Speaker 1: Bloomberg Audio Studios, podcasts, radio news.
Speaker 2: Should I get closer? Yeah, even though people like my
Speaker 2: audio at least relative to Matt.
Speaker 1: Yeah, I'm the audio of death. Sorry, I'm so low.
Speaker 1: Should I do this? Should do like an Ero vice
Speaker 1: the whole time?
Speaker 2: Maybe they'd like it a little bit more.
Speaker 1: Hello, and Welcome to the Money Stuff Podcast.
Speaker 2: And then maybe they would like your normal voice more.
Speaker 1: Hello and welcome to the Money Stuff Podcast, your weekly
Speaker 1: podcast where we talk about stuff related to money. I'm
Speaker 1: Matt Levin and I write the Money dot Com for
Speaker 1: Bloomberg Opinion.
Speaker 2: And I'm Katie Greifeld, a reporter for Bloomberg News and
Speaker 2: an anchor for Bloomberg Television.
Speaker 1: What are we talking about today, Katie.
Speaker 2: Well, you're we're talking about Vanguard getting put on the
Speaker 2: SEC's naughty List. We're going to talk about Buffer Bicklin ETFs,
Speaker 2: and then we're going to talk about two sigmas.
Speaker 1: I wrote this. It might be the last SEC natty list.
Speaker 3: You.
Speaker 1: I'm really interested what's going to happen in the next
Speaker 1: few years in terms of like like I've made fun
Speaker 1: of the SEC over the past few years about some
Speaker 1: of its enforcement things like the like cell phone stuff
Speaker 1: where like if you text about work, you get in
Speaker 1: trouble with the SEC. I don't know how much the
Speaker 1: SEC is like a sort of like self operating mechanism
Speaker 1: that has inertia. And we'll keep bringing cases and we'll
Speaker 1: keep going after Security is for out, and how much
Speaker 1: of it is going to be Like the tone from
Speaker 1: the top is screwtys. Frode is great, and then we
Speaker 1: just you know, never see an SEC case again, or
Speaker 1: you see SEC cases, but they have a very different
Speaker 1: political posture, you know, Yeah, well anti ESG cases.
Speaker 2: It seems like that sentiment is shared because it was
Speaker 2: a real rush to the finish for the SEC. You
Speaker 2: had a very long column about everything that the SEC
Speaker 2: was like.
Speaker 1: One quarter of the things that the SEC SEC did
Speaker 1: last week. There's so many things.
Speaker 2: Nestled at the bottom was something on Vanguard. Of course,
Speaker 2: Vanguard to pay one hundred and six million dollars to
Speaker 2: resolve violations related to capital gains distributions in their target
Speaker 2: date funds. This is a rare moment where Matt and
Speaker 2: I both wrote about something him and money stuff me
Speaker 2: in the ETFIQ newsletter newsletters. Yeah, Matt, you find this
Speaker 2: aggressively boring, but I think it's kind of interesting. What okay,
Speaker 2: Well this came down and to me it sort of
Speaker 2: read like the inverse of what we were talking about
Speaker 2: with Capital One. And let me tell you. Yeah, okay,
Speaker 2: all right, so you're buying in. So Vanguard basically lowered
Speaker 2: the minimum initial investment on its Vanguard Institutional Target Retirement
Speaker 2: funds in December twenty twenty. But they also had a
Speaker 2: retail version of this, and the institutional version had a
Speaker 2: lower fee than the retail And my crude explanation in
Speaker 2: my newsletter was that, okay, they told the investors in
Speaker 2: the retail product that they were lowering the minimum, and
Speaker 2: you had a bunch of these retirement investors switched to
Speaker 2: the now lower fee institutional TRFs that they could get
Speaker 2: access to. But the bad news came in when the
Speaker 2: retail funds to meet those redemptions, that had to sell
Speaker 2: a bunch of assets and the remaining holders were caught
Speaker 2: with big capital gains.
Speaker 1: Yeah. So there's the two glasses of the investor fund
Speaker 1: and the institutional fund. The investor fund is not exactly retail.
Speaker 1: It was like sub one hundred million dollars and so
Speaker 1: a lot of retirement funds had their money in the
Speaker 1: investor fund, and then they cut the minimum for the
Speaker 1: institutional fund to five million from one hundred million. So
Speaker 1: all these like small and mid sized retirement plans were like, Okay,
Speaker 1: we'll get the lower fees by taking our money out
Speaker 1: of the investor and putting it an institutional. But to
Speaker 1: get the lower fees, that's technically a like taxable transaction.
Speaker 1: Like technically the retail fund sells all those stocks and
Speaker 1: the institutional fund buys it, and that means that the
Speaker 1: retail fund has capital gains, and those capital gains are
Speaker 1: shared by not the redoing holders, but also the continuing holders.
