Category Archives: What’s Going On?

Now That I Think About It…

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When we talk about fraud and how it tends to happen, the classic fraud triangle is most commonly used to help us understand how it all happens. The sides of this triangle represent opportunity, pressure and rationalization. In this triangle there is a person, just a regular old person, like you and me. Fraud can happen to anyone and fraudsters are often regular people who find themselves under pressure, faced with the opportunity to perpetrate a fraud and the ability to rationalize it all.

Sometimes this person may face pressures. Maybe she has a family member who gets sick and now they have to deal with massive bills. Maybe the person has a gambling problem. Maybe he wants to live the jet set life that he sees his friends living. Whatever the reason may be, these people feel under a lot of pressure to get their hands on more money than they are currently earning.

Pressure or not, maybe this person sees an opportunity to defraud. Perhaps he can sign checks, AND, he has custody of the checkbook AND he performs the company’s bank reconciliations. He has all this access and responsibility and no one checking his work. So, now he has access to the money and he can doctor the books to cover up his wrongdoing. However it works out, these people see a weakness that they can take advantage of.

The third leg of this triangle is rationalization. This is where a person tells himself that there is a justification for what he is doing. Maybe she tells herself that she really needs the money to deal with this one emergency and this will happen only once. Maybe she then tells herself that this will happen only once and, to boot, she has been a loyal employee for a while so the company really owes her a little leeway for all that she has done. Maybe she tells herself that once she is out of this spot of trouble, she will pay the company back and it will be like it never happened in the first place. Maybe he tells himself that he is underpaid and that what he is doing is merely taking the money that he is rightly owed for all the hard work and time that he puts into the business. The rationalizations that people use are practically endless.

Earlier this year, I listened to the podcast “Ponzi Supernova”, a podcast about Bernie Madoff’s Ponzi scheme and what has happened since. One thing that was fascinating about this series was the conversations that Steve Fishman, journalist and narrator of the series, had with Bernie Madoff, infamous perpetrator of a massive Ponzi scheme. Bernie talked about his childhood and how affected he was by his father’s financial failures. Bernie tells Steve that, after seeing his father lose a lot of money and what it did to the family, Bernie swore he would never let that happen to him (perhaps one could see this as a pressure looming over his life). In the early 1960’s, Bernie Madoff violated market regulations and his clients’ trust by losing their money on risky deals. Instead of letting them know that this had happened, he lied to his clients, borrowed money from his father-in-law and carried on as though he was a brilliant investor. Speaking with Fishman, Madoff made it sound as though, because he did not want to fail as his father had, he took these steps so that he could continue to, at least, appear to be successful and very talented.

Bernie Madoff spoke with Steve Fishman a couple of years after he was caught (though, in some versions of his story, he claims he quit). Bernie Madoff also spoke with Diana Henriques, who wrote the book The Wizard of Lies, which is now an HBO Film by the same title. Their interactions also occurred a couple of years after Madoff’s fraud was discovered. After he had plead guilty to his crime. Yet, over and over again, Madoff seemed to continue to make excuses for his behavior and try to minimize what he did. Even though, when pleading guilty, he claimed that he acted alone, he has since changed his tune and as co-conspirators have testified against him, he then seems to say, “well, except for that person, I acted alone”. So, it seems that even after being caught, he is only sharing as much of the truth as he needs to and, what I have found to be most interesting, is that he appears to continue to rationalize what he did.

In an ideal world, one would imagine that having a fraud exposed and pleading guilty would bring a fraudster to his senses. When we imagine a person committing fraud as a regular person who has fallen into irregular behavior, the hope is that putting an end to this irregular behavior will bring this person to her senses and get them to admit that what they did was without excuses; that, even though they rationalized their actions when they perpetuated the fraud, they now saw the error of their ways and realized that the rationalizations were all without merit. During the hearing when he plead guilty, Madoff read a prepared statement where he apologized to his victims. However, even that apology came with a “but” attached. “While I never promised a specific rate of return to any client, I felt compelled to satisfy my clients’ expectations, at any cost.” Yet, listening to Ponzi Supernova, you learn that some clients would demand an adjustment to their statements when they did not receive the return they had been promised. Madoff has also placed blame on his victims, claiming that they knew, or should have known, what they were getting into, that he had warned them and that they did not lose as much as they claimed. And, I have found that it is not just Madoff who does this. The Association of Certified Fraud Examiners talks to people who were convicted of fraud and, in video after video, the perpetrators found ways to hold others responsible for what they did – and this is after they had been found guilty and served their sentences. For instance, one blamed her supervisor for being too trusting, “I don’t blame them but…” she started her sentence. Another stated, “I asked you for help and you said no”, while yet another said “I won’t get caught again”, not “I won’t do it again because I realize it was wrong.

