A Dismal Science

A Word

2008-12-14T19:53:00.003-05:00

With these challenging conditions and the advent of the holiday, I will likely be indisposed through the end of the year. Thanks for reading, and I'll see you in 2009.

Nein! For '09

2008-12-07T13:09:00.003-05:00

CNBC has a stupid series of predictions for 2009. You know, reasonable stuff that won't seem ridiculous at all - poor Diana Olick is convinced the world is ending. Look at this hilariously misguided/bitter quote from her 9 for '09 column:

9. Should I Buy a House in 2009?

Yes, in fact, buy one for me. Unfortunately, during the housing boom, I chose to use a traditional mortgage product at a higher rate than all those fancy schmancy products that could have afforded me that really swank big tudor on the avenue. You know, the one with the massive chef’s kitchen/family room, the master suite with its own wet-bar and the back yard that could actually contain my son’s Big Papi-esque hitting capacity. I really wanted that house, but for some ridiculous reason I bought one at half the size and half the price, which leaves me still making my mortgage payments every month, unlike everyone else. I’m just SO uncool.

I'm sure folks on the dole maybe reading this in the library between bathroom towel-and-sink bathing sessions are super sympathetic! Sorry you couldn't get "bailed out" with the "middle class" you whiny, sad woman. How about you go home to your house that you were able to buy before your "middle class" compatriots pushed housing well out of the range of virtually all Americans through asinine loan products and qualification standards and maybe have a glass of eggnog! You'll feel better!

Exclamation points!

Anyway, I won't be making any major predictions from '09 beyond a Q3/Q4 jobless recovery and the re-emergence of inflation. My ego is as big as anybody else's that works in banking but it is delusional to think that anything can be reasonably predicted in this market environment. Hell, even my mini-dictions were fraught with qualifiers! We've got global stimulus programs of indeterminate size backing enormous depository bases with indeterminate risk changing at random intervals at the whims of large bald men with unprecedented access to America's central banking assets.

Anybody with a reputation to protect or assets to invest should view 2009 as a minefield. Anything you put on the internet can and will be used against you. If you're going to say anything opinion-based on a major financial news outlet, more than ever, do it boldly: it's best to be dismissed as a lunatic or hailed as a genius. With unprecedented volatility should come unprecedented claims, or silence. I choose the latter!

Suck it, Granola

2008-12-06T11:29:00.002-05:00

Also, a note on low oil prices.

This is temporary. Get long oil (though I'm not sure when, timing the bottom will potentially be costly with oil's traditional/current/forever volatility)! Inflation alone will cause immense increases in the value of oil in late 2010.

Lots of people are saying this is a bad thing, particularly Green activists, but Fuck Them. I don't drive to work with a tankful of sunshine and happiness, and right now lower gas prices are a big, fat disposable income boost. I can use this money to invest, to buy products, to pay for services, etc. This is great for our economy.

The people who say it's bad are always sobbing about opportunity cost. They're kind of right - long term, renewable energy sources will be more "valuable" than oil could ever be, and regulatory/policy/industry delays in its implementation will likely cost us. I'm pretty okay with that argument. But markets don't care, and neither do I, because oil is cheaper by the minute right now and it's not like most consumers have any other transportation options.

And guess what? There's water all over the opportunity cost argument, because I (and this is me leaving the realm of the truly rational) honestly believe we've learned our lesson this time. One of the good aspects of the bailout of autos, if there are any, is that they will create immense political pressure to STAY GREEN in the transportation market. We have a President-elect who has promised us renewable/clean energy investments. It's too early to say if car behavior has truly been fundamentally altered, but my thought is that many Americans will remember hundred-dollar tanks of gas for their adult lives.

We'll see, right? But right now, this second, cheaper gas is great for me and for everyone who drives a car. So suck it, granola.

The Jobs Number Ends the Recession in 9-10 Months

2008-12-06T11:15:00.004-05:00

The jobs numbers were really bad. But I think we're almost done with this whole recession thing. Here's why.

In economist lore, recessions are caused by inventory pressure. A normally-functioning economy produces boom-and-bust cycles in various markets, which overheat and eventually create such a buildup of a good or goods that the underlying jobs and corporate profits model behind the industry fails. The result is interconnected collapses in related industries and the reduction of GDP as output slows, inventories stagnate in warehouses, and asset valuations collapse.