Speaker 1: So if you had money in that fund, you got
Speaker 1: a big capital gains tax bill and you were surprised
Speaker 1: by it because it's not it's not in any sort
Speaker 1: of proportion to your actual gains. It's like all these
Speaker 1: people cashed out, so there was a big bill. Yeah,
Speaker 1: so mutual funds, mutual funds, you were like, I wrote
Speaker 1: about this, and I was like, let me guess they
Speaker 1: should have done an ETF.
Speaker 2: Well, I mean ets with ETFs, this wouldn't have happened.
Speaker 2: Do you think about the creation redemption mechanism of ETF shares.
Speaker 2: People love ETFs because you don't get capital gains bills
Speaker 2: in the same way that you would with a mutual
Speaker 2: fund when other holders redeem.
Speaker 1: Right, it's like you have to sort of think about,
Speaker 1: like what is the right treatment, you know. So I
Speaker 1: wrote a few years ago, like Bloomberg, Zach Miner had
Speaker 1: a series of stories about the ETF heartbeat trade, or
Speaker 1: basically like if you run an ETF, broadly speaking, you
Speaker 1: can avoid realizing any taxable gains because you're doing in
Speaker 1: kind creations and redemptions. But every so often you need
Speaker 1: to like adjust the holdings of your fund, and if
Speaker 1: you traded for cash, you would have taxable gains. If
Speaker 1: you run an ETF, the number one goal is never
Speaker 1: have taxable gains. And so people have developed all of
Speaker 1: these like complicated mechanisms to take advantage of what a
Speaker 1: lot of people call the ETF tax loophole, right, Like
Speaker 1: it's a loophole that you can have this fund that
Speaker 1: never buys or sells stocks and never has taxable gains.
Speaker 2: Yeah, after heart it's kind of a tax dodge.
Speaker 1: Yeah, it's kind of a taxx. It is so intuitively
Speaker 1: appealing to say I've put my money in a fund.
Speaker 1: In a year or ten years or thirty five years,
Speaker 1: I'll take my money out of the fund. If I
Speaker 1: have gains over those thirty five years, I'll pay taxes
Speaker 1: on the gains. But in between, I shouldn't pay any
Speaker 1: taxes because I haven't sold anything. Like what's the taxable
Speaker 1: event where I just hold the mutual fund and every
Speaker 1: year I get a tax bill and the tax bill
Speaker 1: is not really related to my actual gains in the fund.
Speaker 1: It's just weird. Yeah, And like that's how the tax
Speaker 1: lot works for mutual funds. It's not how the tax
Speaker 1: law works for ETFs, in part because there is this
Speaker 1: CTF loophole and part because people have built the industry
Speaker 1: around exploiting the loophole. But like the ETF treatment is
Speaker 1: just more intuitive than the mutual fund treatment. And like
Speaker 1: a lot of people are genuinely surprised that they get
Speaker 1: a tax bill for their mutual fund trading activity, and
Speaker 1: the SEC is like they should have been surprised, Like
Speaker 1: it's not fair. They shouldn't get to the tax bill,
Speaker 1: you know, because that is the tax law. But no one,
Speaker 1: no one finds it intuitive or appealing.
Speaker 2: I mean, so mutual funds when they're in four A
Speaker 2: one k's what we're talking about, like sort of goes away,
Speaker 2: like yes, for a one k's, you don't have that
Speaker 2: capital gains thing in this specific instance with these Vanguard
Speaker 2: target date funds. So it was the investors that held
Speaker 2: these funds in their tax BIWL accounts that we're talking about.
Speaker 1: So Vanguard sort of assumed that most of these people
Speaker 1: were four O NK investors theoretic and in part because
Speaker 1: a lot of people hold these funds through Vanguard's own platform,
Speaker 1: like their website and their brokerage, and so Vanguard could
Speaker 1: look at those people and say, almost all these are
Speaker 1: furrow and K plans, so they won't have to pay
Speaker 1: the taxes, so it's not a big deal. But also,
Speaker 1: like people hold billions of dollars of these funds away
Speaker 1: like in other brokerage accounts, and Vanguard didn't have transparency
Speaker 1: on them and sort of assumed, yeah, it's all four
Speaker 1: on K plans, it's fine. But in fact, a lot
Speaker 1: of retail taxable investors had money in these funds and
Speaker 1: then got a big tax bill, yeah, because they were
Speaker 1: outside of the four one K.
Speaker 2: So we talked a lot about products and rappers so far.
