Morgan Stanley Investment Bank Facebook IPO from Americasroof Under Creative Commons Attribution-Share Alike 3.0 Unported License

Kennon-Green & Co. Fiduciary Financial Advisor, Wealth Management, Global Value Investing

The news wires are afire this morning because Alistair Barr of Reatuers is reporting that Morgan Stanley, JP Morgan, and Goldman Sachs, the lead underwriters on the Facebook IPO, all cut earnings forecasts for social network giant during the IPO roadshow.  Even worse, the banks then allegedly passed this information on to only a handful of huge institutional clients, while continuing to hawk the stock to everyone else on the old terms.

Morgan Stanley Investment Bank Facebook IPO from Americasroof Under Creative Commons Attribution-Share Alike 3.0 Unported License

How did someone, somewhere, in the underwriting syndicate not realize this was reputation-damage level behavior?  A lot of people are discussing the fact that to withhold material information, and then selectively disseminate it to a handful of insiders, warrants SEC involvement and, possibly, prison sentences.  I agree.

[mainbodyad]Do the investment banks really not understand that their very existence is a point of public contention because they are no longer seen as facilitators of capital raising and nation building, but ponzi operators overseeing transfer mechanisms?  That is the perception on Main Street, fair or not.  For the sake of one deal, and a handful of fees, some of the formerly great investment banks have permanently tarnished their reputation.  This is the opposite of how Goldman Sachs behaved during the Great Depression, taking huge losses to protect its clients.

I’m a self-made, dyed-in-the-wool Coca-Cola Capitalist-with-a-capital-“c” who has no problem with income inequality provided it is part of a meritocracy and not the result of genetic dynasties, and even I have made no secret of the fact that I think the Facebook IPO was structured in a way that the offering banks should be sued into oblivion.  To paraphrase one of my favorite academics, we would never tolerate a manufacturing company that would put a toaster on the market that had a high risk of blowing up, yet we allow financial institutions to continually create products that have the equivalent financial risk, solely because the latter have huge lobbies in Washington and essentially write their own legislation.    

The investment banks need to go back to the partnership structure that worked for the 20th century.  The partners make a lot of money, but they are on the hook for their entire family’s net worth, or at least an enormous portion of it, if the investment bank implodes.  That kind of till-financial-death-do-us-part arrangement results in a cadre of partners walking around the office who care, on a deeply personal level, about the bank beyond the current deal on the table.  

That, and the return of the Glass-Steagall Act to separate deposit-taking activities from investment banking operations, are some of the first things that need to happen if we are going to learn any lessons from the credit crisis.

Image of Morgan Stanley headquarters from Americasroof and used under Creative Commons Attribution-Share Alike 3.0 Unported license.