Frank Partnoy’s “F.I.A.S.C.O.” warned us about derivatives


Monday night University of San Diego professor Frank Partnoy appeared on “The Daily Show” to discuss his new book about Ivar Kreuger, the most effectively damaging ponzi scheme artist to have emerged over the past century, known to most by his honorific, the “match king.”  But before you pick it up on Amazon, I suggest starting with Partnoy’s memoir “F.I.A.S.C.O.”

Here’s a brief passage on page 218 of this entertainingly informative tell-all (the title is an acronym for a corporate skeet-shooting excursion), a book about his years in the mid-90’s as a salesman in the Derivatives Products Group at Morgan Stanley.

“Because mortgage payments are so unpredictable, even the most sophisticated investment banks that actively trade mortgages have suffered significant losses; in 1987, Merrill Lynch lost $377 million when a trader made several large losing mortgage trades.”

Did you catch the year?  1987.  F.I.A.S.C.O. is about the rise of derivatives, and like the advances in geometry since Euclid’s time, these derivatives morphed from somewhat easy to grasp financial instruments into complex deals linked to the performance of seemingly incongruent and various volatilities, like the Mexican peso, a Philippines power company, and industry benchmarks like the London Interbank Offered Rate (known as LIBOR to anyone who is not a financial philistine).

While Partnoy does a commendable and humorous job of breaking down the theories behind many of these impenetrable bonds of ill repute and why anyone like a municipal treasurer would invest in them (see Orange County, whose treasurer in 1994 lost over a billion dollars in the bustling derivatives agora), he presents an undeveloped picture.

Derivatives have come under a lot of warranted fire lately, but Partnoy does nothing to dispel the notion that derivatives, in many forms, such as those exchange-traded commodities at The Chicago Board of Trade, have been a boon to the U.S. economy and have helped business owners protect themselves against fraud and volatile price swings.

The problem with the word derivative is that it can mean almost anything.  Saying “derivatives trader” today comes weirdly close to calling someone a “fascist.”  It roughly translates, in the public mind, to a male, chauvinistic and rapacious trickster who most likely works on Wall or LaSalle St. and takes pleasure only in divesting a small business owner or farmer of his life savings.  Though truth be told, Partnoy and his colleagues at Morgan Stanley were guilty of similar scurrilous acts.

But as an early warning, and an instructional primer on the rise of these suicide bond derivatives and tax scams like equity swaps, as well as a piece of farce, the book is invaluable.  My favorite passage is about Partnoy’s foray into so-called “emerging markets” in Latin America.

“It wasn’t clear what ’emerging’ meant, or how these markets might ’emerge.’  Still, it sounded awfully good, and it helped cloud the fact that the emerging bond an investor bought actually was a Peruvian loan that hadn’t paid any interest since the 1800s.”

The only problem with the book, and the discourse about derivatives ever since, is that they are always called “sophisticated” and “exotic.”  Nay.  The definition of love in Plato’s “Symposium” is sophisticated, and canoe trips down the Amazon are exotic.  Brady Bonds, RAVS, MEXUS notes, and Pre4 Trust structured vehicles are lurid gimmicks that, for the most part, can only end in a fiasco.

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