Speaker 2: I want to talk though about why this is like
Speaker 2: the spiritual inverse of the Capital One example, because you
Speaker 2: had a lot of sympathy for Capital One last week,
Speaker 2: and if that's the case, you must have a ton
Speaker 2: of sympathy for Vanguard here kind of trying to do
Speaker 2: this out of the goodness of their hearts for these investors.
Speaker 1: I do I mean talk about that. The thing they
Speaker 1: did here was they wanted to lower fees. Yeah, Vanguard
Speaker 1: is an interesting company because it's sort of not a company, right,
Speaker 1: it's like owned by the funds, So it's a mutual
Speaker 1: in a sort of classics apps like the funds ultimately
Speaker 1: on Vanguard, so it doesn't like charge as much as
Speaker 1: it can to provide returns to the shareholders. It like
Speaker 1: has a mandate to kind of keep fees low, and
Speaker 1: so it offered these funds. It set some expense ratios,
Speaker 1: and the funds gathered a lot of assets, including from
Speaker 1: like mid size furrow on k plans and they're like,
Speaker 1: we're making so much money off these plans that we
Speaker 1: don't need. Yeah, like let's give it back. And they
Speaker 1: thought of different ways to give it back and the
Speaker 1: way they came up with was lower the minimums on
Speaker 1: the institutional fund, which there are a lot of other options,
Speaker 1: and they chose this one for reasons that are not
Speaker 1: entirely clear to me, but basically the SEC sort of
Speaker 1: implies that they didn't fully appreciate the tax problem, in
Speaker 1: part because they thought everyone was in FORO O on
Speaker 1: K plans, and in part because when they were considering this,
Speaker 1: it was like March of twenty twenty, and so stocks
Speaker 1: were all the way down and so they're like, yeah,
Speaker 1: nobody has capital gains. It's fine, it's not a big deal.
Speaker 1: But then by the time they actually did it be
Speaker 1: blood capital gains.
Speaker 2: Yeah.
Speaker 1: So I sympathize with a lot of that. One thing
Speaker 1: I was say, like, you know, I have a soft
Speaker 1: spot for Vaneyard. A lot of my money is in
Speaker 1: Vanguard funds, but like Vanguard feels like historic innovator in
Speaker 1: index funds that is like a.
Speaker 2: Little timy okay, old fashioneds, like you know, out in
Speaker 2: the woods of Pennsylvania.
Speaker 1: Yeah, and like you know, they sort of resisted etfization
Speaker 1: a little bit more than the other place.
Speaker 2: Jack had a lot to say about ETF.
Speaker 1: Some of that about what we'll get to like weird
Speaker 1: weird product ETFs. But like some they just didn't like
Speaker 1: the e structure because they felt trader and they want
Speaker 1: like a sort of long term buy and hold investors.
Speaker 1: And the way they've structured this, you could have done
Speaker 1: this in a lot of others. Started from the beginning
Speaker 1: with we have one fund, and we can have two
Speaker 1: classes of shares of the fund, and we can lower
Speaker 1: the fees on one class without lowering you know. Like
Speaker 1: the problem here is that they had two separate funds,
Speaker 1: and so when they lowered the fees on some of
Speaker 1: the investors, those investors had to sell one fund and
Speaker 1: buy another one, which is like kind of crazy. It
Speaker 1: shouldn't work that way. So, like, I have a lot
Speaker 1: of sympathy here for Vanguard because really all they were
Speaker 1: trying to do is lower fees out. But I also like, yeah,
Speaker 1: this is kind of sloppy, you know.
Speaker 2: Yeah, a couple of things. Vanguard turns fifty years old
Speaker 2: on May first. May first, nineteen seventy five was when
Speaker 2: Vanguard was born. Vanguard does this all the time in
Speaker 2: terms of lowering fees. Like you talked about their ownership
Speaker 2: structure a little bit like any time that they have
Speaker 2: extra cash or assets generated by their products that is
Speaker 2: just funneled into lowering fees, which has put a crunch
Speaker 2: on the entire industry because of the way that their owns.
Speaker 2: Other people like Blackrock doesn't operate like Vanguard does, but
Speaker 2: black Rock still has to compete with Vanguard and just
Speaker 2: lower fees to dirt cheap levels, which is interesting. And
Speaker 2: in the ETFIQ newsletter, you know, after you know you've
Speaker 2: read money stuff, if you read the ETFIQ newsletter the
Speaker 2: one hundred and six million dollars, I saw some reaction
Speaker 2: that was like, oh, that's nothing for Vanguard. They manage
Speaker 2: how many like ten trillion dollars in assets. But because
Speaker 2: their fees are so low, assuming that they charge an
Speaker 2: average of ten basis points, one hundred and six million
Speaker 2: dollars for Vanguard is like napkin math, one percent of
Speaker 2: their total revenue. So this is actually pretty painful for
Speaker 2: van Card. Maybe it was sloppy, you know, but it
Speaker 2: was painful.