It may be human to not want to admit full responsibility. Perhaps it is too hard for most of us to admit that we have done terrible things. Who really wants to be a monster, blamed for ruining lives, even when those lives are laid out in front for you? And if we are not harshly judging ourselves, even when caught, then can we really adjust our behaviors to do right and get back on the straight and narrow? I don’t know the answers to this but it is something I think about as I perform my work as a forensic accountant. If a person is not able to strip away rationalization and admit that they were just wrong when they perpetuated their fraud, then what are the chances that it won’t be so difficult to do it again?

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Massive Betrayal of Trust

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Photo by Mamnaimie Piotr

On September 8, the Consumer Financial Protection Bureau (CFPB) put out a press release that it was fining Wells Fargo Bank $100 million for secretly opening deposit and credit card accounts, without customer approval. In addition to the CFPB fine, Wells Fargo was fined $35 million by the Office of the Comptroller of the Currency, $50 million by the City and Country of Los Angeles and will have to pay approximately $5 million in restitution to customers. This fraudulent behavior occurred on a massive scale and, based on the CFPB’s investigation, resulted in:

  • Employees opening 1,534,280 unauthorized deposit accounts;
  • Employees submitting applications for 565,443 credit-card accounts, without the knowledge or consent of the people in whose names the applications were made;
  • Employees creating fake email addresses in order to enroll consumers in online-banking services;
  • Employees requesting debit cards for customers, without the customers’ knowledge or consent, and creating PINs to activate these cards.

All of the above has happened only since January 1, 2011. That is about five years in which these shenanigans were going on. During this time, Wells Fargo fired about 5,300 employees but it does not appear that the bank did a lot more than that to change the culture and systems in order to keep these practices from recurring, or that it took any steps to do right by the customers who were affected. To boot, the executive who oversaw the unit where this all happened left without having to pay back any of the almost $125 million that she earned with the bank. To understand why employees engaged in these dishonest practices, it is important to understand how they benefitted.

Wells Fargo is valued at over $250 billion, making it the most valuable bank in United States, by this yardstick. Wells Fargo was also considered to be the king of cross-selling. Cross-selling is a practice where banks sell more than one service to a customer. For instance, say you open a checking account with Wells Fargo. If the person that you open your account with convinces you to then open a savings account, a credit card account and a mortgage, all of that is cross-selling. At Wells Fargo, employees were paid and received bonuses based on the number of different services they were able to sell to customers. At times, employees would have to work unpaid overtime hours in order to reach these goals and would be threatened with losing their jobs if they did not do enough cross-selling. These employees were told to do “whatever it takes” in order to meet sales goals and this turned out to include engaging in the fraudulent behaviors I noted above.

With the pressure to perform in order to increase earnings, through bonuses, or merely keep a job, the retail employees, at least 5,300 of them, found many opportunities to game the system. Controls at Wells Fargo, when it came to ensuring accounts were valid and authorized by customers, appears to have been very lax. For instance:

  • Employees were able to sign up customers for banking services and would use fake email addresses that used wellsfargo.com as the domain name, such as 1234@wellsfargo.com or none@wellsfargo.com. Doesn’t that seem rather brazen? It also seems like a security shortfall on the part of the bank, that the application process wouldn’t flag an email that doesn’t exist in your own system.
  • When employees opened fake deposit accounts, they would fund these accounts by transferring a customers money from an authorized account to the fake account. Sometimes, as a result of the transfer, the authorized account would incur insufficient balance and overdraft fees. Also, the fake accounts would also incur fees and Wells Fargo would withdraw money from the authorized accounts in order to pay these fees.
  • In a similar manner, credit card accounts opened, without the approval or knowledge of customers, would incur annual and other fees. At times, these customers would find that they were in collections and their credit scores had been affected by accounts that they did not even know they had.
  • Some customers actually received credit cards for accounts that they had not authorized. When these customers contacted Wells Fargo to complain about these cards, they were told to simply destroy the cards. Destroying a credit card does not close the credit card account, nor does the shredding of a card do anything as far as the shredding that your credit profile may have taken.
  • In order to meet quarterly goals, employees would hold back applications for account openings. The manual applications, that included sensitive personal information, would be stockpiled in an unsecured manner and the accounts would only be opened in the next sales goal period, in a practice referred to as sandbagging.
  • Wells Fargo also misled customers by telling them that they could not get one service without getting a bundle of other included services. That would be like opening a checking account and being told that you cannot do so unless you open a savings account and get a credit card with the bank.

