The Snowball_ Warren Buffett and the Business of Life - Alice Schroeder [339]
For his labors, Mozer had been paid $4.75 million that year. It was a lot of money, but it was not enough. Mozer was World Cup–competitive, and Mozer was pissed. Something had snapped in him when he found out that his former colleague, Larry Hilibrand, had gotten 23 million bucks from a secret pay deal. He used to earn more than the arb boys,6 and he now went “ape-shit.”7 He copped such an attitude that he demanded that his department not be audited—as if, somehow, oversight did not apply to him.8
Mozer was one of a few dozen men who communed regularly with the U.S. government on its financing needs, talking to the Federal Reserve staff nearly every day and dining quarterly with Treasury Department bureaucrats at the Madison Hotel. Representing Salomon as a “primary dealer,” he offered the government market chatter and advice and, in turn, stood first in line as its largest customer whenever the government wanted to sell debt, like a member of the College of Cardinals who sat at the right hand of the Pope.
Only the primary dealers could buy bonds from the government. Everyone else had to do it by submitting bids through the primary dealers, who acted as brokers. This gave the dealers the clout that goes with access and enormous market share. Knowing the needs of both their clients and the government, the dealers clipped off a profit from the gap that lay between the supply and the demand. But with that position of power went a commensurate dose of trust. The government expected primary dealers to behave like cardinals who were celebrating Mass. Yes, they drank first from the communion cup, but they must not get loaded and embarrass the Church.
As an auction neared, the primary dealers would work the phones, polling customers to gauge their appetite for bonds. Mozer’s sense of how hot the market was running translated into Salomon’s bid. A few seconds before the clock struck one p.m. on the appointed day, the dealers phoned “runners,” who stood by a wall of phones at the Federal Reserve Building downtown, waiting to scribble down orders by hand and dash to the Fed clerk’s wooden box, where they jammed them inside. At the stroke of one p.m., the clerk placed his hand over the slot. That ended the auction. The government had used this antiquated system for decades.
The inherent tension of the market lay in the opposing interests of the Treasury and the dealers regarding pricing and amounts. The Treasury auctioned only a certain amount of bonds and wanted the highest price, while the dealers wanted to pay just enough in the auction to win a larger share than anyone else yet no more than necessary, for that would hurt their profit on resale. So finely calibrated were these bids that the traders used increments of 1/1,000th of a dollar. That sounds like almost nothing, but clipping off 1/1,000th of enough dollars amounted to a fortune. On $100 million, it was worth $100,000. On a billion dollars, it was worth $1 million. Because government bonds were less profitable than mortgages and corporate bonds, Treasury bonds had to be traded in blocks this size in order for the dealers and money managers to make enough money for it to be worth their while.
Dovetailing with the need for such large trades was the government’s need to work with large dealers—those who knew the market well and had the power to distribute a lot of bonds. Salomon was the largest dealer by far. In the early 1980s, the Treasury had allowed any individual firm to buy up to half of a given bond issue for its own account. Salomon commonly “couped” an auction this way, then held on to the bonds long enough to “squeeze” anybody who was “short” Treasuries—having bet that prices would fall—because there were no bonds available for short-sellers to buy to cover their positions. Prices shot up, the short-sellers screamed, the trading floor erupted in cheers, and