A housing market bubble and consequent recession, like we just experienced, is especially insidious because the financial market behind it - almost all houses are purchased with mortgages, massive outlays of financial risk - ALSO experienced a credit inventory buildup that exacerbated the normal boom/bust housing cycle. These interdependent bubbles both grew larger and collapsed harder than they would have without the creation of fictional financial backing in the form of CDO's, SIV's, and Credit Default Swaps. The Federal Reserves constant piling of money supply in the boiler made this train wreck more painful than usual.

One usual characteristic of a bubble preceeding a recession is a massive hiring spree. Many economists have argued that this did not occur leading up to the Dec. 2007 recession, but in looking at the data I disagree - it's not that there wasn't an irrational hiring bubble, but it was camouflaged by sunny historical models of US labor markets and did not account for the fact that, without the fiction in housing/finance, the 2001-2002 recession would have been a jobless recovery.

Returning to 2002 lows means we're almost done. I would suspect that December and January will be ugly months after which we'll see growth and inflation moving disproportionately to each other - small returns in growth will be rewarded with exponentially larger spikes in inflation. That phenomenon will persist until our trade imbalances and immense debt exposure are brought to more appropriate levels. See the Volcker playbook from early in the Reagan administration.

We will also experience a "jobless" recovery until late in 2010, and the 2011 hiring season will be strong. Forecasting that far in the future is something of a leap in faith and nobody wants to hear this, but my thought is that underlying hiring strength will not emerge until Obama's 2009 infrastructure investments start showing returns in the form of nascent industry. I'm also predicating this largely on his Clinton Redux economic team's inevitable budget hawkishness and a largely centrist economic policy, because if he spends like he said he would we can just go ahead and trade our dollars for barter.

Bad News Bears - Jim Cramer Dooms Us All

2008-12-02T19:48:00.005-05:00

“Enough with the hysteria,” Cramer said during Tuesday’s Mad Money, we’re not going to suffer another Great Depression.

Of all the things in the world that could bring me great worry and discomfort, this is it. I liked it better when Cramer was on the verge of tears, thus signifying a recovery. If you have to count on two things in life other then death or taxes go for the MSM getting finance wrong and Jim Cramer leading the way with a horrible call. I happen to agree with him - no Great Depression will be predicted by this blog - but I'm less comfortable when we're on the same side of an issue.

It was part of an oddly depressing day of announcements. The 25B Detroit bailout/bridge loan/welfare program with no change of passing or ever being repaid became separate multi-billion dollar bailouts amounting up to 34 billion. As a member of an industry famous for manufacturing pure, unadulterated fiction, I'm sort of appalled that the number rose so quickly in such a short span. They were also savvy enough to drive cars to the meetings and ask for dollars separately so the bailouts appear comparatively smaller, PR tricks with all the sincerity of Sarah Palin's dialect.

And, of course, the latest round of layoffs is hitting Wall Street. JP Morgan and BofA/ML announced big cuts today. The worst of it is that we're not done yet in financials with the job losses, not even close. It's going to be a lean Winter.

Bear Market Rally

2008-11-30T10:40:00.009-05:00

Good news: the stock market thinks we're going to be fine.

Commodity and stock prices performed this week, indicating that portfolio managers have finally begun setting up their 2009 strategies by investing in US equities. The December/January period is the busiest period of the year for my folk - amidst the Holidays, you have a transformational event in the retail industry to analyze. Not only that, but investors typically really look at their portfolios in January and readily invest in the year set to unfold before them.

It used to be that you could do something called a "January arb." The markets used to have an irrational value spike in January as all the new portfolio money that was in cash got invested as everyone set up initial positions for the year. That's largely over now - it's slower, smaller, and starts in December.

But at least Santa will come, because investors this week watched stocks go up and built on it. That's an interesting phenomenon indicating that the worst may be over for your 401(k), if not the job market or the economy generally - markets values tend to precede depressions and the recovery starts in the indexes first. Economists are universal in their negative GDP forecasts for Q4. But going forward, there's a growing sense that late 2009 will bring healing and recovery, and a sense that this week's rally was an early investment on those happy returns.

My thought is that the recovery will be long and shallow. There will not be a satisfying, massive drop in unemployment or a big banner dropping to say "RECESSION OVER!" 2010's election characteristics will be the best test of how we'll we're recovering - the extent of voter attention on economic issues should be an interesting insight into national psychology. I suspect we'll find voters obsessed with the usual cornucopia of pointless bickering about flag pins and abortion, which would be a comfort.