With how widespread these practices were, it seems that employees were sharing knowledge about how to best bulk up their cross-selling numbers, without actually cross-selling. Also, when customers complained about fees, it is unclear how much of a follow-up there was to discover if what had happened was a mistake or not. Then, when Wells Fargo discovered this behavior and fired an employee, the bank did not take any steps to let the impacted customers know that their information had been used to open accounts in their name and, if applicable, charge them fees. The bank did not go back and refund customers the fees they had been charged, unless the customer raised a stink about them. When I was discussing this case with my husband and explaining how customers were negatively affected, he had a tale of his own. He has a credit card (not Wells Fargo) and the company changed his credit card information, without letting him know. When he sent payment on his account, they accepted the payment, without telling him that the account was closed, and then charged him interest and fees on the balance that had been moved to a new account. He, not the credit card company, had to figure out what had happened and he, not the credit card company had to calculate the monies that needed to be refunded to him and make sure that the company was not just holding money on a nonexistent account but actually crediting it to his account.

As a result of this case, in addition to the fines that Wells Fargo has been ordered to pay, there are steps the bank has been ordered to take in order to improve the culture and strengthen the system so that this kind of behavior can be prevented, detected and corrected in the future. This includes:

  • Employee training to prevent “Improper Sales Practices” and improve integrity at the bank;
  • Creating monitoring processes and policies to effectively deal with customer complaints;
  • Creating systems to ensure that customer approval is received before accounts are opened on their behalf;
  • Revising the basis for how employees are paid and reviewing sales goals to ensure that they are not unrealistic and do not impose unreasonable pressure on employees.

Wells Fargo will continue to be monitored for five years, to make sure that they comply with the CFPB’s consent order.

On your part, with all your accounts, you can check to make sure that they accounts that you have are ones that you have authorized and that transactions made in your name are valid. Some steps that you can take are:

  • Review your credit report on a regular basis to make sure that all accounts listed are ones that you know about. Several financial institutions offer free credit reports to customers. If this is not an option for you, you can visit the Annual Credit Report website. On this website, you are entitled to credit report per year, from each of the three major credit reporting companies. A strategy to employ is to check a report with one agency every four months;
  • Check your bank statements regularly (at least monthly) for any transactions that are incorrect. Even if it is a small amount, look into a transaction. That small amount could be an indication of something bigger;
  • If you receive a card in the mail that you did not apply for it, follow-up on it and make sure that it is cancelled. Then check your credit report again.

On the Wells Fargo website, the Chairman and CEO states that “Everything we do is built on trust.” It seems that many employees have been playing lip service to that value and we know that, even with trust, it is important to verify. Take the time to check in on your finances. There may be mistakes that need fixing and there may also be pressured employees who are trying to get ahead or merely hold onto their jobs by engaging in dishonest practices.

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When To Fold ‘Em

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We are a household of sports fans and this tends to be just about the only live television that we watch. Because we can’t fast forward through the commercials during live games, I have watched commercials about daily fantasy sports. A lot of commercials about daily fantasy sports (DFS). It doesn’t matter whether it is DraftKings or FanDuel, as they both seem just about the same. I have heard about how you can win millions, practically for free, and about how easy it all is. I know nothing about fantasy sports, and I have come away mostly irritated by how ubiquitous the advertising is than wanting to try out the daily fantasy sports scene. I also don’t trust them when they tell me that I could win money for nothing and, instead, I wonder how they could claim to give away so much money for nothing and still pay for the many, many ads that are everywhere we look.

