How Banks Turned Into Giant Synthetic Hedge Funds

Tracy Alloway (0:00)

Hey there, Odd Lots listeners, it's Tracy Alloway.

Joe Weisenthal (0:03)

And Joe Weisenthal.

Tracy Alloway (0:04)

We are very excited to announce that Odd Lots is going to Washington.

Joe Weisenthal (0:09)

That's right. For the first time, we're going to do a live public Odd Lots recording in our nation's capital. That's going to be March 12th in Washington, DC at the Miracle Theater. And guests will be announced in the coming days. But in the meantime, you can find a ticket link at bloomberg.com/oddlots. Bloomberg Audio Studios, podcasts, radio, news.

Hello, and welcome to another episode of the Odd Lots Podcast. I'm Joe Weisenthal.

Tracy Alloway (0:52)

And I'm Tracy Alloway.

Joe Weisenthal (0:53)

Tracy, remember SVB?

Tracy Alloway (0:56)

I vaguely remember something happening with a bank called Silicon Valley Bank.

Joe Weisenthal (1:00)

Here's actually sort of something I've been wondering about is like, okay, there was this moment where suddenly people got anxious about regional banks and stuff like that. You know, we like did episodes, like how should we reform banking? And should banking be semi-public and all this stuff? But like nothing happened in the wake of it, right?

Tracy Alloway (1:18)

No. And in fact, I mean, the Basel endgame stuff seems to be pretty much off the table at this point.

Elham Saeidinezhad (1:25)

Oh yeah.

Joe Weisenthal (1:26)

Actually, I haven't been following that. What's happening with that?

Tracy Alloway (1:28)

I don't think it's happening. Michael Barr has like, he's left, hasn't he? So, I mean, it seems like there's not going to be a big change on that front. I will also say like one of the interesting things when it comes to bank regulation is there was a 2018 change where I think the Trump administration made it easier for regional banks to do some potentially riskier stuff. And the argument there was that regional banks should be treated differently to large banks. They should be able to do certain things, blah, blah, blah, blah, blah. And I guess you could argue that that might have fed into some of the SVB drama as well.

Joe Weisenthal (2:07)

Actually, it's good that we're talking about this because when we talk about financial markets these days, so much of it is about tech in particular. But if you go back and look at a chart of KRE, the regional bank ETF, that is another one that was just a straight line up on November 5th. And there's a widespread expectation, and I think pretty well founded, that the Trump administration is going to have a much more liberal attitude towards financial market regulation than the last administration. And so, we shouldn't go too long with, take our eye off the ball of financial regulatory issues, because also if history is any guide, like the next thing that happens, like we'll get no warning of it, it'll just happen one day.

Tracy Alloway (2:47)

Yeah. Also, I love talking about banks, like let's just do it for bank purposes.

Joe Weisenthal (2:53)

Okay, well, I'm very excited about this episode. It's a guest I've actually wanted to have on for a very long time. We're going to be speaking with Elham Saeidinezhad. She's a term assistant professor of economics at Barnard College at Columbia, as well as an adjunct professor at NYU, and also the author of a recent paper sort of revisiting the collapse of SVB and applying a new lens to it. The paper is called Banks as Synthetic Hedge Funds. So Elham, thank you so much for coming on Odd Lots.

Elham Saeidinezhad (3:21)

Thank you so much for having me. I'm very happy to be here.

Joe Weisenthal (3:24)

Absolutely. I'm not used to this phrase or this term, synthetic hedge funds. I can sort of take a stab in my mind of what it means, but what does this term synthetic hedge funds mean?

Elham Saeidinezhad (3:34)

Synthetic hedge funds is a type of activity, and rather than being a specific type of firm, and this is when a non-hedge fund wants to replicate the activities of a hedge fund, and therefore get the same type of return. It is about the replication, but it's about the replication of the return and risk of a hedge fund without being an actual hedge fund. So this is when we call an institution doing what we call a synthetic hedge fund type of activity.

Joe Weisenthal (4:02)

Tracy, I already like this conversation, because normally we talk about shadow banks, right? And so the idea is that there's banks inside regulated institutions and then other non-banks sort of replicate their activity. And it feels like we're looking through the other end of the telescope here talking about hedge funds being replicated inside regulated institutions.