Watch the investment bankers when the asset sales start – they can screw us without our noticing

Alf recently posted an item on bonking bankers.

Today he draws his constituents’ attention to their flair for screwing their clients – in the US, at least – when they are not screwing their mistresses.

A particulary shabby case has been highlighted in The New York Times.

The item spotted by Alf kicks off with a proposition that is glaringly obvious:

If there’s one thing we’ve all learned in the aftermath of the financial crisis, it’s that stiffing your client is not a crime. Not if you’re an investment bank.

The writer illustrates this with a couple of examples.

* Deutsche Bank, according to a recent report by the Senate Permanent Subcommittee on Investigations, sold its clients subprime mortgage bonds that one of its own traders at the time described as “pigs.”

* Goldman Sachs took unseemly advantage of unsuspecting clients to offload its most toxic assets in 2007 and 2008.

During the subprime bubble, this kind of behavior was par for the course.

And the buggers are still up to their tricks.

The latest example of disgraceful behaviour involves LinkedIn, the Internet company that connects business professionals.

It has become the first major American social media company to go public.

It hired Morgan Stanley and Bank of America’s Merrill Lynch division to manage the I.P.O. process.

Ad then it got creamed.

After gauging market demand — which is what they’re paid to do — the investment bankers priced the shares at $US45. The 7.84 million shares it sold raised $US352 million for the company. For this, the bankers were paid 7 percent of the deal as their fee.

For a small company with less than $US16 million in profits last year, $US352 million in the bank sounds pretty wonderful, doesn’t it?

But it really wasn’t wonderful at all. When LinkedIn’s shares started trading on the New York Stock Exchange, they opened not at $US45, or anywhere near it.

The opening price was $US83 a share, some 84 percent higher than the I.P.O. price.

By the time the clock had struck noon, the stock had vaulted to more than $US120 a share, before settling down to $US94.25 at the market’s close. The first-day gain was close to 110 percent.

Op-ed columnist Joe Nocera, a bloke with a nice touch in the writing department, acknowledges that most everyone at LinkedIn was thrilled to see the run-up.

An I.P.O. is an important marker for any company. And, of course, the executives themselves are suddenly rich. But, in reality, LinkedIn was scammed by its bankers.

How come?

The fact that the stock more than doubled on its first day of trading — something the investment bankers, with their fingers on the pulse of the market, absolutely must have known would happen — means that hundreds of millions of additional dollars that should have gone to LinkedIn wound up in the hands of investors that Morgan Stanley and Merrill Lynch wanted to do favors for.

Most of those investors, I guarantee, sold the stock during the morning run-up. It’s the easiest money you can make on Wall Street.

Joe Nocera quotes Eric Tilenius, the general manager of Zynga, who noted that a huge opening-day pop is not a sign of a successful I.P.O., but rather a massively mispriced one.

“Bankers are rewarding their friends and themselves instead of doing their fiduciary duty to their clients.”

Is there anything wrong with a small “pop” in the aftermath of an I.P.O?

Nope. Investors don’t want to buy a stock that is going to go down immediately.

But during the Internet bubble of the 1990s, the phenomenon of investment bankers wildly underpricing I.P.O.’s so that money could be diverted to favored investors got completely out of hand — stocks would sometimes rise 500 percent on the first day. It was obscene.

Another commenatotor who has railed at the bankers’ behaviour is Henry Blodget, at the Business Insider blog.

Blodget knows a thing or two about bad behavior on Wall Street, having once been a top-ranked Wall Street analyst who ran Merrill Lynch’s global Internet research practice and was ranked the No. 1 Internet and eCommerce analyst on Wall Street by Institutional Investor and Greenwich Associates.

Alf’s only reservation is that his picture suggests he has a crop of red hair.

His item was headed: CONGRATULATIONS, LINKEDIN! You Just Got Screwed Out Of $US130 Million.

He explains how the screwing was done like this –

LinkedIn’s stock is trading above $US80 a share this morning. Bank of America and Morgan Stanley sold the same stock to their best institutional clients at $US45 a share last night. The value of LinkedIn-the-company, it seems safe to say, has not appreciated by 90%+ in the past 12 hours. And that means that, on its underwriters’ advice, LinkedIn sold its stock too cheap. It also means that the institutional investors who bought LinkedIn’s stock last night are high-fiving each other this morning, celebrating their instantaneous 90% gain. (Lots of them are probably also dumping some stock).

Linkedln CEO Jeff Weiner sold some of his stock for $45 a share the previous night.

He could have sold it for $90 next morning.

And the best part of this screwing is the fact that LinkedIn probably has no idea it got screwed. In fact, the company is probably thrilled with the IPO result. Why? Because they’ve been told for so long, by so many people, that having a big “first day pop” is what every company should pray for in their IPO.

Blodget gives us a simple analogy:

Imagine if the trusted real-estate agent you hired to sell your house persuaded you to sell it to her best client for $1,000,000 by telling you this was the best price she could get. And then, the next morning, the person who bought your house immediately turned around and sold it for $2,000,000 (using the agent to sell it, naturally).

How would you feel if your agent did that?


And that’s EXACTLY what BOFA and Morgan Stanley just did to LinkedIn and LinkedIn’s shareholders.

Blodget gave BOFA and Morgan, et al, credit for marketing the company: LinkedIn’s $80+ share price was a testament to that.

He also explained why underwriters should try to modestly underprice deals, to the tune of a 10%-15% “IPO discount.”

But there’s a huge difference between at 10%-15% IPO discount and a ~50% discount, which is what LinkedIn’s IPO just sold for. The institutions that bought the LinkedIn stock last night are now 100% richer, just by virtue of being good clients of BOFA and Morgan. And that money came right out of the pockets of LinkedIn and the LinkedIn investors who sold on the deal.

Joe Nocera notes that – ever since the financial crisis – investment bankers have been constantly questioned about whether they have any larger social purpose besides making money.

Invariably they say they play a critical role in capital formation, by helping companies raise the money they need to grow and prosper.

On the strength of the LinkedIn deal, we can be assured the buggers are still just in it only for themselves.

They have been quiet in this country for some time, where I.P.O.s have become rare.

But there will be a burst of activity when we start selling those state assets. Alf’s advice: keep an eye on the financiers who become involved.

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