Answers came to me at the beginning of October, when a DFS scandal hit the news. As the story went, a DraftKings employee released key information earlier than he should. This information, if known, would give someone a tactical edge when playing fantasy football. The same employee also won $350,000 betting at FanDuel. Even though this doesn’t look good, DraftKings says they are certain that, even with an extra $350,000 in his pocket, their employee did not act improperly – he merely made a mistake. As I read the story, I shook my head in disbelief. I was surprised by several things. First of all, I was surprised to discover that Daily Fantasy Sports betting is not considered to be gambling. Now, I know hardly anything about daily fantasy sports, so it may indeed be a game of skill and not luck. However, especially with terms like “betting” used when talking about it, it sure does look a lot like gambling. That said, interviews that I have seen and read show those who spend a lot of money on DFS referring to it as investing. Nevada recently shut down DraftKings and FanDuel, declaring that DFS is gambling and that the two companies need licences before they can operate in that state. So, in that regard, let’s go with more and more people are agreeing with me on the whole “is it gambling” question.

More surprising, though, was the employee betting. To have a company that runs the betting allow its employees to bet as well smacks of impropriety, regardless of whatever steps the companies claimed they took to keep things on the up and up. Both FanDuel and DraftKings would not let their employees bet with them but those same employees, armed with whatever insider information they might (or might not) have, were able to go to competitor sites and bet there. And bet they did and how surprised are we to find out that the top winners in daily fantasy sports tended to be employees of DraftKings and FanDuel (though never from their own employer, of course).

As I read articles and watched news pieces on what was going on in the Daily Fantasy Sports realm, I kept exclaiming, to anyone within earshot, “who thought this was okay? How could they think it was okay?”

I couldn’t believe that management at this company could look at the set up was acceptable. Maybe they did, or maybe they just thought they could get away with it but it has me wondering about what operation and control policies other entities have in place that either do not protect them and their assets, or even put them at greater risk. Just because you institute a rule, it does not mean that it is a good or useful rule. For instance, DraftKings employees, with all the inside information they potentially had access to, could not place a bet with their employer, DraftKings. However, they could log into FanDuel, their competitor and use their edge when placing bets there. And the policy was mirrored by FanDuel. Looking in from the outside, both companies appeared to be acting unethically, and just about always, perceptions are as powerful as reality. If it looks as though someone is having a $350,000 party with your money, the facts will matter very little to you.

It might feel very managerial to make rules in your organization, but if all they serve to do is fill operations manuals and make you feel good, they are achieving less than nothing. It is worse than not making rules at all because, at least when you don’t have regulations, you have no illusions about whether or not you are protected. On the other hand, creating a free for all entity may make you feel like the cool kid and may even have people clamoring to work for you. However, among those clamoring, it is almost guaranteed, will be those seeing ample opportunity to commit fraud and perhaps lay waste to your business. There are very important reasons why people like me preach setting up your business in ways that prevent and detect fraud and two of these reasons are protecting your assets and protecting your reputation.

Now, FanDuel and DraftKings are finding themselves on the defensive and being given the cold shoulder by entities who do not want to be tainted by the growing scandals. They are being investigated by state and federal authorities, and are now scrambling to clean up an image that would never have been sullied if they had formed their operating and control structures correctly and ethically, in practice and appearance, from the get go. Now they are tripping over themselves, doing things like creating self-regulatory bodies in order to regain the trust of the public. Judging from what I have read, that is not working very well – something that happens when a company has betrayed the public’s trust. Instead these companies are being put under the microscope and their reputation is taking a beating. They are on the defensive now and all of this could have very easily been avoided. If you are running a business, you should ensure that you consult with a qualified professional to avoid issues such as:

  • Conflict of interest in perception and reality;
  • Approaches that compromise your reputation; and
  • Procedures that may cross legal lines.

Spending time and resources doing things property in the first place is less costly, in dollars and reputation, than trying to clean things up after the damage is done. That kind of disaster can be very difficult to come back from. Is it something you are ready to bet on?

