Appendix 2 - The collapse of the Lehman Brothers

It has been over 7 years since the astonishing collapse of one of the world’s largest banks shook the global financial system. Having only been 15 years old at the time, I did not fully understand the enormity of the problem. One thing that sticks in my mind, how could a bank the size of Lehman Brothers be allowed to fall?

Having watched the ‘The Last Days of the Lehman Brothers’ documentary, it helped me to understand the underlying issues which led to the bank to collapse and consequently file for bankruptcy. The investment bank had deliberately overstated the value of its assets, such as the collateralised debt obligations (CBO’s). When you combine this with the US subprime mortgage housing crisis, Lehman brothers faced a $25 billion hole, seemingly in the eyes of the bank, out of nowhere.

$25 billion is not exactly a sum which could quite easily go unnoticed, is it? Surely one of 25,000 employees should have picked up on this well before it became too late. Once the bank noticed they were in trouble, they had to write down their commercial real estate assets from $40 billion, to $33 billion and the banks rating was also downgraded. Not looking pretty is it? Yet the company had carried on doing what they were doing as though there were no issues, until it was too late.

Global insurance giant, AIG, were another company that got into difficulty. They had decided to maximise profits to trade in credit default swaps, until the mortgages that were tied to those swaps began to regularly default. The firm were running out of cash to cover their losses and asked the Government for an emergency loan to cover these losses, believed to be worth $40bilion. The difference between this situation and the one Lehman brothers found themselves in, as reported by the BBC at the time, was that allowing AIG to fall would directly affect millions of consumers and companies around the word and therefore they were deemed too big to be allowed to collapse.

Having already rescued other private companies, it was becoming less and less acceptable for the Government to continue bail out firms. The US Treasury refused to give UK bank, Barclays, a guarantee for Lehman’s trading obligations which consequently led to the deal falling through. In doing this, the US Treasury made a statement, saying that they were unwilling to use public money to rescue banks that had got themselves in this mess.

Some people may think this is a sceptical view; however I believe the Government took the view that no organisation was too big to fail and if avoidable mistakes had been made, then they needed to be prepared to face the consequences. In comparison to AIG, Lehman Brothers were in a different position. In order to even enter discussions with Barclays, they realised that they needed to take on $25 billion of bad debts. As well as the current issue of being illiquid, the bank didn’t have the assets to be able to pay off their long term debts.

Looking back on the financial crisis, it is clear in my eyes that the vastly unregulated firms got too far ahead of themselves, seeming thinking that they would be fine no matter what happened. Merrill Lynch were another Bank who fell into difficulty, and were ultimately rescued rather controversially by the Bank of America in $50 billion deal. These banks had all over stated what they had and as a result successfully made millions through over inflated share prices. However, the success was short lived as it was only a matter of time until this caught up with them and as a result almost wiped out the entire industry.

At the end of the day, the issue stemmed from whoever believed it was a good idea to approve these mortgages, without realising that these people would be unable to pay the banks back. Someone within the industry must have looked into this lending and surely thought we could be in trouble here. Was it just a case of it being too little too late by the time Lehman Brothers realised? Can a bank like this not know how many bad debts they possess, and honestly not realise how many mortgages were going to default as well not realising how deadly these CDO’s would turn out to be? I for one am certainly not convinced, someone somewhere must have known something.

Appendix 1 - Insider trading touches down in Fantasy Football

Is it really possible to beat the market? Can you consistently make high returns from investments without any inside knowledge? Investors certainly think so, otherwise why would anyone invest in something that isn’t going to make them money? Some people believe it is pure luck, others are more suspicious.

Recently, there has been a suggestion that employees at two US fantasy sports companies have been acting improperly following allegations of insider trading. This industry came about from an American Fantasy Football game where users would pick players to form a team and score points based on players weekly performances, all for fun. However, this all changed recently as companies such as DraftKings and FanDuel set up online daily and weekly games based on a very similar idea. However this option requires an entry fee to paid (up to $1,000, as reported by the New York Times) to play against hundreds of opponents, with a potential $2 million prize for the winner.

‘It is the simplest way to win life-changing piles of cash every week!’ stated DraftKings, the company who raised $300m in a funding round during July, led by 21^st Century Fox, with rival FanDuel raising a similar amount according to the Financial Times. For the vast majority it is a way of losing money, with only a tiny proportion of the participant’s actually winning cash. Interestingly it has been revealed some of the tiny percentage of winners, are employees of these two fantasy companies. Seems coincidental right?

