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Magnetar CEO Alec Litowitz: Proud Democrat

lambert's picture
Submitted by lambert on Sun, 04/11/2010 - 1:05pm

[Welcome, Naked Capitalism readers! -- lambert]

Yves has a whole chapter on Magnetar in her terrific book, ECONned. Here's what Magnetar was all about, via Pro Publica:

In late 2005, the booming U.S. housing market seemed to be slowing. The Federal Reserve had begun raising interest rates. Subprime mortgage company shares were falling. Investors began to balk at buying complex mortgage securities. The housing bubble, which had propelled a historic growth in home prices, seemed poised to deflate. And if it had, the great financial crisis of 2008, which produced the Great Recession of 2008-09, might have come sooner and been less severe.

At just that moment, a few savvy financial engineers at a suburban Chicago hedge fund [1] [1] helped revive the Wall Street money machine, spawning billions of dollars of securities ultimately backed by home mortgages.

When the crash came, nearly all of these securities became worthless, a loss of an estimated $40 billion paid by investors, the investment banks who helped bring them into the world, and, eventually, American taxpayers.

Yet the hedge fund, named Magnetar for the super-magnetic field created by the last moments of a dying star, earned outsized returns in the year the financial crisis began.

How Magnetar pulled this off is one of the untold stories of the meltdown. Only a small group of Wall Street insiders was privy to what became known as the Magnetar Trade. Nearly all of those approached by ProPublica declined to talk on the record, fearing their careers would be hurt if they spoke publicly. But interviews with participants, e-mails, thousands of pages of documents and details about the securities that until now have not been publicly disclosed shed light on an arcane, secretive corner of Wall Street.

According to bankers and others involved, the Magnetar Trade worked this way: The hedge fund bought the riskiest portion of a kind of securities known as collateralized debt obligations -- CDOs. If housing prices kept rising, this would provide a solid return for many years. But that's not what hedge funds are after. They want outsized gains, the sooner the better, and Magnetar set itself up for a huge win: It placed bets that portions of its own deals would fail.

So make a horse-racing analogy: Magnetar formed a syndicate, and got a ton of suckers to bet on a horse they were backing. Then, in secret, they bet against the horse. Bad enough. But it gets worse: They crippled their own horse, to make sure the suckers lost and they won! (And then it gets worse: We taxpayers covered the bets for the suckers...)

Along the way, it did something to enhance the chances of that happening, according to several people with direct knowledge of the deals. They say Magnetar pressed to include riskier assets in their CDOs that would make the investments more vulnerable to failure. ... An independent analysis [9] [9] commissioned by ProPublica shows that these deals defaulted faster and at a higher rate compared to other similar CDOs. According to the analysis, 96 percent of the Magnetar deals were in default by the end of 2008, compared with 68 percent for comparable CDOs.

Yay! Well, who owns Magnetar? A hedgie from Chicago named Alec Litowitz. And which party does our Alec contribute to? You'll never guess:

The Democrats, including Rahm Emmanuel.

Oddly, or not, a story from Daily Finance by Moe Tkacik that covers this story -- Rahm Emanuel and Magnetar Capital: A Love Story -- isn't available any more, not even in Google's cache. Traces of it do, however, still exist at Hedgehogs, Yahoo, and Bing. Tkacik is for real (see, e.g., Felix Salmon) so what happened to her story?

NOTE Via Yves.

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DCblogger's picture
Submitted by DCblogger on

any trace of it on the Internet Archive?

Jack Crow's picture
Submitted by Jack Crow on

...the facts.

But, shiny summation, one which should be used far and wide:

"Magnetar formed a syndicate, and got a ton of suckers to bet on a horse they were backing. Then, in secret, they bet against the horse. Bad enough. But it gets worse: They crippled their own horse, to make sure the suckers lost and they won! (And then it gets worse: We taxpayers covered the bets for the suckers...)"

Submitted by jawbone on

hard copies be available somewhere? Also, someone somewhere might have printed it out when it came out. Or downloaded it.... Finance blogs might be the ones who might have archived it.

But, crikey, who expects recent articles --March 18 of this year-- to be disappeared without explanation? How unusual is this?

This is fascinating.

Bless Pro Publica -- did they use anything from that article? I went through it quickly, but didn't see a link which suggested tht article. There are email addreses for the two Pro Publica reporters -- perhaps you, lambert, as author of record for this blog post, might have standing to get a reply from them as to whether they know about/have access to the article.

letsgetitdone's picture
Submitted by letsgetitdone on

First, can we get a contribution from Magnetar to fund the Counter-Conference. And,

Two, Can you find the article in "the wayback machine?"