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Not Again…

I don’t know what life was like for you, growing up, but my youth was full of lectures. I never just got into trouble. I got into trouble AND I got a lecture to go along with it. We never just went on vacation; we went on vacation, had to write an essay about our experiences AND we got a lecture about how both things were important. We didn’t just discuss our report cards, good or bad; we discussed our report cards AND got a lecture about the long-term benefits of each class we were taking. The lectures often came with true-life stories about one or both of my parents, someone they knew or someone who lived in their “day”. I am not saying that I was lectured a lot, but I did hear some stories more than once. On the occasions that I tried to interrupt to say that I had heard the story, I was told either that there was a new lesson to be learned, or asked why, if I knew the story and the wisdom it imparted, I continued to make the same mistakes.

Well, at last, I get it. Because the other day, I came across a case that includes so many lessons on fraud that, if I were teaching a semester on fraud, I could use it as an example in just about every lesson. This is the case of Christopher Myles, a former bookkeeper in New York City. He worked at Central Park Realty Holding Corp., and some of its affiliates, and reported to the President of the company. Tragically, in May 2010, the President, suffered a stroke and ended up in “a comatose-like state until her death in February 2012”.

With the president incapacitated, no one stepped in to VERIFY Myles’ work. By the time September 2011 rolled around, Christopher was aware that he could pretty much do whatever he wanted without anyone really questioning what was going on. He knew that he now had the OPPORTUNITY to defraud his employer and he took advantage of this opportunity. True to the trend, Christopher Myles started his fraud on a small scale, using the President’s credit cards to pay for personal expenses. He escalated quickly and by early 2012, he was transferring funds out of her personal bank account in order to pay his and his mother’s bills. He did this until there was no longer any money in the President’s bank account. Myles did not let this empty bank account stop him though; he then started transferring money from the business accounts, first, into the President’s personal bank account and, subsequently, into his own personal accounts. On days when he felt particularly bold, or reckless, Myles would transfer money straight into his and his mother’s personal bank accounts. Christopher Myles had unfettered access to all of these accounts, both business and personal, and never needed anyone else to sign off on any of the funds he moved into and out of these accounts. The lack of segregation of duties made this fraud simple for Myles.

If anyone had been watching him and taking notice, they may have noticed that Christopher Myles was living beyond his official means. He used his ill-gotten funds to buy a new home, go on shopping sprees and fancy vacations. This is another red flag for possible fraud. Throughout this fraud, created falsified bank statements and recorded all of these illicit transfers as business transfers. Unfortunately, no one followed up closely on any of these untruths. Perhaps none of those looking at the fake bank statements understood how the company worked and what kind expenses would appear as out of character, or maybe no one was familiar with the ledger and how to analyze it. I am not sure, but, the result was that Myles was able to continue his fraud for over two years (just a little bit longer than the median duration of a fraud), until November 2013, when he resigned.

It was only when his replacement discovered the fraudulent invoices that Myles created, in attempt to disguise his embezzlement, that Christopher Myles’ theft was discovered. A forensic investigation revealed that, in two years, Myles had stolen about $1.3 million from his employer. Myles’ former employer reported all of this to the authorities and, in addition to an indictment for the theft, Christopher Myles is also facing tax evasion charges. This is because, in the manner of Al Capone, Christopher Myles did not report any of his fraudulently acquired income on his tax returns.

Almost like a bonus in the lesson that keeps on giving series, once his theft had been exposed, Christopher Myles sent an email to all parties involved. In this email, he RATIONALIZED his fraud, claiming that he was entitled to the funds because he was due a raise and compensation for having to deal with a difficult coworker.

As I read the press release about Christopher Myles’ indictment, my jaw hung open. I said out loud, “wow, this has all the classic markers; it’s unbelievable!” Yet, the markers are classic for a reason. There are probably a lot more lessons to learn from the story of Christopher Myles, but don’t get me started!