Speaker 1: I think that I write about a lot. I write
Speaker 1: about cases where either the SEC or like a shareholder
Speaker 1: class action, sues a company for doing a bad thing
Speaker 1: and the company agrees to pay a big fue or
Speaker 1: pay a big recovery to shareholders. And people always ask like,
Speaker 1: isn't that circular? Like where does the money come from?
Speaker 1: And part of the answer is like, the money sometimes
Speaker 1: comes from dn O insurance, but like sometimes yeah, like
Speaker 1: the company writes a check to compensate shareholders who lost
Speaker 1: money on something, and you're like, well, like, how did
Speaker 1: that help the shareholders? Like the lawyer's got a fee,
Speaker 1: but like the shareholders are writing a check to the shareholders.
Speaker 1: Similarly with Vanguard, it's owned by its funds, right, yeah,
Speaker 1: if you find Vanguard one hundred million dollars, in some sense,
Speaker 1: are you taking that money from the Vanguard investors who
Speaker 1: like lost money because of this tax problem?
Speaker 2: Wow?
Speaker 1: Like they're the shareholders, they're the owners, That's true, They're
Speaker 1: the ones paying the fine.
Speaker 2: There's a good point.
Speaker 1: And might I say that, I mean.
Speaker 2: Me, Yeah, So it's technically not a fine. And I
Speaker 2: learned that the hard way because I had said it
Speaker 2: was fine. I said it was a fine, and I
Speaker 2: had to correct my newsletter. It's technically not a fine
Speaker 2: because the one hundred and six million dollars will be
Speaker 2: distributed to those impacted. So but you should still subscribe
Speaker 2: to ETF I Q of the time is correct. Oh,
Speaker 2: come on, I'm doing my best. Let's talk about something
Speaker 2: that Jack Bogel would absolutely hate. They're called buffer bitcoin ETFs,
Speaker 2: Buffer ETFs. They're really popular. They've just ballooned over the
Speaker 2: past several years. Oh, I don't know, I actually so.
Speaker 2: I mean it's a great pitch.
Speaker 1: Yeah, I've written this like it is so close to
Speaker 1: my heart because it's like a pitch that I learned
Speaker 1: as a young derivative structure at an investment bank. Because
Speaker 1: there's no downside exactly all your mouney back. It's great,
Speaker 1: Like what a great pitch.
Speaker 2: Yeah, and it's sort of evolved to be no downside
Speaker 2: at all. Of course, one hundred percent protection downside. Buffer
Speaker 2: and ETFs have launched in the past year or so,
Speaker 2: but buffer ETFs came into existence. I'm sure they existed
Speaker 2: in other iterations, but they came into existence in twenty twenty.
Speaker 2: I believe I was pretty new to the ETF beat
Speaker 2: and in that time they've ballooned to this like sixty
Speaker 2: billion dollar asset class. And it's because the pitch is
Speaker 2: really good. We're going to shield you against these losses.
Speaker 1: Yeah, We're going to give you the upside in something.
Speaker 1: Yeah whatever, yeah, miker whatever, and if like it goes down,
Speaker 1: it doesn't go down, like you get all your money back. Yeah,
Speaker 1: it's amazing. What a great pitch.
Speaker 2: It makes sense in stocks, the one hundred percent downside.
Speaker 2: To me, I can kind of see it in bitcoin.
Speaker 2: I don't super understand it because volatile is the selling
Speaker 2: point of bitcoin for a lot of people. People have
Speaker 2: fun treating extremely volatile cryptocurrencies. If you are buying one
Speaker 2: hundred percent bitcoin buffer ETF with like an upside cap
Speaker 2: of twelve percent or eleven percent, what is the GD point?
Speaker 1: What is what?
Speaker 2: Yes?
Speaker 1: Right, so Calahs is launching these buffered bitcoin ETFs right,
Speaker 1: where like these things are all like defined periods, right,
Speaker 1: so you get like a one year, like you buy
Speaker 1: it at the beginning and at the end you get
Speaker 1: some amount of the return on bitcoin, but like floor
Speaker 1: it at some level, right, so like they have a
Speaker 1: one hundred by like one to eleven something like that.
Speaker 1: Not exactly sure on what the cap levels are, but
Speaker 1: so basically you buy it and if bitcoin goes down
Speaker 1: you get your money back in the year, and if
Speaker 1: bitcoin goes up, you get the return on bitcoin unless
Speaker 1: it goes up by more than eleven percent, which cause
Speaker 1: you only get eleven percent. Right, So if you're sure
Speaker 1: that bitcoin will go up, this is like a way
Speaker 1: to get an eleven percent return on your money. But
Speaker 1: if you're sure that bitcoin will have big coin and like,
Speaker 1: you know, a thousand percent, So why would you rather?