The Unsteady Drumbeat

2008-11-23T21:15:00.004-05:00

You can print all the dollars you want and invest them directly in Citigroup; nothing stops until the bad loans go away.

The economy underneath every major financial institution is crumbling like a sandcastle in a hurricane. GDP for Q4 is looking in the -3 to -5 range with lots of downside, employment figures have been shockingly bad, and earnings are going to be really ugly. There isn't a single performing asset class in debt, equity, treasuries. Investors are in full liquidation. Why?

Banks, the engine of our economy, are not lending money. LIBOR has come down and indicates less abject fear, but the volume of activity has not increased. If there's any lending going on, it's bank holding companies using the discount window.

Hank Paulson made an unforgivable judgment call by re-apportioning TARP funds as direct investments in banks. While initially hailed as an ideal solution, a number of important problems have emerged with that plan:

1.) Why bother getting cash from another bank if you can go right to the printer itself? The government's massive distortion of the interbank lending market cannot be overstated in scope. It has exacerbated the impact of the fear of "bad assets" taking down someone you lend to by creating a cushy alternative process!

2.) It's created an arbitrary system of winners and losers, where financials with no access to the funds are forced to become bank holding companies and smaller banks are brushed aside as Treasury tries to focus its limited (shockingly limited for 700B) resources on bigger, more "systemic" institutions.

This means that more stable, liquid small banks, once seen as the likely survivors in this mess, are getting slammed stock-wise because they won't be saved, which is scaring their bigger clients. We're stalling a run on big banks and fomenting one in local banks. Like I freaked out about a few months ago, FDIC may have a problem that is larger than its funds, and we're inviting that scenario.

3.) It hasn't prompted lending. Banks aren't lending because they're afraid that their contemporaries have bad assets on their books. With good reason, they do! TARP was supposed to change that. Instead, it's outright stated "There are bad assets and there are so many that we won't buy them because we don't have enough money." That's fucking horrifying, and Paulson is broadcasting that to the markets. What the hell? Even if he's right factually he's wrong strategically - if he'd have shut his mouth there's a chance the panic could have been resolved in a more orderly fashion.

Instead, we let people get scared and Citigroup got run on. Too bad "Bank of America" is already taken because that's what it's about to be. I wonder if the merger between it and the United fucking States will create any synergy opportunities?

4.) YOU DON'T CHANGE IT UP LIKE THIS! It's an unprecedented market out there; the government has, essentially, announced it's a got a 700B whack-a-bank hammer and I'm simply not going to invest until I know who's next. I have no idea if Hank Paulson is going to come on my television tomorrow and announce a Treasury default or the acquisition of Citigroup or The End of Foreclosure. How can I, as an investor, reasonably make investment decisions in this environment?

Personally I'm not putting a dollar in play until the banks write down every last L3 asset and structured debt obligation to a fraction of where it's at right now OR they have those assets graciously offloaded onto American taxpayers. Most people think investing is gambling and it normally isn't - but right now, thanks to Hank, it is. Right now, our financial system is Vegas without the waitresses, and nobody is going to touch it until order is restored.

A Very Dismal Review of Twilight

2008-11-17T19:25:00.006-05:00

Editor's Note: Someone is making me watch a movie for teenage girls this weekend. It is a personal rule of mine to read the book before I see a film. My suffering is yours.

Twilight is, in fact, the worst novel ever written.

I want you to imagine your teenage conversations with your various lovers. Recall all of those long, late-night phone conversations with objects of your affection - the distance, the desire, the painful feeling of holding a cheap handset to your ear for hours. Remember that inane, pointless, utterly unjustifiable kind of teenage affection?

Twilight is like being forced to sit on a police wiretap of those conversations until you die of lockjaw. It is, essentially, a supposedly pretty teenage girl and a supposedly pretty teenage boy having one of those, like, conversations? For 500 excruciating pages. The only solace in that grim statistic is that it reads like Stephanie Meyer is an artful beneficiary of a pay-by-the-page salary structure at points with all the soul-destroying dialog. Example:

"I can read everyone's mind but yours."
"I love you."
"I'm a vampire."
"You are beautiful and a vampire and I love you."
"I could kill you, you know."
"You are a beautiful, deadly vampire and I love you."

They do this for approximately 498 of the 500 pages. There's a brief one-liner introducing a conflict that goes on for about 3 unconvincing seconds before it's back to doe-eyed treacle. You know how reading a long book can make your limbs fall asleep because you get engrossed and sit in one place for too long? As Twilight ends you'll think you've done that at first, but it's actually diabetes.