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Watchoo Talkin’ ‘Bout

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Before I studied accounting, I went to college and got a degree in economics and mathematics. Armed with this degree in issues of money and numbers, I figured that accounting would be a relative walk in the park. I had learnt about debits and credits in economics, I had created intricate formulae in mathematics and I had tested theories on what had happened during the Salem witch trials in statistics, so I felt more than ready for accounting. Boy, was I wrong.
It had been a while since I had felt so overwhelmed. Nothing that I read made sense to me. When I asked my coworkers, who had been studying accounting for a while, they were confused. How could I not understand the accounting concepts. I was studying the most basic things – how could it not make sense. I spoke to my parents and warned them that I might not last in accounting. I prepared them for my failure. My mother, who had taken some coursework in accounting, stated that she had faith that I would work things out. It’s nice to have family who have faith in you, even when all around you look at you like you are the biggest dummy about. She encouraged me to look at some of the books that she had, “Maybe they will help.” I did and, fortunately for me, I found a book that explained accounting in a way that made it all clear to me. I almost couldn’t believe that it had been so difficult before. Now, I felt like I had a brain and it was more than luck that had gotten me through college the first time around.
As I have mentioned before, forensic accounting is a specialty practice of accounting where the work done is suitable for a court of law. The work done here is in anticipation of or as a result of litigation. Often a forensic CPA, usually Certified in Financial Forensics, will testify as a forensic expert before a judge and jury. Forensic CPAs are also often expected to present reports to their clients, to judges or to juries. Because most of the audiences that forensic accountants speak to are not financial experts in any way, it is imperative that they can communicate their work in a way that is understood by all the parties that they deal with. One of those parties could be you.
Many people that I talk to, who have accountants, have no idea exactly what their accountants do, or why. What they are is grateful that their taxes are filed on time and that they either had a small tax liability or a decent refund. This should never be your attitude with your forensic CPA and you should not give the time of day to a forensic accountant who does not explain everything to you. When it comes to forensic issues, you, as a client dealing either directly with a forensic CPA or through a lawyer, are the party to the potential litigation. Doesn’t it just make sense that you know exactly what is going on? Also, if they can’t explain things to you, how much faith could you have that they will be able to explain it to anyone else? My attitude is, if they are not doing a good job with me, and I’m the one hiring them, how can I expect them to do a good job anywhere else?
You should have a forensic accountant that you understand, are comfortable with and doesn’t treat you as though you are not smart enough to understand the complicated work that they do. Yes, the work they do can be very complex and involved but, part of being a good forensic accountant, is being able to take this complicated work and explain it in a way that can be understood by a jury of ones peers (generally a jury of people who did not major in accountancy). I often hear the phrase “explain it as though you are talking to a six year old”, but I would be happy if it was explained to me like someone was talking to an economics and mathematics major. Don’t let them make you feel dumb. Chances are, if they do, they may not be so clever themselves.

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Hold On!

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A few weeks ago, I took a walk in Prospect Park with a friend. We had not caught up in a while and I had a lot to talk about. I am a judge for the Excellence in Financial Journalism Awards, presented by the New York State Society of CPAs, and I had just finished reading the many entries submitted by very talented journalists. Several submissions were on the subject of high-frequency trading and I was fascinated by the reports that I had read and watched. As I launched into my story, she interrupted me and asked, “What is high-frequency trading?”

I was less surprised by her question than I would have been three or four days earlier. This is because I had been asked that question every time I had started talking to people about high-frequency trading. Initially had been surprised that so few people knew about high-frequency trading but then I realized that I couldn’t assume that, just because I own the t-shirt, everyone else is a huge fan of Planet Money or, indeed just because I have the sweatshirt, the rest of the world is hooked on Radiolab. Both shows have covered the subject of high-frequency trading. Planet Money, in particular, has spoken extensively about high-speed trading.

That night, no joke, I tuned in to watch 60 Minutes and Steve Kroft was talking with Michael Lewis about his new book, Flash Boys, which talks about high-frequency trading and how it has negatively affected how stock markets work. Flash Boys is a popular book right now but, I wonder, though we are throwing around the term HFT (the now popular acronym for high-frequency trading) and discussing how markets are affected by HFT, how many of us really know what HFT is?

Watching television or the movies, the portrayal of the stock market has not changed much in decades. Bells ring to announce the opening and closing of the market and, in between, we see massive rooms of men (and it is just about always men) avidly watching screens of numbers, yelling madly and waving pieces of paper. Would you be shocked to discover that the stock markets are not “as seen on TV”? The markets have not operated in that way for a while now; things are far more complicated. Currently, there are 16 regulated national securities exchanges in the United States (and another 45 or so dark pools, which are not open to the public) and most of these exchanges are nowhere near Wall Street. Most trades are executed electronically and many of these trades are executed by computers using powerful algorithms. Initially, when electronic exchanges were first launched, there was a rule that, although the exchanges were computerized, orders had to be entered through the keyboard. The challenge to those using the electronic exchange, was how to be able to trade quickly and one such trader, Thomas Peterffy, built a typing robot to satisfy this requirement while increasing the speed of trading. The speed he achieved then is a joke compared to what high-speed trading looks like today.

