Death of a Giant

Death of a Giant
The news just came across this morning that Paul Volcker died yesterday at the age of 92. At 6’7” tall, he qualified as a giant of a man. But mostly, he was a giant to most of us who lived through the financial worlds of the 1970’s and 1980’s. His impact on the economic history of the United States and perhaps the world was matched by few men. As a man with degrees from Princeton and Harvard and who attended the London School of Economics, he was a giant of massive proportions in economic intellect department. From his earliest days interning at the New York Federal Reserve, he had a bead on the pernicious nature of inflation and how it undermines economic stability. His years at the New York Fed and then Chase Manhattan Bank made him well-prepared to take on the leadership of the Federal Reserve as its Chairman under Jimmy Carter in 1979, when the economy most needed controlling and the monster of inflation needed a silver bullet.
It was a scant two months later in early October, 1979 that Volcker held his own version of a Saturday Night Massacre. This was not the Watergate-era political shenanigans of Richard Nixon that most people associate with a Saturday Night Massacre, but rather a complete change in the way the Federal Reserve planned to attack the beast of inflation. IBM had just launched a huge bond issue the day before and rates were rising. The economy looked robust viewed through traditional economic data, all except for inflation, which was behaving very badly. Volcker took the unprecedented step of holding a Saturday night press conference telling that world that he was raising the discount rate by a full 1% and that his intention was to use rates rather than the traditional money supply numbers to manage the economy. This was a clear and visible assault on inflation, which he considered the biggest and most harmful issue faced by any economy.
I remember the day very well. It was the Saturday of the long Columbus Day weekend, not exactly a big holiday, but a day when the stock markets and banks were closed anyway. Volcker knew that having an extra day to consider the impact would help financial institutions adjust to this wholesale change in the Fed’s management practices. These were the days when the Government Bond markets ruled Wall Street and the big guns were all sitting in that domain. The bond markets are very easy markets to take long positions, but very challenging markets, at the time, to go short. There were some new financial futures markets in Chicago which had launched futures contracts on both Government Bonds and on T-Bills on the Chicago Board of Trade and the Chicago Mercantile Exchange respectively. These were very young markets that had fairly thin liquidity, but they offered the ability to go short the market for those instruments. And, funny thing, the Chicago markets were open on Columbus Day even though the cash Government Band and Bill markets were closed (since the primary dealers were all banks and they were closed). I’m not sure if Volcker thought about the Chicago futures markets when he made his decision, but I’ll be he didn’t (not that it would have altered his decision).
Bankers Trust was one of the most progressive trading shops on the street and acted more like an investment bank than a commercial bank. That meant that its trading desk was more attuned to Wall Street than it was to Main Street. Our team of traders gathered to meet in an emergency session on Sunday since it was clear to them that this Saturday Night Massacre by Volcker was destined to drive rates us precipitously and that the markets were in for a wild ride. The obvious thing to do was to open the trading day on Monday by shorting the market as much as we could in Chicago. Technically the bank was closed Monday, but nothing prevented us from trading while we were closed. We just didn’t think there would be much room to take advantage of the situation since everyone else would surely be doing the same thing in advance of a very bearish opening on Tuesday in the cash government markets.
These were such early days in the Chicago market adoption of financial futures that these grain and livestock traders had little or no foundation in how the financial world really worked. The Chicago crowd is populated by speculators who worry about one or two ticks and don’t take strategic positions, certainly not in financials at that time. That meant that the only people who could really connect the dots on how a big move by the Federal Reserve might impact the futures markets were the people from New York that traded those markets as clients. Those were the guys that were on holiday that Monday.
So, when the futures markets opened on Monday, our team tip-toed in and started shorting the bond and bill contracts. Strangely enough, there was no rush to do likewise from others so the market didn’t react too badly. That allowed us to keep feeding added short positions into the market against the apparently sleeping market. By Tuesday morning when the Wall Street crowd came to work, they found exactly what they expected to find, a market that had not just properly adjusted to the new reality of higher rates, but one that had actually overreacted due to our pushing all day the prior day. We were like the boys from Trading Places that morning, smiling while we backed out of our strong short positions, booking our profits as we went so that these other sleeping giants could get their shorts on to at least look like they were protecting themselves. The cow was already out of the barn and living in the Bankers Trust barn by that time, but that’s how the game gets played. You snooze, you lose.
There was even the story of the head of trading for Chemical Bank, one of the big primary dealers in government bonds and bills. He was on his sailboat out in the Sound floating around oblivious to it all. I heard he lost his job over that little weekend dalliance. You snooze, you lose.
The important thing in all of this is that it was the giant named Paul Volcker that punched the bond markets in the nose and wrestled inflation to the mat. I had the opportunity to meet Volcker on a number of occasions years twenty years after that event when we bought a company where he was Chairman. I got to work with him on his personal estate planning that was a bit more complicated than normal due to his one son with cerebral palsy. He was still the smart, gruff guy he was always depicted to be. He cared about the more important things in the world and worked hard to make them all better. He died without being any less of a giant than he was on that Saturday night in October, 1979.