I didn't buy the whole "she's a Mormon and this book sets women back!" stuff at first, but it's dead on. Bella, the main character, is a pathetic waif at every turn. Her perspective as narrator, her character, exists merely as a vehicle to behold the greatness of Edward, the male lead, and bask in his perfection. 497 pages of the treacle are devoted to awestruck descriptions of Edward's perfect physique, smell, car, strength, and devotion. Bella is Maggie Gyllenhall in Secretary with Henry Makow tracts tucked into a smock, politely preparing dinner while waiting for Edward to save her.

Harry Potter was a phenomenon for a lot of the same reasons Twilight is - it crystallizes youthful feelings of difference, insecurity, and desire in a convenient package. But Potter was, at the least, well-written; there are sections of Twilight that should embarrass the editors now that the books have made a lot of people very rich. There is a part, early on, where Meyer feels obligated to discuss an internet search of Vampires replete with pop-up ad squashing and a 56k modem. It's the prose equivalent of an exhausted sigh of relief from literary agents, the kind of passage that practically throws the manuscript in the dustbin for them. And yet here we are, contemplating its place in tween history.

I would argue that Stephanie Meyer is more Jonathan Taylor Thomas than Justin Timberlake. There is no hope for redemption in a hilarious skit years from now - Twilight is earnest, average, and utterly indistinguishable from what has come before it. I look forward to quickly forgetting all about it.

America's Portfolio - Obama's Spending Agenda

2008-11-16T19:44:00.006-05:00

Keynesian economists often make the point that governments have the power to invest taxpayer dollars - or borrow internationally - to invest in projects that will bring a positive return on equity in the form of GDP growth. If you build a road, things will drive things from one place to another on it. Infrastructure investments in the Great Depression founded a model for 20th-century growth. The IMF stimulates developing economies by lending money to cash-starved countries for power, water, sewage, and road projects.

We have elected a Keynesian, and he will spend. Barack Obama's administration faces a number of choices on how to wisely invest taxpayer dollars in the coming four years. We have learned from the last 20 years that housing does not provide sustainable GDP growth; a home does not provide much in the way of economic utility, and the large, inefficient structures that became increasingly popular toward the end of the boom were unsustainable resource traps.

May I suggest:

1.) Energy. America's immense natural gas, coal, and alternative energy sources must be tapped. Private companies face tremendous headwinds in remaining profitable and development is consistently scaled back when oil rollicks from $150/bbl to $50/bbl in the space of months. This is an opportunity for Keynes to step in so America can realize the economic and noneconomic benefits of alternative energy as soon as possible. Asking nascent alternative energy companies to withstand this price volatility is folly.

2.) Infrastructure. America's roads, bridges, and highways are structured around the suburbanization of society. We need intelligent allocation of resources here; build roads where they will stimulate economic activity. And we need more, better public transportation to make more efficient use of the power grid.

3.) NOT health care. Health care is a losing bet with an aging, overmedicated, unhealthy population. The political and social costs are high, but the economic costs are unimaginable.

That said, there will be a Federal system here. All employed Americans should receive health care to KEEP them employed. Health care should be subsidized while receiving unemployment, but the terminally unemployed and retired should be on their own. We can't afford for Americans to live forever or remain out of the workforce for too long, and the incentives must be aligned properly to that end.

Further to the point of incentives, the government should heavily punish drug use, alcohol abuse, smokers, the healthy obese, and criminals in this program with surcharges for risky behavior.

4.) NOT defense. This budget cries out for reduction in every way imaginable. Given our risks at home and abroad and our weak diplomatic position the ROI on defense spending has never been lower. Every last item in the Federal Budget allocated to defense spending should undergo a very strict review, and we should re-align it toward research instead of managing dozens of conflicts globally.

5.) Debt amortization. Our Federal debt is becoming a dangerous burden. Debt service is weighing heavily on tax receipts, and we are in danger of incurring higher costs of capital. If Obama allows our debt rating to slip he has done us a great disservice. If he allows us to default on our bonds we will have ceased to be a superpower; the dollar must maintain its status as the world's reserve currency.

How can a Keynesian justify reducing debt? Simple - by acknowledging that we already have deficit-spent to no avail for 8 years. Obviously this is a second-term or latter-first term goal conditional on our economy stabilizing from its current free-fall.