Now there are no such rules and now the algorithms used by high-frequency traders have computers making multiple trades in fractions of a second. In addition to this, high-frequency traders can make trades and cancel them without paying fees for doing so. These traders are known to flood a market with orders, to get a feel of what is going on in that market, and then cancel the orders almost immediately. In fact, almost 97% of trades made in the US stock market are canceled and the bulk of these cancellations were from high-frequency traders. This activity tends to manipulate stock prices and, as a result, high-frequency traders can make pennies on trades. Because they can trade at incredibly high speeds and volumes, these pennies can add up pretty quickly to healthy returns. The returns are tempting enough that HFT entities are willing to pay to get information a mere two seconds before other people and are also willing to pay to get a few feet closer to the trading floor than their competition.

Now, how do two seconds and a few feet make a difference? This is because of the speed at which information can be processed and sent between traders and their markets. Any innovation that gets traders to the market before their competition so they can buy at a lower price and sell at a higher one is one worth spending on. This is the essence of high-frequency trading and traders able to execute millions of trades per second, can make many fractions of a cent add up to many dollars over a short period of time. The volume of trading has exploded in the last decade and the Nanex graphic of this activity is a very powerful visual.

Things can also go horribly wrong in markets with high-frequency trading. On May 6, 2010, at 16:42:44 (yes, down to the second) the stock market plunged 600 points in five minutes and this drop was stopped only when the market paused trading for 5 seconds and then started up again. The market regained the 600 points almost as quickly and as mysteriously as it had lost them. There is no consensus on what caused the Flash Crash of 2010, though most point to high-frequency trading as at least one of the factors responsible. That people cannot agree one what the causes of the crash were and that it took almost half a year for the SEC to come out with a report on what happened, shows just how complicated and difficult to understand trading and, in particular high-frequency trading are. I mean, once we start talking high math and algorithms, most of the world’s population is left cross-eyed and dizzy (and that means, me too).

There is no shortage of opinions to be found on high-frequency trading. Some use everyday English and exciting anecdotes to explain themselves while others employ fancy acronyms, mathematical phrases and financial-speak to put forward their thoughts. Whatever opinions and explanations you decide to explore, the first thing to do is to understand the basics of what they are talking about. How, really, can you have an opinion if you don’t even know what people are talking about? This is a very fast market. Nanosecond quick, so you better hold on!

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I Trust You, But…

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Last Saturday, my husband showed off some of his work in an open studios event at Industry City. He did the lion’s share of the work but, on Friday evening, he asked me to come over and help him a little. He assigned me the job of placing 5×7 prints of some of his work in 5×7 frames. It sounds straightforward enough and I am sure that my husband trusts me and has great confidence in my abilities. Nevertheless, after I had framed a few photos, he came over and checked my work. It turned out that some of the photos were not quite centered in their frames. He handed them to me, offered me some tips on how best to center photos in frames, and asked me to redo them.

This reminded me of when I was a kid and my parents would check my homework. I know that they felt that I could do it. I know this because they would say things like, “You can do better than this; try again.”Most of the time the issue was that my handwriting was barely legible on a good day. Knowing that my work would be reviewed, on days when I was tempted to rush through my homework, maybe because I wanted to play or watch TV, I willed myself to slow down and get it done correctly the first time around. I did not want to get into trouble and I definitely did not want to have to do my homework over again.

Recently, I have been reading stories about people in charge of a business’s finances perpetuating fraud. These people carried on their shenanigans and were not caught until the businesses they were employees of were practically going under. You know why? Because no one ever checked their work. Ever. In the cases that I read, the business owners were all charmed by the charismatic and capable people that they hired to manage their finance departments. The business owners gave these managers unfettered access to the companies’ bank and credit accounts and, boy, did those managers take full advantage of this access. They opened new credit accounts, they maxed out existing accounts and they went shopping! These business owners only found out what was going on when purchases they were trying to make were declined because their accounts were wiped out. In every case, the owners had left the finances up to the managers that they had hired so that they could focus on operations. They seemed to forget that an essential part of a business is the money needed to run it. They did not keep tabs on where the money went after it came in.

