Thursday, 23 July 2009

Ponzi Schemes - The Nominalist Agenda of the US Securities Regulations

Dear All,

You are all welcome to attend this Friday's (July 24, 2009) 25th meeting of the Philosophical Foundations of Law and Finance (6.00-8.00pm, Room 501, 309 Regent St), on "Ponzi Schemes - The Nominalist Agenda of the US Securities Regulations", where Joe proposes to continue our investigations of US securities law by looking at the phenomena of Ponzi Schemes.

Philosophically, if we generalize the features of a Ponzi Scheme, we see that it is a belief system of groups and societies based on fraudulent entrepreneurship. The "get rich quick" scheme has a built-in religious zeal where the defrauded "cannot believe" that their saviours are shysters. Ponzi schemes are relatively universal and they have the essential features of a continuous social communications network, where the totality of the perceived risk is shifted to the charismatic leader until all hell breaks loose.

For the law, you will find enclosed South Cherry St v Hennesse Group, 2nd Circuit, July 14, 2009, which shows how it is much more difficult since the PSLRA (1995) a la Tellabs v. Makor [(June 21, 2007)] to get beyond the complaint for securities fraud violations.

Also, here is an interesting article sent by John Flood by Lynn Stout, one of the doyennes of corporate governance in the US, looking at the question of the deregulation of derivatives:

Joe will explain a bit about the long (2,500 year old) debate between the nominalists and realists in class, which is one of the fundamental debates in philosophy. This debate spills over in how we should build models about reality. For an apocalyptic and therefore, very amusing, view of how modern finance theory is a complete fraud that helped induce the mother of all Ponzi Schemes, please see, Pablo Triana's (2009) Lecturing Birds on Flying.

Finally, here is a very nice clip on the credit crisis - from a micro-economist perspective.

As always, we'll continue discussions from 8pm at Vapiano's on Great Portland Street over some drink and food.

Joe and Chiara

Tuesday, 21 July 2009

How Far Do We Want the Law to Go?

(Thanks to New Yorker)


Friday, 17 July 2009

24th Session of Philosophical Foundations of Law and Finance - July 17, 2009

Dear All,

For this Friday meeting of the Philosophical Foundations of Law and Finance (6.00-8.00pm, Room 501, 309 Regent St), I propose the following topic:

"The Philosophical Foundations of the US Securities Act of 1933 or How to Draft a Complaint Against Goldman Sachs for Securities Fraud on the Taxpayer".

I will give a brief talk on the background of the Securities Act, which is probably the single most important securities regulation in the world. To make it contemporary, we'll look at a recently filed (June 22, 2009) complaint by the SEC against Chais, see and see how its particular five counts of liability might be applied (or not) against recent activities of Goldman Sachs with regards to TARP funds. We might all be cheered to know that the US law specifically and literally recognizes the fundamental purpose of the Securities Act as philosophical and ethical. The Chais complaint is about the SEC finally waking up from the dead and trying to sue a Madoff feeder fund for fraud. I don't think the SEC will sue Goldman Sachs but as a philosophy class interested in the limits of legal action and just causes, we just might show how this may be done if only to initiate debate.

Before investigating this topic, the first part of the session (from 6 to 7pm) will be dedicated to the continuation of readings from Aristotle's Rhetoric, Book I:

As always, the discussion will continue at Vapiano ut libet cum vino.


Chiara & Joe (Laura is in Africa doing fieldwork and we will miss her contribution)

Friday, 10 July 2009

What Is Your Research Worth?

(The Scholar by Renee Ann Wirick (Away))

Yesterday I sat with 15 other academics as we went through 20 research grant proposals for the Arts and Humanities Research Council (AHRC). We spent between seven and eight hours discussing the merits and demerits of the proposals. It was exhausting but worthwhile.

For obvious reasons of confidentiality I can't go into detail about the proposals themselves. I belong to Panel A which covers law, history, theology, and philosophy. It's a wide remit. We are expected to read and decide on all the proposals from our constituent disciplines and then rank order them.

The process is thorough. You, the applicant, write your proposal which your institution approves. Your proposal must cover the research context, the questions, the importance of the research, the methods you will be using, your dissemination plan, and the expected impact of your findings. In addition you must mention who you are and how you will manage the project.

All the research councils limit how much you can actually write in the proposal and this can make the writing more difficult as you have to cut and pare until you have the absolute kernel.

In many ways it's no different from writing an article. It takes as long, requires as much background research to compose, and there's no guarantee you will be rewarded/published. But you have to do it because universities pressure their academics to apply. External funding for them means some relief on internal resources, and it's kudos for you.

So once your baby has been weaned from the page and submitted the funder swings into action. The AHRC selects three reviewers who critique your lovingly composed proposal under similar headings to those you used to write it. When the reviewers are finished, you get a redacted version of their comments to which you respond. In this way, if you are lucky, you get to fill in any gaps and expand beyond that original word limit.

As well as critiquing you the reviewers score you on a scale of 1 (unfundable) to 6 (outstanding). Assuming your proposal has scored well it will go to the panel for moderation.

We, the panel, get to read everything: the proposal, the reviews, your response, and the scores. In preparation for the meeting we prepare introductions for the others. These introductions draw out the distinctions between the reviewers and tell how you have responded to their criticisms.

It's not easy to do. Some reviewers are laudatory while others are highly critical. This can result in a range of scores. One proposal had scores of 3, 4, 6. Our discussion is influenced by how you respond to the reviewers. And it's fair to say that often you will focus on the most critical.