6.) NOT domestic industry bailouts. Banks were arguably vital to bail out, but no more. The bailout game needs to be over now; if existing industries were worthy we would not be in this mess. It's time for a little creative destruction in our bloated debt-and-retail economic model.

7.) Education. To steal a line from John McCain, education is the civil rights issue of the 21st century. But more importantly than that, it's also the future of our economic growth; we need to keep educating our children so that our economy can maintain it's advantages in white-collar service sectors like medical research, finance, engineering, technology, etc. It is bad news if our comparative economic advantages bloom in the unskilled labor sectors, unless you want the BRIC-country standards of living amongst laborers washing up on American shores.

Home to Roost

2008-11-10T19:53:00.005-05:00

Every economy is kind of a house of cards - a series of independent businesses, people, and relationships that combine to create the output of a nation. The "fundamentals" are really just the skills of the populace, the natural resources, our socioeconomic structure, and the governmental ruleset scaffolding on which the economy can be constructed. In America, this scaffolding has been rotting for decades.

General Motors' imminent failure and bailout underscores one of the many traditional, systemic problems in the American economy. Our auto industry is one of the worst examples of inefficient policy, structure, and resource utilization available. Consider: The profits of the industry were built on larger, more expensive vehicles that consumed more fuel, rely on a crumbling, expansive, incredibly costly infrastructure of roads, and were purchased almost completely with credit. We knew this in the 1970's, and instead of allowing our automotive industry to fail it got bailed out.

The results of that bailout were incredible. It propped up something doomed to fail: an industry solely devoted to selling behemoth vehicles that consumed foreign-produced petroleum resources at incredible rates to people that could not afford them. And it pipelined a dying breed of unskilled workers into the system, creating a cesspool of back-room Union dealings that thrived on the scraps of the profits this industry produced. All of it lead to what we have now: unfunded pension plans, massive payrolls of useless workers, and a health care/foreclosure/default disaster waiting to happen. We have something Too Big to Fail.

3 million or so workers would be unemployed - and, for the most part, unemployable - if GM were allowed to run out of cash in Q1. The results would be unconscionable. Michigan would turn into Somalia North even more than it has already.

The Keynesian argument for the bailouts previously all said that this was temporary, and when skilled workers take the hit I agree. But autoworkers have few skills, generally. Operating car-building machinery has little to no value in the global economy, and the low-level workers in the automotive industry are predominately uneducated. Almost none of the people positioned to lose these jobs can DO anything else. That's what makes it fundamentally different than the bank bailout; bankers are predominately educated and don't require a massive investment on the backside to find them another industry to participate in. There's a real expectation that the losses in banking will simply create movement to other jobs and other industries - for example, my "if it happens" strategy is to go teach. But autoworkers?

Stop this madness. We're perpetuating an America that treats Union jobs as a college alternative, that creates immense destructive waste via a car industry that punishes the environment and creates reliance on deadly personal transportation as opposed to fostering sustainable, public alternatives. Let it fail - painful as it would be - and give these 3 million workers free college educations. Subsidize the individuals, get them in industries where they're needed, because what America doesn't need is more cars.

The Economist Endorses Barack Obama

2008-10-30T20:15:00.003-04:00

Interesting.

You have to REALLY fuck up as a classical liberal for Barack Obama to win this endorsement. Kudos to a well-run campaign winning the support of the only publication I respect.

My favorite paragraph echoes the argument I gave up about two months ago perfectly:

Ironically, given that he first won over so many independents by speaking his mind, the case for Mr McCain comes down to a piece of artifice: vote for him on the assumption that he does not believe a word of what he has been saying. Once he reaches the White House, runs this argument, he will put Mrs Palin back in her box, throw away his unrealistic tax plan and begin negotiations with the Democratic Congress. That is plausible; but it is a long way from the convincing case that Mr McCain could have made. Had he become president in 2000 instead of Mr Bush, the world might have had fewer problems. But this time it is beset by problems, and Mr McCain has not proved that he knows how to deal with them.

Phillies Win!

2008-10-29T22:30:00.002-04:00

In a break from our regularly-scheduled fare:

PHILADELPHIA! The city that made me what I am! Your baseball team has been crowned champions.

Congratulations to the Phillies, and to Philadelphia.

Was That Hank Paulson

2008-10-28T08:26:00.001-04:00

...or BJ Upton on the basepaths?