Because none of us is infallible and because too many among us are not always honest, it is vital that work is checked by someone else. Depending on the size and complexity of an entity, there are various ways in which to incorporate checks into a system to prevent and detect error and fraud.

  • There must always be a review of another party’s work. In a very small business, this may mean that the business owner is periodically reviewing bank and credit card statements. It may mean that the business owner will check incoming mail on a random basis, to make sure that unauthorized statements have not been opened in the name of the business. In larger businesses, there should be processes where the work done by one employee is reviewed by another employee for error and misstatement.
  • Someone other than the person booking cash entries in the ledger should perform reconciliations of the bank and credit accounts. Reviews and reconciliations of payable and receivable accounts should also be performed.
  • Make sure that staff take vacations and that, while they are on vacation, someone else does their work. In this way if anything is amiss, a new pair of eyes may catch mistakes or other missteps that are being made. In addition to this, having someone else do the work also means that one person does not have exclusive knowledge of a process in a business. In this way, no employee is indispensable. Also, when more people understand a process, and employee is less likely to try hide fraud in the process.
  • If possible, move work around among employees, again, so that more people in a department have a greater understanding of what is going on. The saying is familiarity breeds contempt; it can also breed careless errors. People operating in autopilot can become too comfortable with the work that they are doing and make careless mistakes because they are not paying close enough attention to the work.

Check, check and check again. If people know that there are effective checks in a system, they are likely to be discouraged from trying to steal from an entity. If people know that their work will be checked, they are more likely to pay attention to details so that they don’t have to do the work over again. Even when I was frustrated because the photographs seemed to shift all by themselves when I tried to secure them in the frames, I growled, I complained, and I started over and over again until I got it right. You know why? Well, because I like to do a job well AND I didn’t want my husband handing the work back to me and calling me out on getting it wrong.

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Take The Wheel

big_sandwichI am a take charge kind of person. My friends call me The Sheriff and my husband even gave me a sheriff badge that I wear occasionally. It is hardly a surprise that I have turned out this way – I come from take charge stock. My father was a corporate CEO and my mother, after being in charge of several things, now is in charge of a farm. I like to be in control of the situations that I am in and I have been known to give my opinion on things before being asked. Sometimes, while traveling around the city, despite my lack of a sense of direction, I am always happy to try to give directions to lost strangers. I do try to make myself as qualified as possible to take charge by accumulating incredible amounts of generally useless information in my head. However, every so often, that information that I thought was just taking up space in my brain comes in handy and helps me sheriff a situation.

All that said, time and experience have taught me that I cannot not possibly know everything and that, sometimes, there are people who are better at doing something than I am. At times like that, I have had to learn to step back and let someone else take the wheel. Today is Super Bowl Sunday and, as become customary, my husband and I host a party. Due to a lot of the reading that I do and my attempts to lead an active and healthy life, I then to be very particular about the food in our home and also about how things are ordered and operated in the kitchen. On Super Bowl Sunday, though, James makes the main dish of the event – his legendary chili. On Super Bowl Sunday, James is particular about how the television and seating is placed, so that people can actually watch the game. On Super Bowl Sunday, James creates the crazy questions for the game pool. He takes charge and I take directions. I am happy to do this because his superior skills in these areas are what make our Super Bowl party so awesome.

Recognizing where and when you need the assistance of an expert is vital to survival, be it the survival of your business or the survival of your personal assets. We are in the midst of tax season and, even though I am a CPA and, although many of my friends and family believe that means I am a tax whiz, I know that we shall be taking our rather complicated financial information to a CPA who specializes, not just in taxes, but particularly in the industry that James is in. I know a lot about taxes but it is not my specialty and, as we all know, the tax code is a complicated one. Whether you are dealing with getting your tax return prepared, a business valuation issue or a workplace fraud, you will get the best results when you find the right person to take charge. It will be worth the time and expense when you do this. For trying to take short cuts or do it yourself may end up costing you more in the long run, both in time and money.

I am able to sit and write because someone else has taken the wheel, but now I must dash because the doorbell just rang and the game is about to start. I could get used to giving up control, especially if that comes with delicious chili and a gigantic sandwich.

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