Submitted by jawbone on

was holding back her report until Moe finished hers...and then, as this thread in comments to Yves' post on Magnetar today shows, lambert upset the apple cart...or pushed the cat out of the bag...or something like that:

AK says:
April 13, 2010 at 3:16 pm
Yves:
>> We worked closely with Moe Tkacik on the story she put up on DailyFinance and took down, and had held off publishing our version pending her releasing her final version.

gone …

Reply
• Yves Smith says:
April 13, 2010 at 5:36 pm
We have a copy of the one that was posted briefly, as well as some of her drafts, but since it is her work, it isn’t right for us to post it. She has gone incommunicado, FWIW.

Reply
? alex says:
April 13, 2010 at 5:52 pm
“She has gone incommunicado”

This is starting to sound like a Cold War thriller.

So, go read Yves' post on the machinations at Magnetar.

Curiouser and curiouser....

three wickets's picture
Submitted by three wickets on

Whoa. Between 35-60% of subprime securities during 2006-2007. Can that be real. Could get interesting.

Submitted by cg.eye on

And Mr. Kunstler has taken note:

The question that now begs to be answered is: why is this activity not being investigated and prosecuted under the federal RICO statutes against racketeering? The Racketeer Influenced and Corrupt Organizations Act was designed to punish exactly this kind of behavior, whether the defendant's name ended in a vowel or not. How is it not a racket to deliberately and systematically construct investments designed to fail so you can collect what amounts to insurance against them -- and then to sell those financial instruments to customers without telling them that these investments were engineered to blow up? At the very least it amounts to a failure to disclose material information, which is the basis for distinguishing illegality. More to the point, it almost certainly amounts to prosecutable criminal fraud and insider trading.

Submitted by cg.eye on

Felix Salmon revisits:

In a narrow sense, then, the Magnetar Trade did indeed involve capital-structure arbitrage of custom-designed synthetic CDOs, as they say it did. Litowitz saw that there was a mispricing in the market, and that insurance was being sold too cheaply, so he created as many vehicles as he could just so that he could buy insurance on them.

The bigger picture, however, was that Magnetar’s vehicle production line helped to perpetuate the bubble, and almost certainly reassured not only bond investors but even the likes of Hank Paulson and Ben Bernanke that the problems in the subprime mortgage market were confined to a few mortgage companies, and wouldn’t have knock-on effects in the financial system. After all, the market knew exactly what was going on in California, and didn’t seem to be worried in the slightest!

Here’s part of what Moe IMed me today:

Magnetar sponsored $40 billion worth of the worst of the worst CDO deals, thus propping up the whole damn market, and Paulson did $5 billion, at the end, only after (I imagine) he caught onto Magnetar’s trade. In the end Paulson looks guiltier because he made more money. BUT. What Magnetar did was much more akin to what the investment banks do every day, which is spin rampant-conflicts-of-interest into megasurefire profits.

In Magnetar’s case, however, they only had their investors to answer to, so they have not had to bother making up some mendacious bullshit explanation of their role in the broader economy such as “efficient allocation of capital”.

From a systemic perspective, Magnetar had a much bigger effect — and a much worse effect — than Paulson. That’s what makes people like Moe and Yves Smith angry. (Much of what Moe learned she got from Yves and her book.) Magnetar was in many ways the engine which was responsible for many of the worst losses from New York to Dusseldorf. Those losses didn’t directly become Magnetar profits, because Magnetar was long equity and generally hedged in a way that Paulson and Burry weren’t. But they did end up helping to cause the biggest recession in living memory.

And Ms. Tkacik weighs in:

All right, but I represent the public, and I want the truth. I can handle the truth! Who is worse than Goldman?

There's this hedge fund just outside Chicago called Magnetar. Founded in 2005, big giver to Rahm Emanuel. Maybe you've heard about them from This American Life. I had been sitting on my own Magnetar story for a couple months when the radio show aired its episode on Magnetar last week (produced in conjunction with this new nonprofit mercenary investigative journalism outfit called ProPublica), because the rapacious "strategy" by which these guys made billions deliberately churning out subprime mortgage deals after the housing market started to fall, solely for the purpose of betting they would fail, is so diabolically hard to explain.

But here I go.
(....)

Read on to get her precis of the whole sitch.

Turlock