Speaker 1: I continue to ask you, why do people buy buf fordts? Right?
Speaker 1: I mean, like it's such a good pitch. When I
Speaker 1: was doing this, they didn't exist in ETF form. They
Speaker 1: existed in structured notes at banks, right, Like this is
Speaker 1: this is like a classic structured note product. Right. This
Speaker 1: is like your wealth manager goes to a rich conservative
Speaker 1: person who's like, oh, I like this stock, and you're like, well,
Speaker 1: I can give you that stock, but no downside, right,
Speaker 1: Like to be clear, like you're always trading up upside, right,
Speaker 1: Like the trade is that the advisor goes and buys
Speaker 1: treasuries for you know, ninety six percent of the investment, right,
Speaker 1: and like that provides the downside protection because at ninety
Speaker 1: six dollars, treasury bill mature is at one hundred and
Speaker 1: a year, right, And then he takes the other four
Speaker 1: dollars and buys a call spread that gives you some
Speaker 1: of the upside on the on the asset. Right, So
Speaker 1: this is a medium to high interest rates product. Is like,
Speaker 1: if interest rates are really low, you have to spend
Speaker 1: like ninety nine dollars on the treasuries to mature at
Speaker 1: one hundred and so you have like only a dollar
Speaker 1: to spend on a call spread. But if inter it's
Speaker 1: really high, I can spend like ten dollars on a
Speaker 1: call spread and then you have then you're in business.
Speaker 2: Yeah, so Storty I actually started reporting like in autumn
Speaker 2: of last year rate before the Fed started cutting rates,
Speaker 2: was what happens to these one hundred percent downside ETFs
Speaker 2: once rates start going lower, and it seems like a
Speaker 2: couple of aer caps. Yeah, well that's the thing. Well, no,
Speaker 2: some issuers, there's a choice you have to make to yeah,
Speaker 2: do you keep the one hundred percent downside protection or
Speaker 2: do you lower the cap? And some issuers were thinking about,
Speaker 2: you know, maybe it's not one hundred percent protection, it's
Speaker 2: eighty five percent, So there's a choice that has to
Speaker 2: be made. But then interest rates went up like a
Speaker 2: hundred basis points, so it's less relevant right now. But
Speaker 2: it will become relevant at some point.
Speaker 1: My crude assumption is that you can get a buffer
Speaker 1: ETF that has a one hundred floor so you always
Speaker 1: get your money back, and it has a cap of
Speaker 1: like crudely twice the treasury billt rate, right, because like
Speaker 1: you know, like your option is like put one hundred
Speaker 1: dollars in today and get back the treasury rate, or
Speaker 1: put one hundred dollars in today and get back you know,
Speaker 1: with equal probability between zero and twice the treasure right.
Speaker 1: So it's like that's sort of like the right expected value. Yeah,
Speaker 1: it's not exactly right, but it's like it's like kind
Speaker 1: of close. And so like you see caps that are around
Speaker 1: like one ten with like a four and change treasure bill. Right.
Speaker 1: The other thing I'll say is that the bitcoin buffer
Speaker 1: ATF that we're talking about from Calamus, they actually have
Speaker 1: three options. One is like one hundred by like one
Speaker 1: eleven or whatever, and then the others are like a
Speaker 1: ninety by one thirty and a eighty by one fifty.
Speaker 2: So like those haven't launch it though, right.
Speaker 1: Yeah, but they're like they're talking about them like by
Speaker 1: eighty one fifty. I mean, like if bitcoin goes down
Speaker 1: by more than twenty percent, you only go down by
Speaker 1: twenty percent, right, Yeah, Like if bitcoin this is half
Speaker 1: its value, you only lose twenty percent of your investment.
Speaker 1: But then if Bitcoin goes up, you get up to
Speaker 1: fifty percent returns on your investment. So it's like a
Speaker 1: much wider collar, which is maybe more appealing. Still, it's
Speaker 1: like a weird trade.
Speaker 2: That it is. Before we talk about trump Coin, which
Speaker 2: is coming. One more point that I just remembered on
Speaker 2: buffer ETFs broadly, I remember talking to Alliance about this
Speaker 2: and basically asking the same question that we are, who
Speaker 2: and why would you buy this? And the point that
Speaker 2: they made, which I found somewhat compelling, was this is
Speaker 2: a better version of bonds. Like, if you're putting together
Speaker 2: a portfolio, don't take from your equity bucket to put
Speaker 2: into these buffer products. Takes from your fixed income allocation.