Either way, Bud Selig got bailed out.

That Whole Corporate Tax Meme

2008-10-26T10:57:00.008-04:00

There is no such thing as a corporate tax.

Wrap your head around that for a minute. Sure, there's something called a corporate tax - the implication is that a greedy corporation run by fat fatty fatcats forks over some of its piles and piles of gold coins to Main Street's huddled masses. Cross of gold! 40 acres and a mule! Hanging by a thread! Social safety net!

Essentially, corporate taxes shrink the gross margin of a corporation. Before anything else happens, revenue gets multiplied against T - Tax Rate - to figure out Uncle Sam's cut. That money is then given directly to starving, sad poors in a large annual "Yes We Can" stipend. Sounds good, right? Take a cut from those fatcats! Main Street!

All you are doing is saying - hey people who buy stuff from this company! It's T more expensive now!

I mean, not directly. If you assume profit margins exist, theoretically they would be reduced by T and the remainder would be the new profit margin. There isn't a DIRECT impact. Except in mature industries, like manufacturing, where T is a crushing burden on razor-thin margins. In mature industries, T is a price hike equivalent almost directly to T.

So when you hear about reducing the corporate tax rate, they're saying one of two things:

1.) We're widening corporate profit margins (bad! Wall Street! Fatcats!)
2.) We're reducing consumer prices (Hmm...that sounds pretty awesome. The sky will rain iPhones!)

Liberals focus on #1 exclusively. Perhaps with good reason - there technically isn't a direct relationship between management decisions about margins and tax rates, and less mature industries are likely to just get a terrorist fist-bump of profit from our evil plutocrat Congress. But "corporate" tax cuts can create margins for companies that are competing globally, and allow them to have more margin flexibility to compete with other nations' companies and their alternative tax environments - like VAT, which kicks our asses.

Increasing margins would also stimulate job growth. The question then becomes - where? Obviously, that additional profit can be invested anywhere if competitive companies see fit to slim margins, which is the whole "then they ship it overseas!" argument. From a government's perspective, you want to keep that tax revenue base domestically, so I'd suggest making corporate tax cuts contingent on domestic job creation. Yeah, that's a distortion in a free and fair world trade environment, but we don't have anything resembling that. And I like American hegemony!

Corporate tax cuts contingent on domestic job creation are the fastest way to slim unemployment figures that are making a scary, recessionary climb. They take the engines of our economic growth - corporations, large and small - and encourage them to both do more business and to hire more employees. Is there revenue impact? Sure. But you recover some of it from the newly-employed and the rest can be trimmed from our bloated "murder Muslims" budget. Does that really sound so bad?

Yes, because we get lost in petty class war arguments about theoretical fatcats.

Race is Hard

2008-10-21T23:04:00.006-04:00

Okay, so some idiot shot a bear.

http://www.cnn.com/video/#/video/politics/2008/10/21/dnt.nc.obama.dead.bear.wlos

He shot a bear once in the head and left it in the center of a North Carolina campus, its neck wrapped in an Obama/Biden sign.

Quite a prank. Is this person acting like an idiot? Yup. Is this person, in fact, probably some sort of freak? Absolutely. I hope they find and apprehend this idiot.

Is this racist?

In the video, several interviewees describe this as a "racial" event. It might be - this could be an act of racial intimidation, implying that Obama will be shot for his race. But is a dead bear really racist iconography? I mean, it may be the world's most subtle "Obama is a Communist" joke, but I really don't see how you can leap to a conclusion that this is racially motivated.

Explanations for this range from simple prank to grotesque invective. It's difficult to conclude either way. We don't have enough information. Consequently, using the "R" word here seems premature. Yes, Obama is black, and there are racists that hate him because of that fact. But is this a crime of racial browbeating? I dunno. It's not like this is a historically black college. There were no words indicating any sort of racial undertone left behind.

My thought is that the media has proceeded too soon to race in this case. It may be racial, some sort of overt hate crime! But it's too soon to conclude that, and claiming racism is behind this event stokes a coal that should be left to burn out.

Protect Me From What I Want

2008-10-15T22:27:00.005-04:00

Hedge Funds are infamous for how hard they are to sell.

Most fund products have very specific redemption timelines. Check your 401(k) funds - you can probably liquidate them fairly regularly, with settlement X days after your trading instruction is received. Hedge Funds will tell you nope! You can't! That's fairly standard industry practice, and it's there for a reason. That reason, surprisingly enough, is not just because Hedge Funds are run by cavalier swashbuckling assholes.

