Investmentese

It may be a new word that sends your spelling and grammar corrector into a tizzy, but everyone should know what it means.

LAWYERS OFTEN GET a bad rap. This could be because when we have use of them, the scenario is rarely a good one, but it could also be because when they get to work, we can’t understand a word they’re saying. And even less when they start writing things down. Law professionals have a language of their own, ‘legalese’, and it contains words such as ‘hereinafter’, ‘plaintiff’, ‘affiant’, ‘pursuant’, ‘affidavit’, ‘ex parte’, and even ‘tort’ – which sounds delicious, but isn’t. ‘Pro bono’ does not, apparently, mean that you’re a U2 fan.

The list is almost endless, and when they come at you fast and furious in a legal document such as a contract, the unqualified reader can get as confused as a chameleon walking over a tartan rug.

This is the point. Lawyers work hard to get their qualifications and enter their cabal, and it makes good financial sense for them to codify the exercises they’re paid to execute so that we need them to understand what the hell is going on. Unfortunately, this has become true of the investment world as well, in which the nomenclature entwined in ever-increasinglycomplex financial instruments means that even the people investing in them don’t properly understand what they’re for and / or what they do.

Making an investment should be a relatively simple thing. You hand over money; you get a return. But deregulation in the banking world (particularly in the US post-1980) meant that financially engineered investment products and vehicles became de rigueur – mortgage-backed securities, collateralised debt obligations, put-call parity swaptions (I may have made this last one up, who knows?).

It’s confusing for those outside the profession, but whether we like it or not, our money is in these things if we have deposits in banks and pension funds. Do we understand them? Of course not. We simply have to have faith that someone in the investment banking sector does, and that they are looking after our best interest (sic).

If they don’t, we could get into a situation in which banks are permitted to engage in hedge fund activities, using mortgage derivatives for example, and then ask for more mortgages to make selling those derivatives more profitable. Then they might even create interestonly loans to cater to the subprime market.

Clearly that wouldn’t happen, because if property prices fell due to an excess of supply, and homeowners couldn’t afford payments because they shouldn’t have been eligible for their mortgages in the first place, major problems could occur. It’s a nightmare scenario. We shudder at the thought.

It’s a good job our investment bankers and their fund managers know all the jargon and are too smart to let anything like that happen. Again.