Speaker 2: This is a better version of bonds because bonds have
Speaker 2: been an unreliable hedge since the pandemic anyway, this makes
Speaker 2: more sense as a fix income alternative. That was their pitch,
Speaker 2: which you know, if you're getting one hundred percent downside protection,
Speaker 2: but you know twice what Treasury builds are yielding. That
Speaker 2: makes a little bit more sense.
Speaker 1: Yeah, And like just in generally you have some exciting
Speaker 1: sounding things stant on some bond like product, right, Like
Speaker 1: you have like ooh, it's bitcoin but in bond form, right,
Speaker 1: Like that's appealing, right. Yeah. I've written a lot about
Speaker 1: micro strategies convertibles, right, which are bitcoin and bond form, right,
Speaker 1: And the appeal of that is a lot of that
Speaker 1: is the conrod of arbitreagures, but a lot of it
Speaker 1: is actually to like just boring fundamental institutional investors who
Speaker 1: are like I'll take some bitcoin upside and some you know,
Speaker 1: one hundred percent downside protection.
Speaker 2: So yeah, I feel like there's still work to be
Speaker 2: done though when it comes to the pitch for a
Speaker 2: buffered trump coin.
Speaker 1: ETF, Yeah, God, that's going to happen, isn't it. Yeah,
Speaker 1: Like someone announced the filing for a trump coin ETF,
Speaker 1: not a buffered one, just like trump coin in a
Speaker 1: stock wrapper.
Speaker 2: Yeah, because like vanilla.
Speaker 1: Yeah. No, it's interesting because like you think about like
Speaker 1: what's like the trump coin audience, right, Like a lot
Speaker 1: of it is like Trump has a huge like crypt
Speaker 1: native following who are like going on Solana and buying
Speaker 1: trump coin, but he also has like a you know, yeah,
Speaker 1: less tech native following who would love to buy trump
Speaker 1: coin but aren't going to like mess around with the blockchain,
Speaker 1: and so selling them trump coin and ETF form is like,
Speaker 1: you know, has an obvious appeal.
Speaker 2: We had Kathy Wood of Arc Investment on et F
Speaker 2: i Q the television show this week, and of course
Speaker 2: we asked her about trump coin and she stays away
Speaker 2: from meme coins. She likes the Big Three, as she
Speaker 2: called it, and she said something to the effect of
Speaker 2: the I'm not sure what the utility of trump coin
Speaker 2: what it is, and it seems like the utility is
Speaker 2: just following money to the Trump family, hopefully.
Speaker 1: The alongest side on utility.
Speaker 2: I don't know if this is relevant, but let's find out.
Speaker 1: So this gets back to the SEC five years ago.
Speaker 1: If you talk to cryptop people, there's a lot of
Speaker 1: talk about like we're building the future of the Internet.
Speaker 1: We're building like these useful tools that will affect people's lives,
Speaker 1: new ways of gaming and new ways to store files
Speaker 1: and decentralize everything, right, And you don't hear that anymore,
Speaker 1: and now you hear fart coin and dogecoin and trump coin, right. Why. Well,
Speaker 1: one very obvious possibility is that, like all of those
Speaker 1: promises of utility, many of them were kind of vaporware
Speaker 1: and they didn't work out, and people like, yeah, it's
Speaker 1: fun gambling, right. Another possibility is that like the people
Speaker 1: who were either building or hyping new technologies in crypto
Speaker 1: saw a new shiny object in AI, and now we're
Speaker 1: all building and hyping large language models. But I think
Speaker 1: a really important explanation for all of this is that
Speaker 1: the SEC had a huge crackdown on crypto, and it
Speaker 1: was specifically addressed to like people who are building stuff.
Speaker 1: If you were offering an investment in some project that
Speaker 1: you thought would like build utility for the world, the
Speaker 1: SEC said, well, that was a securities offering and you
Speaker 1: couldn't do it. And if you've got to list it
Speaker 1: on an exchange, the exchange you're get in trouble. The
Speaker 1: crypto exchange would get in trouble. And so there was
Speaker 1: a SEC crackdown on crypto generally, but specifically on like
Speaker 1: useful crypto, whereas meme coins everyone agrees basically are not
Speaker 1: securities because they don't promise anything. They're just like, yeah,
Speaker 1: it's a meme has no utility. As long as you
Speaker 1: don't have utility, you can sell it to your heart's content.
