profits dominate at the expense of client interests and relationships, a practice known as 'scorched earth banking'.

An Interesting Conflict...
Whatever Smith's motivation, the accusations raise real issues, just not the ones being discussed. The central problem is the in-built conflict of interest in the current banking system between acting in the interest of a client and trading on the bank's own account. In the 1990s, investment banking shifted from a client-focused business (providing advice, underwriting securities and executing purchase and sales of financial instruments) to a business trading on the firm's own account using shareholder capital. The change was driven by the growth in size and capital resources of investment banks, as they evolved from private partnerships into public companies or units of large commercial banks. It was also driven by shrinking margins on traditional activities, such as lower commissions and underwriting fees, and the need for new sources of revenue to meet investor return expectations. Investment banks feared that the separation of client business and trading with its own capital would limit their ability to compete. Under CEO Lloyd Blankfein, Goldman Sachs embraced the conflict, emphasising intelligence from trading with clients and other banks to place bets with its own money . Major investment banks sought to become 'flow monsters', capturing a dominant proportion of trading volumes to assist their proprietary activities. To achieve this, banks used cross-subsidies to attract certain clients. Execution or market-making and credit facilities to finance large hedge funds that were a source of significant trading volumes were provided at subsidised prices. In an insidious process, this created pressure to increase trading volumes even further as well as increasing reliance on proprietary revenues to meet shareholder return targets. The best research was channeled to support proprietary trading. Client research increasingly became devalued, evolving into mere puffery a sales aid for selling products or the firm's inventory to the clients. Products were designed and sold to assist investment bank's proprietary traders to take positions, sometimes at the expense of clients unaware of the risks.

Questioning Mr. Smith...

Following publication, most press coverage focused on the use by Goldman Sachs staff of the term 'muppets' to describe clients. In reality, the term is mild. In his book about his experiences at Morgan Stanley, former derivative salesman Frank Partnoy captured the relationship between bankers and their clients more colourfully: 'The sell side (banks) hang up and say 'f*** you'! The buy side (clients) say 'f*** you!' and then hang up.' Smith's primary concern - the failure of Goldman Sachs to give priority to the interest of its clients - appears naive. He ignored the firm's history, perhaps choosing to believe the statement of Goldman Sachs CEO Lloyd Blankfein that the firm does 'God's work'. In June 1970, when Penn Central Transportation Company, the nation's largest railroad, defaulted on its debt, Goldman Sachs was found to have sold the company's debt to clients at face value when aware that the borrower's financial position was deteriorating. The investment bank forced the company to buy back its own holding of Penn Central debt. None of Goldman Sachs' customers were made a similar offer. In 2010, a Senate investigation and SEC action highlighted suspect practices surrounding the sale of mortgage-backed securities, known as the Abacus and Timberland, to 'widows and orphans'. The firm paid a record $550 million fine to the US Securities and Exchange Commission (SEC) to settle the allegations. In April 2012, Goldman Sachs paid $22 million to the SEC to settle charges that it allowed select clients to receive non-public information about stocks - a practice known as 'huddles' or 'asymmetric service initiative'. In both transactions, Goldman Sachs appeared to display a familiar disregard for client interests. Smith appears not to have done proper due diligence on his employer. It is also surprising that it took him some 12 years to identify the problems of Goldman Sachs. His personal motivation - stated as 'a wake-up call to the board of directors' - is unclear. The timing of his resignation in March 2012 was presumably to ensure that his bonus check cleared. It suggests that Smith did not dislike the firm or its practices enough to give the money back. With a book deal in the works, lucrative speaking opportunities and even consulting to

Regulatory Complicity ...

Implemented in response to the 1929 stock market crash and the collapse of the banking system, the Glass-Steagall Act of 1933 sought to prevent some of these conflicts of interest, separating commercial banking from investment banking and limiting speculation. Removal of these regulations in the 1990s was crucial in allowing the development of the current banking model. In the early 1990s, derivative scandals, such as Procter and Gamble, highlighted the problem. The Internet stock boom exposed the practices of leading investment banks in relation to stock sales and self serving research. But despite numerous enquiries, the problem was not addressed. In 2002, America's Sarbanes-Oxley legislation failed to address the real issue - the inherent conflict of interest inherent in integrated financial supermarkets combining commercial and investment banks. I n fact, legislators are rolling back some of the Sarbanes-Oxley provisions. The 2012 Jump-start Our Business Start-ups Act, shortened to JOBS, seeks to make it easier for companies to raise capital. The bill would end the rule that investment banking analysts could not assist in marketing new issues of shares for new offerings, except those involving companies with sales of over $1 billion. Investment banks underwriting the issues, would not be prevented from making sales pitches or publishing research on a company during the initial public offering. The liability of investments banks will also be weakened. New regulations, introduced following the financial crisis, do not also deal adequately with the problem. Section 619 of the Dodd-Frank Wall Street Reform and Consumer Protection Act, known as the 'Volcker rule', seeks to restrict the ability of regulated entities to undertake proprietary trading, indirectly regulating the identified conflict of interest. The efforts of bank lob-