Trying to answer the reviewers does take some balance from you because the others will also have queries they want answering and you must take account of them, not just the critic.

What the panel wants to read from you is a factual response. They don't want to see you take umbrage and get snarky back at the reviewers. It happens. The problem is that academia is composed of small worlds as David Lodge has clearly described. Even though the reviewers are anonymous, you may be able to identify them in their reviews. If you do (or don't), try not take it personally. Just because you think your proposal is stellar and groundbreaking and landmark research, not everyone else will.

We saw all of this yesterday. The other tactic you may employ is that of avoidance or evasion. If the reviewer has spotted something of substance that needs fixing, don't pretend it wasn't mentioned. We look for how you deal with these things. And avoidance doesn't go well with the panel. We want to see what steps you will take or have already taken.

Another aspect of this is if there are a group of you applying for a grant, your research must be coherent and fit together. There's no point in coming up with your favourite topics and trying to bundle them together under a common set of aims and objectives (What do these mean, for god's sake? It's like job and person specifications: you want to say "As long as they breathe...") We see through that.

Surprisingly for the humanities some of the research proposed contains very sophisticated technical issues which have to be properly integrated. The AHRC obtains technical reviews and they can be harsh. And you have to respond to those as well.

As we go through our roster of proposals--we have a very short break for lunch--we start to rank them. We're using the same 1 to 6 scale except we start to refine it by introducing decimals. Yesterday we went to two decimal places to complete our ranking.

At the end we're exhausted, relieved, and satisfied because I believe we tried hard to be fair and reasonable. After all, we know our own research will be on the receiving end soon. But I'm afraid that is not the end because there are financial constraints and so not every good proposal gets funded.

If I were to draw any conclusions they would be simple. The truly outstanding proposals stood out. They were intellectually exciting; they were trying to engage with new ideas. They were coherent and well structured. They gave us the context and the research questions complete with a methodology for how they would answer them.

They made sure that the progress of the research could be tracked and measured. They had milestones and/or advisers who would review progress. They made sure that they were asking for the right amounts of money. Were all these trips to the other side of the world necessary? They made certain that each investigator played a strong role in the project and hadn't been inserted to get some clout.

They thought about how they would publish their results. It could be books, articles, papers, workshops, blogs, websites, seminars for policy makers, newspaper articles and so on. How does your research relate to the world around you?

Research proposals take time and effort and if you are successful your VC will be happy, you will have time to do what you want, and you will make a mark. So don't rush it, get help, make sure your university research office is on top of their brief. If not bug them; they're being paid to help.

And then you can start the next one....

Wednesday, 8 July 2009

Use of Credit Ratings in Financial Regulation

Last month the Joint Forum of the Basel Committee on Bank Supervision released the results of the survey on the use of credit ratings by its member authorities in the banking, securities, and insurance sectors. The survey answered the call of the G7’s “Report of the Financial Stability Forum on Enhancing Market and Institutional Resilience” to review whether the current regulations and/or supervisory policies unintentionally give credit ratings an official seal of approval that discourages investors from performing their own due diligence. The survey’s questionnaire was designed to elicit information regarding member authorities’ use of credit ratings in legislation, regulations, and supervisory policies. The goal of the survey was not only to collect information on internal references to “credit ratings,” “credit rating agencies,” or any references to specific credit rating agencies, but also to assess whether the use of credit ratings has had an effect of implying an endorsement of such ratings and rating agencies or discouraging investors from performing their own due diligence. The Joint Forum collected 17 surveys from member authorities, representing 26 separate agencies from 12 different countries, as well as five responses describing international frameworks.

Both in the U.S. and in Europe, credit ratings are generally used for five key purposes: (1) determining capital requirements; (2) identifying or classifying assets, usually in the context of eligible investments or permissible asset concentrations; (3) providing a credible evaluation of the credit risk associated with assets purchased as part of a securitization offering or a covered bond offering; (4) determining disclosure requirements; and (5) determining prospectus eligibility.

The first regulatory reference to the ratings in the U.S. is found in 1931 in the Office of the Comptroller of the Currency (OCC) and Federal Reserve examination rules, and was mainly based on distinction between investment grade securities, generally rated BBB/Baa and above, and securities of below-investment grade quality. Over time, regulators in the U.S. and globally have incorporated credit ratings into laws and regulations to set capital requirements for regulated entities, provide a disclosure framework, and restrict investments. Recognizing possible unintended consequences of the regulatory use of ratings, in the summer of 2008 the SEC in three separate releases proposed and sought public comments to amendments to most of the SEC’s rules that rely on security ratings with alternative requirements.

Sixty three comments were submitted in response to the SEC's call. The analysis of the responses highlights a high level of dependency of all market constituents on the CRA ratings as a common measure of creditworthiness, especially in the world of less transparent structured credit securities. The behavior of market constituents, including investors, issuers, and regulated entities has been affected by such dependence. The SEC proposal came about to address the perceived failure of the CRA to accurately indicate riskiness of structured credit securities. Still, the feedback to the SEC proposals to eliminate references to credit ratings assigned by CRAs in its rule indicates that the market participants are not ready to accept responsibilities for an independent credit risk assessment. We infer that investors, fiduciaries, and regulated entities are looking to regulators to offer a common measure of risk, accurate and free of conflict of interests. At the very minimum, the market participants expect the SEC and European regulators to assume a more important role in controlling the integrity of the credit rating process.

Please, see the fuller version of the analysis here. The paper can be downloaded from SSRN.