In my eyes, it should not be possible for employees at either of these companies to be able to compete in the fantasy leagues; as they have access to information not available to the very people they are competing against, the general public. Employees at the two companies have a clear advantage and are able to beat the market as a result of inside knowledge.

But this is exactly what has happened this month, as one employee won $350,000 on a FanDuel website, by using the information he had access to as a result of working for DraftKings. More information on the story can be found here.

You may be thinking, does the information employees have access to, really give them a clear advantage? I thought the same but yes it does. They are able to see the number of people who have picked particular players and therefore work out which footballers would give them to best chance of winning. This is because if they pick a player who has been selected by a small proportion of the public, and this player scores a lot of points then there will be less teams doing well at the same time.

Where is the fun in that? Fantasy football was created for people to test their knowledge against other football fans, not for people to abuse their positions and win money at other people’s expense. Having played the UK version of fantasy football (or ‘soccer’ as it known in the US) for a number of years, I would be very upset if I knew people I was competing against have an unfair advantage. I would be even more annoyed if I had lost money as a result of this.

What makes this all the more astonishing is this is taking place in a country where online gambling is illegal. The simplest way to solve this issue is to ban all employees, who have access to insider information, from playing any kind of pay-to-play fantasy football. This would prevent anyone from making an abnormal return and also ensure the general public are competing on a level playing field. A similar step was taken by the English FA, where common sense was used to prevent any chance of insider trading occurring. All professional footballers have been banned on betting on any football match, regardless of whether they are involved or not.

People may argue that the fantasy football market does not need to be regulated as it is a game all about skill; however with such large sums of money at stake there needs to be some form on intervention. If this has happened once, what is stopping it happening again?

Digby Jones: The New Troubleshooter Episode 1

Lord Digby Jones began this new 3 part series by visiting Hereford Furniture, a medium sized family run furniture company, who have struggled in recent times. Digby doesn’t hang around and gets straight to the point, ‘You’re not trying to say you’re the cheapest, you’re trying to say you’re the best.’ This is a key point where many companies have become unstuck in the past, focusing on low prices whilst forgetting quality. The furniture industry has followed the general trend in recent years after the economic downturn, with 1,200+ furniture firms going bust during the recession. Having made an £80,000 loss last year, Hereford Furniture are beginning to consider their future.

After watching this intriguing documentary, one point that stood out straight away was Digby’s desire to turn the company’s fortunes around, keeping people employed and paying taxes. This is a different view to many conventional consultants as many will look to reduce the company’s costs and tackle the issue from a monetary point of view as opposed to a social perspective.

Digby immediately identified some key areas which may have caused the business to perform poorly. Hereford Furniture had a huge product range, whilst being effectively split into 3 separate businesses; a manufacturer, an importer and a retailer. In order to succeed, Digby advised that they should specialise in one area which MD Mike Muxworthy struggled to understand. This is often an issue with family run businesses; people struggle to see the issues with their current strategy and do not see the bigger picture. Can a business like this really operate in these 3 areas and be successful? Based on their recent performance, I believe they cannot.

Following a trip round the shop floor, Digby and Mike realised that employees felt one of the businesses weaknesses was the communication between themselves and senior management as well as the workforce’s organisation. In my eyes, it is an important managerial technique to speak to those at the bottom of the ladder within an under-performing business, to hear their honest opinions. These employees know the ins and outs of the daily operations and have different perspectives to management. 

It is vital that all the stakeholders, both internal and external, work together to achieve the same goal. Good communication between management, shareholders and employees can help to improve overall efficiency and effectiveness which is shown towards the end of the documentary as employee’s state that their jobs have become easier and they are able to get more done. This has come as a result of Mike changing the company’s strategy to focus on producing fewer products and only building for stock. 

Following a visit from Digby’s friend, Stuart Towe, Mike announced that they were planning to cut their range from 1000 products to just 20. By divesting some of their assets and cutting 49 out of every 50 product, Mike hopes this will improve their efficiency and create value. It was also agreed that they would brand their products under the ‘Hygge’ name, a word from the Danish language. This was an ambitious plan which the company hoped would turn their fortunes around. 

Looking back at the documentary, Digby posed the right questions to the company in order to suggest ways of improvement, but as is often the case, it is hard to change the culture within a family run business. Digby persevered and in the end Mike saw his way of thinking and made some changes, which in my eyes should give the company a better chance of performing well in the future.  

Did these changes help turn their fortunes around? Unfortunately not, as an article in the Hereford Times stated that the company were to cease trading at the end of June to make way for Land Rover car showroom.