Back to the future

You should read history, the indomitable Jagmohan once wrote to Rajiv Gandhi, who famously replied that he didn’t read history, he made history. To which Jagmohan replied, “Those who don’t read history, make bad history.”

A lesson that comes to mind often while reading Charles Geisst’s fascinating history of the two centuries of Wall Street—right from the time the merchants just met along a barricade built to protect the early Dutch settlers from the Indians—is that while there have been scores of laws made to ring-fence insider trading and other manipulation, in its essence Wall Street remains untamed.

Indeed, as it discovers new ways to make money, the authorities are continuously playing a losing game of catch-up. Indeed, as Geisst, a professor of finance, says if some of the original robber barons or insider traders were to come back to life, they’d find no difficulty in recognising the practices prevalent in the market.

If Enron did its best to get politicians to change laws to help it grow, to cite one instance, the ancestors of the robber barons perfected this as long ago as 1830.

Indeed, at that point in time, the politicians traded in knowledge themselves! When one of New York’s early railroads was trading publicly, Senator Kimble of the New York legislature publicly opposed its expansion, and began to sell the company’s stock which he and his associates did not own.

Yet, the price kept rising as investors felt railroads were the future. Kimble then pushed a bill through legislature calling for an expansion of the railroads—since this meant there would be more competition the stock’s prices tumbled! Kimble and his associates were then able to cover their short sales and book tidy profits.

Three decades later, a member of Congress set up a company to build a railroad and charged the government twice what the project cost. The scandal forced Congress to constitute an inquiry, which revealed many members had been bribed. Indeed, when the case reached the Supreme Court, it ruled the government could not sue the company till its debt had fully matured, and that effectively ended the case!

Other subtle forms of price manipulation included what were then called “wash trades”, or synchronised trades between a buyer and a seller to help set a price to a stock (since there was no actual net sale/purchase, no one really lost) and thereby get it to fall or rise.

In another “repeat” of what happens today, one of the original robber barons, Jay Gould, effectively used the newspapers he owned to depress stock prices of companies he wished to buy. In one case, when he wanted to take over Western Union, a telegraph company, his newspaper began to oppose Western Union’s monopoly.

Simultaneously, he and his associates began to short the company’s stock, and even announced he was starting a new company to challenge Western Union. The fall in stock prices helped him cover his short positions and he and his friends, Geisst says, reportedly made a million dollars each. Indeed, in 1881 Gould repeated this, again with stunning success.

It was this kind of chicanery, apart from the aftermath of the 1929 crash, that got US President Herbert Hoover to decide to take on Wall Street. He denounced short selling as harmful to the economy, and asked the New York Stock Exchange to make less stock available for lending so that short sellers would not be able to borrow shares to cover their short positions.

By 1933, the first year of Roosevelt’s presidency, the Securities Act got passed, making it mandatory to register offerings with the Federal Trade Commission. And the same year, the Glass-Steagall Act got passed, separating the banking and investment functions of banks.

None of this, however, prevented Wall Street’s practitioners from finding other innovative methods to make money while, at the same time, working on government to loosen their chains.

By 2000, the Glass-Steagall Act was repealed (Clinton’s Treasury Secretary Robert Rubin, who campaigned for it, immediately got hired by Citigroup!), and that helped J P Morgan Chase and Citigroup to lend substantial amounts to Enron while seeking investment banking business at the same time.

Another curious instance, Geisst relates, is that of Jack Grubman, a Salomon Smith Barney analyst, who, after years of being relatively negative on AT&T, wrote a favourable report on the company just months before it sold off its wireless division through an IPO. Barney won the mandate to underwrite the issue and, once that was over, the analyst slashed his ratings and AT&T’s prices crashed.

By 2002, when the Enron-Anderson saga unfolded, Congress passed the Sarbanes-Oxley Act to address the issue of accounting by public corporations and the responsibility of auditors to investors.

Once again, a major step forward in the attempt to clean up Wall Street, but the historian in Geisst sees it as just another example of regulators trying to play catch-up.