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Yesterday, the Zurich based International Capital Market Association (ICMA) disclosed that it has been investigating a well know investment bank selling tactic: hype.\u00a0 I know that you are thinking something along the lines of: “I had already come to accept that hype was a part of the game – this is not news.”\u00a0 You would be correct.<\/span><\/p>\n However, the ICMA is focusing on European bond sale where the big investment houses of the world are complaining that investment banks, when selling the sovereign debt of troubled European countries, have over-hyped the amount of interest.\u00a0 Why is this important?<\/span><\/p>\n What is little known to non-finance industry insiders is that from initial public offerings (IPOs) to sovereign debt sales, that the high pressure sales tactics faced by the retail investor from brokers, are also faced by institutional investors from institutional sales people (i.e. high falutin’ brokers).\u00a0 Because supply of bond issues is limited, interested buyers almost never get their preferred alotment of bonds when buying.\u00a0 Instead, buyers typically get less than they had wanted.<\/span><\/p>\n So prospective buyers try to get an indication of market wide interest from the investment bank\/underwriter.\u00a0 In knowing the interest, oftentimes buyers will overstate their own interest – in my experience by 2-3x – so that when the total market allocation of a new bond issue is completed by the underwriter, the buyer will have gotten something close to his\/her interest.<\/span><\/p>\n The ICMA is investigating many complaints by big buyers of European sovereign debt who have said that recent low credit rating issues have been over hyped, even by financial market standards.\u00a0 Folks, its stories like this that make the financial markets look to outsiders like the “game is rigged.”\u00a0 This whole system of deceit permeates financial industry culture and this is just another manifestation of it.\u00a0 The sad part of it is that big institutional investors still feel the need to participate in the charade.<\/span><\/p>\n Why do sophisticated investors get taken in by hype?<\/span><\/p>\n One reason, the rational reason, is that institutional investors know that by “aiding” an investment bank by buying an unattractive issue that when an attractive issue comes along the investment bank is more likely to give the buyer a favorable allotment.\u00a0 Sort of a “I scratched your back, now you scratch my back” arrangement.\u00a0 Woe to the little investors in the big institutional investment vehicle, like a mutual fund, who is stuck with these non-investment savvy, political-type of decisions.<\/span><\/p>\n