Jesse Eisinger and Jake Bernstein of the website just won the first ProPublica recently won the first Pulitzer prize given for a story that never appeared in hardcopy press. The award was for their story about how the hedge fund Magnetar made a bundle by promoting the creation of toxic CDOs, buying the riskiest tranches, and betting against the safer tranches. The clever idea is to use the high returns on the risky parts (until the collapse) to bet against the others. You win big if the collapse, when it comes, is a big enough to take out both the riskiest and safer tranches. Magnetar’s play is similar to the deals entertainingly portrayed Michael Lewis’s The Big Short, but Lewis seems to have missed what was arguably the biggest short of all.
If you have not read the story, it’s worth a look. If you read it as it came out, it is worth checking back because there have been a number of fascinating updates.
My favorite update came in Dec. 2010 and was titled, The ‘Subsidy’: How a Handful of Merrill Lynch Bankers Helped Blow Up Their Own Firm. Apparently, one group in Merrill Lynch bought a bunch of the toxic assets another Merrill group was creating for Magnetar. Why? It turns out the the group earning fees for creating CDOs was sharing the proceeds with Merrill buyers who bought the stuff.
Now I’m no expert in human resources management (what I know I learned from Catbert), but I’m guessing that this incentive pay scheme is not exactly what HR cooked up in order to align interests with those of the shareholders.
That picture? That’s an artist conception of a magnetar.