byists have ensured that the final rule will be considerably weakened and riddled with exemptions. One lawyer told banks that 'given so much of proprietary trading has a client nexus to it, I'll be embarrassed if I don't manage to exempt all your activities from the rule'. In the UK, the Vickers Report considered separation of certain activities of banks. In the end, the commission did not recommend radical reforms, proposing instead to force banks to ringfence UK retail operations rather than split along different business lines. Unless the central conflict of interest is dealt with it, banks will always be tempted to give their own proprietary interests priority to boost earning. In reality, the only way to deal with this is by separation of client and proprietary activities.

Cruel Finance...
The inherent conflicts of interest and a remuneration system based around short-term revenues and bonuses create a toxic ecology within banking. Financiers deride the real world and real people who move far too slowly . Only bankers know how to get things done. In her book Liquidated, ethnographer Karen Ho cites an interviewee: 'We've made everyone smarter. We know much morewe're the grease that makes things turn more efficiently .' For bankers, this self-belief in their role and sense of superiority over clients justifies the ruthless and exploitative practices now embedded within finance. In the 1970s, Pierre Bourdieu, a French sociologist and anthropologist, introduced the concept of habitus the idea that each society and culture orders its world sub-consciously according to a cognitive framework based on its experiences. The financial elite now undertake conquests and plunder with scientific and economic pretensions. In his books and essays, sociologist Zygmunt Bauman uses the metaphors of liquid and solid modernity to capture the shift from a society of producers to a society of consumers. Security gives way to increased freedom to purchase, to consume and to enjoy life. In liquid modernity, social forms and institutions no longer have time to solidify into accepted frames of reference for human actions and long-term plans. Individuals have to be flexible and adaptable, pursuing available opportunities. Liquid modernity requires calculation of likely gains and losses of acting (or failing to act) under endemic uncertainty . The readiness to discard extends to people who we do not recognise as fellow human beings migrant workers, immigrants, terrorist suspects or, in banking, clients: 'It seems all things, born or made, human or not, are until-further-notice and dispensable.' In Liquidated, Karen Ho documented the brutal culture of modern banking. Hired as the

best and brightest expecting royal treatment, graduates work like indentured slaves for up to 140 hours a week. In a brutal world without job security and where performance is constantly assessed, bankers survive by trading things or cutting deals. Ho's title evokes Bauman's idea of liquid modernity. Bankers make assets liquid or tradable. As highly liquid assets themselves that could be easily liquidated, they live in constant fear. For bankers, the environment is challenging, where they must adapt or die. There is an old Wall Street saying: 'Never tell anyone on Wall Street your problems. Some don't care. Most are glad you have them.' In their work, John Lennon's song Working Class Hero provides the survival script: 'There's room at the top they are telling you still/ But first you must learn how to smile as you kill/ If you want to be like the folks on the hill.' These forces created a culture where narrow, short-term self-interest dominates. The culture drives creation and sales of products of no intrinsic value to people who do not understand them. Fear of being liquidated eliminates misgivings about profitable transactions that might result in enormous pain for others. Bernard Madoff preyed upon unwitting members of his religious and ethnic communities, enlisting leading figures to help promote fraudulent investments as legitimate. Pink Floyd had sung about it in Dogs: 'You have to be trusted by the people that you lie to/ So that when they turn their backs on you/You get the chance to put the knife in.'

Financial Nihilism...
In the last 20 years, bankers have become willing agents in a highly destructive process, even when they were aware of the consequences of the action. They are unable or unwilling to resist the peer pressures and ultimately the lure of wealth. It is as Marcel Proust wrote in A la Recherche du Temps Perdu: ' indifference to the sufferings one causes, an indifference which whatever other names one may give to it is the permanent form of cruelty .' Greg Smith's statement does not merely point to questionable behaviours at the investment bank, once tagged by Rolling Stones journalist Matt Taibbi as 'a great vampire squid wrapped around the face of humanity, relentlessly jamming its blood funnel into anything that smells like money'. The alleged practices are widespread throughout the industry, where competitors ironically see Goldman Sachs as a role model. They are also the result of a deeply flawed and dangerous business model and culture which is poorly understood and rarely challenged. Satyajit Das is author of the bestseller Extreme Money: The Masters of the Universe and the Cult of Risk (2011)