Imagine someone lent you 20 bucks and you go out and spend it. The imagine this person calls you a few months later, and says they really need it back today. You have to go dig for the cash unless you can pull it out of your wallet, right? That's what it's like when you're running a fund. The fund pays out your sell order with working capital or sells some investments to raise working capital.

In bad markets, investors are stupid. They sell bottoms regularly - I'm losing money! I have to get out now! That panic impulse has, over time, created enormous wealth loss for individual investors. Individuals suck at timing.

Hedge Funds - along with every other equity-based investment structure or portfolio - are creating a lot of downward pricing pressure because they're being slammed with redemptions after doing poorly over the past quarter and since Jan '08 generally. This forces them to sell assets into weakness. Many are beating the S&P, but in some cases that means you've only lost 18% in the past few months. Guess what! Panicked investors aren't exactly thrilled about this. And they want cash now.

So they call up these funds and try to redeem. But here's the thing - Hedge Funds prevent you from taking your money out! They do this a few ways:

1.) Lockups - when you buy, you agree to stay invested for x period of time
2.) Fees - when you sell too fast, you're forced to pay prohibitive fees
3.) Holdbacks - I'll give you 90% of what you sold now, 10% later
4.) Gates - X amount of money is coming out. We're only paying out Y percent of that because it's crazy!
5.) Sidepockets - certain types of crazily illiquid investments etc. will get "side-pocketed," and a portion of a client's capital account balance will be declared unavailable for redemption

This is not because Hedges are evil and want to keep your money forever. It's so they avoid the twin fund-killing spirals of margin calls and redemption requests that can gut all the capital out of a leveraged hedge fund lickety-split in a down market. Redemptions and cash calls from lending banks typically exacerbate broadly down markets, because people are forced to sell assets simply to pay clients out.

Most people sell their assets too quickly when they decrease in value, born out in study after study. Hedge Funds say that when you invest with us, we're going to make you wait it out and protect you from your own irrational impulses. Right now redemptions are really bad, and a lot of investors are finding out about these policies - disclosed in the offering materials! - when they try to sell in a panic. That will lead to negative stories about the evils of Hedge Funds. But this is actually a good thing!

Cramer, Seriously, Shut the Fuck Up About the Uptick Rule

2008-10-12T00:30:00.007-04:00

Jim Cramer is the market's very own Don Quixote.

He's been obsessing over the uptick rule, a bit of exchange arcana that required a stock's value to increase before a short position could be placed. It effectively slows coordinated, large short positions from being placed at the same time. He uses a lot of stupid rhetoric here:

What’s even worse, though, is that a lot of the safeguards Franklin D. Roosevelt put in place to stop another Great Depression are gone. SEC Chairman Christopher Cox did away with the uptick rule, which prevented short sellers from shorting a stock until it first ticked up in price. The result is a group of bear raiders virtually unchecked and able to drive down the market at will.

Yes, Saint Roosevelt's '34 act and '40 act regulated this aspect of the market. Yes, Christopher Cox did away with the uptick rule. And it has fuck all to do with anything - stop namechecking great regulators and make more sensible suggestions.

Cramer doesn't seem to understand how synthetic positions and cheap options plays can be used to achieve effectively the same impact as actually selling a name. If I write uncovered calls or purchase institutional-size buckets of puts, I'm doing the same thing as going naked on a short and continuing to avoid the muss and fuss of asking the nice men at the SEC if I'm allowed to bet directionally on a stock's performance.

He likes to create this vision of a shadow cabal of "bear raiders" but really EVERY financial stock got the shit shorted out of it in 2007 by just about every hedge fund, individual, institution, etc. While the rating agencies created a huge problem by basing ratings on stock performance, creating the potential for spiraling rounds of downgrades, this is really only hitting financials - hence the ban. "Bear raids" really only work when you can't see balance sheet assets or if a company borrows a lot, because credit rating impacts or uncertainty will cause an investor to look at a massive short interest as a warning sign. And even then you need to be right, like any other directional bet.

The uptick rule can't do a thing about any of that. It's a bear market, and we're all bear raiders now.

Relax

2008-10-10T16:59:00.003-04:00

This week, everyone panicked.

Domestically, shouting heads like Jim Cramer claimed you needed to put a 5-year war chest in the bank. Internationally, markets collapsed and fear reigned. Globally, the world's citizens are interpreting this fiscal panic as the final and fatal sign that life as we know it is about to change.