Speaker 1: It's like a collectible. It's not an investment. And so
Speaker 1: the SEA he can't regulate it. I feel like if
Speaker 1: the SEC went back, it would find that to be
Speaker 1: like a bad strategic decision because like it didn't stop crypto,
Speaker 1: it just made crypto more useless. Yeah, So one question
Speaker 1: is like, with a much more accommodating SEC, will crypto
Speaker 1: become more useful? Or is the meme coin gambling stuff
Speaker 1: too good and that's all anyone wants anymore and it'll
Speaker 1: just be a lot of no utility mome coins.
Speaker 3: Yeah, and we'll find out what we want.
Speaker 2: Two sigmas. This was also, you know, in the rush
Speaker 2: to the finish for the SEC under the Biden administration.
Speaker 1: They got against two sigma.
Speaker 2: Tell me about it, so two.
Speaker 1: Sigma and adds in like twenty twenty three that it
Speaker 1: has found someone messing with its models. One of its
Speaker 1: employees was messing with its models in a way that
Speaker 1: caused some funds to make an extra four hundred fifty
Speaker 1: million dollars and other funds to lose one hundred and
Speaker 1: seventy million dollars, and when the stories came out, it
Speaker 1: was like he was messing with the models to try
Speaker 1: to improve his bonus, which is like the only reason
Speaker 1: anyone does anything right. And it's like a little bit
Speaker 1: of a funny story, because he succeeded in the aggregate, yeah,
Speaker 1: in improving the performance of two Sigmas funds, right, Like
Speaker 1: he made more money on the good funds than he
Speaker 1: lost on the bad funds. And like you could imagine,
Speaker 1: ex anty, if you knew that that was going to happen,
Speaker 1: he'd be like, heyeah, we'll just like take one hundred
Speaker 1: and seventy million dollars from the funds that win, give
Speaker 1: it to the funds that lose. Then they haven't lost,
Speaker 1: they're fine, and the funds that win have an extra, like,
Speaker 1: you know, two hundred and eighty million dollars. Like, great work,
Speaker 1: here's your big bonus.
Speaker 2: This seems like a happy story.
Speaker 1: Right, But neither two Segments or the SEC saw it
Speaker 1: that way. The guy was fired and two ended up
Speaker 1: paying like ninety million dollars in penalties to the SEC,
Speaker 1: and so like, yeah, so he improved the overall performance
Speaker 1: of the funds and instead of a round of applause.
Speaker 1: He got fired and two seven got fined, and it's
Speaker 1: a little unclear why. Yeah, I mean, like part of
Speaker 1: it is like he did it without authorization, right, and
Speaker 1: you're supposed to run your hedge fund in a properly
Speaker 1: supervised way. So one reason they got in trouble was
Speaker 1: for like failure to supervise. He's basically like, there is
Speaker 1: a long list of parameters that you're not supposed to
Speaker 1: change without running it through a review process, and he
Speaker 1: would just change them without running it through that process.
Speaker 1: Like he just, yeah, went into the computer and changed
Speaker 1: the parameters. He was not supposed to do that, but
Speaker 1: he did it anyway, And so that's like a failure
Speaker 1: to supervise thing. But the other thing that probably happened
Speaker 1: is that probably, like you know, a quantitative hedge fund
Speaker 1: is basically aiming for high risk adjusted returns, aiming for
Speaker 1: some level of risk and the highest possible returns within
Speaker 1: that level of risk. And it seems like what happened
Speaker 1: is that he changed these parameters to dial up the
Speaker 1: risk that the fund was taking on his strategies. That
Speaker 1: he built a bunch of strategies for the fund for
Speaker 1: the funds for two Sigma and too Sigma's overall model
Speaker 1: was like, we're gonna put this much risk into these
Speaker 1: strategies in order to achieve good risk adjusted returns, and
Speaker 1: he kind of turned the dial to put more risk
Speaker 1: into those strategies, which did, in fact, over the time
Speaker 1: period mostly lead to higher returns, which was good for
Speaker 1: his bonus, but which was not what TWU sigma was
Speaker 1: looking for. And like, you know, if you ran the
Speaker 1: simulation one hundred times, it might not have made as
Speaker 1: much money. And they're they're aiming for sort of long
Speaker 1: term risk management framework, but like it happened to make
Speaker 1: more money in the time that he did.
Speaker 2: Yeah, so that one funds overperformed, but one of the
Speaker 2: funds underperformed, correct, So investors did lose money for sure,
Speaker 2: some investors.
Speaker 1: Right, But like again, like the overperforming fund overperformed by
Speaker 1: more than the underperforming fund underperformed, so like you know,
Speaker 1: you could you could reallocate that to make everyone happy
Speaker 1: or theory you can't really because like there's they have
Speaker 1: specific mandates, right, and if they're not following their mandates,
Speaker 1: then like that's bad.
