ZAY Blog

For the past two days, we’ve witnessed one of what I would personally considered as the most hilarious jokes of the year unfolded on Wall Street.

Quick quiz to those of you who are reading this:

1. If a company that has not lost a single cent ever since it went public in 1999, and was labelled the most profitable firm in Wall Street, has reported a quarterly loss, how should the market react?

2. If the average of the analysts’ estimate of the loss is $3.73 per share, and the company ended up lost $4.97 per share, how should the market react (based on either the Arbitrage Price Theory that I am sure every single finance student would know, or simply your guts feeling?)

I guess the most common answer would be the decline in share price.

And that happened to Goldman Sachs yesterday.

And GS rallied 15% yesterday.

It was interesting to see how the helpless financial news reporters say about this. The editors in Bloomberg, after scratching their heads for hours, came up with the excuse that the performance was better than the most pessimistic estimate from an analyst in UBS AG, who was predicting $5.50 per share loss (I bet all those shorters want to beat the hell out of that guy now). (http://www.bloomberg.com/apps/news?pid=20670001&refer=&sid=a6ku8xZK62X0) New York Times, being more political, simply said that it was “in line” with analysts’ estimates (OK, perhaps my English is really bad, but do English-speaking community generally consider miss by 33% from average as “in-line”?)

And the story did not end here.

This morning, Morgan Stanley reported its quarterly loss.

And this time, the average from analysts was 34 cents per share loss, with no estimate more than $1.15, according to Bloomberg.(http://www.bloomberg.com/apps/news?pid=conewsstory&refer=conews&tkr=MS%3AUS&sid=aKpeqFFx_giU)

The results was $2.24 per share loss.

Interesting enough, the share of MS rallied as much as 9.14% at one point of time before closing at 2.3% rise.

Now the most interesting part came, as both Bloomberg and New York Times found themselves in a awkward position that they could no longer explain the reason for such spike.

And their strategy was simple: based on facts. They simply reported the loss with no analysis/explanations.

The past week is definitely one of the most turbulent times (if not the most) in the financial world since September 11, 2001. With Lehman lawyers rushed to file for bankruptcy and Merill Lynch acquired by Bank of America, as well as the possible failure of AIG, people can not stop wondering what is going on.

However, we did see some hope today when Barclays agreed to buy the North America operations of Lehman, which prevent up to 10000 people from losing their jobs and it seems that Feds has provided emergency loan to AIG so that it is unlikely to be in the same fate as Lehman.

Of course, it does not mean Lehman is far from bankruptcy. In fact, we should hear an official end of Lehman pretty soon since the talks with commercial banks have failed. On the other hand, the 85 billion loan from Feds comes with the condition that AIG has to shed up to 80% of its assets in the next couple of years, which essentially kills the entire firm.

The next question that comes naturally is: what will happen?

Now that Morgan Stanley and Goldman Sachs are the sole survivors of the bloodshed, and Goldman posted a 70% fall in quarterly earnings, it is difficult to imagine those two firms would be able to live long on their own feet. However, the CFO of Goldman has blatantly rejected any thoughts of a merger with the commercial banks, claiming Goldman “can not be funded by deposits”.

What could possibly happen then, is a merger between the investment banks themselves. However, this option is very likely to have regulatory difficulties.

Another alternative is to split themselves to have the “good” banks and the “bad” banks so that the “bad” banks will have sufficient time to wind down the business without causing too much disruption in the market while the “good” banks would continue to be able to sustain a good credit rating and attract the much-needed capital from investors.

On the other hand, in the insurance market, we are very likely going to see a period of adjustment to the entire industry, particularly with the insurance on financial products. New players will involve in the insurance market as insurance companies strive to look for new cash-generating products.

In a short term, of course, it is inevitable that the job markets in finance and related industries will not be that bright. Wall Street alone has lost 40000 jobs this year and they are very likely to fill up the very few new openings in the industry.

We have to see that it is necessary for period of adjustment and the sooner it happens, the better. Subprime mortgage itself was a huge loophole in the first place, just that it was too attractive for the investors to close the hole in the past several years.

In Buddhism, it was said: there is always a time when good deeds will be rewarded and bad deeds would be punished, the only question is when.

I guess now it is the time the boys in Wall Street are punished for what they’ve done.