Speaker 2: Does the fact that one fund overperformed lessen the blow
Speaker 2: to two sigma at all, Like this ninety million dollar penalty,
Speaker 2: would it have been one hundred and eighty dollars if
Speaker 2: everyone lost money?
Speaker 1: I think, I mean, who knows, But like I think
Speaker 1: that there's always a range of rogue trader behavior, right,
Speaker 1: Like this guy was not quite a rogue trader.
Speaker 2: Are you supposed to ask for forgiveness later?
Speaker 1: Right? Like you know, it's an interesting question of like
Speaker 1: what would happen if he had just made money? Yeah,
Speaker 1: everything had gone better. I think that a lot of
Speaker 1: these quant funds are like really quite rigorous about risk management,
Speaker 1: and like if they caught him just making nine hundred
Speaker 1: million dollars for clients, they might have fired him. They
Speaker 1: might have been like, Nope, you messed with our risk management,
Speaker 1: like that is really important, and you're fired even though
Speaker 1: you only made nine hundred million dollars. Who they might
Speaker 1: not have I don't know. And like I think, like
Speaker 1: two segments interesting because it's like truly like a quand fund, right,
Speaker 1: Like I think a lot of like less rigorous banks
Speaker 1: like kind of famously like don't fire rogue traders who
Speaker 1: make money. This is like changing a little bit, But
Speaker 1: that's the stereotype but yeah, I think, you know, if
Speaker 1: he had only lost money, then it looks like malice
Speaker 1: or incompetence or it just like it looks really bad.
Speaker 1: If he makes money, then it's like he was genuinely
Speaker 1: trying to make money for the firm, unless for his
Speaker 1: bonus that's a little bit less a little bit less
Speaker 1: bad conduct.
Speaker 2: Well, maybe he got hired by a bank, you know,
Speaker 2: maybe has an illustrious new chapter.
Speaker 1: Yeah, I mean, like, you know, like he could start
Speaker 1: his own fun being like we're like two Sigma, we
Speaker 1: take more risks.
Speaker 2: Yeah, two Sigma full octane. We do have a listener
Speaker 2: question on this.
Speaker 1: Oh yeah, listen asked like why is this an SEC case? Yeah,
Speaker 1: you know, it's a good question. Like the answer is, like,
Speaker 1: if you read it, it's like they violated the anti
Speaker 1: fraud provisions of the Investment Advisors Act, and so why
Speaker 1: Like it's not like two Sigma was doing a fraud
Speaker 1: on its investors in any obvious way, right, Like they
Speaker 1: weren't lying to them. But I don't actually know what
Speaker 1: their market material said, but they probably didn't describe in detail,
Speaker 1: like the information security around the parameters for the you know,
Speaker 1: like they probably didn't lee to investors at all. But
Speaker 1: the SEC is like, Ah, you did this thing that
Speaker 1: like just seems kind of bad, and so it's probably
Speaker 1: operated as a fraud on your investors. And you know
Speaker 1: in this environment you said all that case. Is that
Speaker 1: a case that the next SEC brings I don't know.
Speaker 1: I will say there is one other reason that the
Speaker 1: Two Segment got in trouble with the SEC, which is
Speaker 1: that they have NDAs. And I've written this like, it
Speaker 1: is sort of illegal for financial firms to have NDAs.
Speaker 1: If you have an NDA that says you won't tell
Speaker 1: anyone about the secret stuff you learned at this firm,
Speaker 1: the SEC says, well, but what about whistleblawers. What if
Speaker 1: a whistleblower wanted to come to the SEC and tell
Speaker 1: us that you were doing securities at violations, CDA would
Speaker 1: prevent them from doing that. That's a violation of our
Speaker 1: whistleblower protection role. And so the SEC goes after all
Speaker 1: these firms for having NDAs that don't specifically say but
Speaker 1: you can tell the SEC. And in fact Two Sigma
Speaker 1: had NDAs that did say you can go tell the SEC.
Speaker 1: But the SEC said, well, but they didn't say that
Speaker 1: you were they said, you know, you had to represent
Speaker 1: that you hadn't already disclosed any confidential information, and that
Speaker 1: part didn't say you can have already told the SEC.
Speaker 1: And so the SEC find two sigma for having this NDA.
Speaker 1: That sort of said you can tell the SEC, but
Speaker 1: didn't say it in the right way. That was the
Speaker 1: last one. Never see that case.
Speaker 3: That's it.
Speaker 2: I enjoy it.
Speaker 1: That's not legal advice, but you'll never see that one again.
Speaker 2: Man Paul Atkins over to you? Is he confirmed to
Speaker 2: Paul Atkins potentially over to you soon?
Speaker 1: And that was the Money Stuff Podcast.
Speaker 2: I'm Matt Livian and I'm Katie Greifeld.
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