Deep breath. Is that so bad?

I can't think of a single thing I'd miss about the excesses of the last decade. Home flippers. Hummers. The morbidly obese. Expensive wars. Huge subsidies, corporate welfare, and an irrational flood of earnest consumption that dominated American culture. Global culture, really.

What is so bad about putting money in the bank? What is so bad, really, about consumer credit regressing to the mean? What's so bad about living less largely? There is short-term pain when the consumer economy contracts; jobs continue to be lost and comfortable lives continue to be interrupted by the insistent knocking of Malthus at the door. It sucks. Everybody knows somebody who lost a job or is suffering, or has suffered personally.

But long run, this is a good thing. It's called "Creative Destruction." You knock down a sentimental building and construct something newer and better in its place. You can't fuel an economy on consumer spending and houses made of Chinese plastic forever - and we shouldn't have tried. All along, we knew that it was wrong, but we played along. So let's face the light of day with a little courage, no?

Why This is DEflationary

2008-10-09T18:57:00.005-04:00

Inflation is a function of money supply. More supply of dollars means less demand.

Money supply, in normal times, is largely controlled by central banks. Selling treasury securities raises cash for governments to distribute. Buying them eliminates that case from the money supply. Those actions increase and decrease the money supply, respectively.

But right now, deposits are way up. People - individuals - are throwing their cash into FDIC-insured accounts. The Fed is cutting rates, international banks are cutting rates, but people aren't putting cash into circulation. As that money leaves the marketplace, prices for goods and services fall. Individuals are winning the battle against central banks over money supply.

Don't let anyone confuse you with talk of 10 dollar bread. This is really simple.

What happens when confidence comes back and people put the cash back into circulation? A huge zoom of inflation. The Fed will have to watch carefully for the recovery and put the screws on fast to prevent inflation from spiraling next. The very instant we identify a return of consumer spending and business activity, interest rates need to go way up and tamp down the flood tide of fresh cash from banks into - likely - stocks and the housing markets.

Sanity Makes a Comeback

2008-10-08T23:15:00.008-04:00

The stock market went down today, despite a rate cut from the Fed coordinated with a global loosening of monetary policy. Good. Why good?

Monetary policy is, in some respects, a synthetic indicator of interbank lending policies. In the past, they were a powerful bellwether for the domestic interbank lending market at large, which felt that it had to adopt the Fed's stance on interbank lending. In an efficient market, that's theoretically the logical reaction; this AAA institution will lend to you at X! We should too!

Actual lending rates have almost no correlation to the Fed funds rate right now, because banks are focusing on huge, strange changes in the LIBOR rate. And they should! This means that banks are making independent risk decisions about each other - and they SHOULD!

Does this create efficiently-operating credit markets? Absolutely not. In fact, it's a disaster! But it SHOULD be a disaster in a world where Bank A has no idea what the assets of Bank B are worth, and Lehman and Bear Stearns can simply wink out of existence. Central banks are not the only policymakers - individual, private institutions can and should make independent judgments of counterparty risk in interbank lending decisions. And individual, private institutions now realize that a lack of balance sheet transparency makes it impossible to judge the risk of a counterparty in a transaction. Look at Merrill! They theoretically were sold because a paranoid Chase demanded 5 billion in collateral out of nothing more than simple fear.

Why is that a good thing? That kind of shit is why the Great Depression happened! It's a good thing because banks will now be forced to figure out some agreed-upon method for valuing L3 and illiquid assets. A standard will emerge from this, hopefully with the assistance of regulators and politicians who remain about a year behind this crisis, to restore some semblance of order to interbank markets. It will have to. Interbank lending is a vital, required function for efficient market operation. After everyone's done being terrified, the logical response will be to develop a disclosure standard that is both more granular and more fair than the ratings agencies.

Right now, the rational reaction is to be scared like crazy that the bank you're lending to has an evil asset that will swallow them - and the money you lent them - whole. That's sanity given the events of the last 6 months. The next sane step will be to come clean so markets can function and you yourself can borrow in response to your own fear. Once this moment of clarity strikes, the recovery can begin.

The Volcker Option

2008-10-07T00:15:00.003-04:00

If the bailout fails to stimulate lending, we need to go the other way. The Federal Reserve should pull a Paul Volcker and jack rates up.

Why? Housing is still the problem. And lending at current valuations won't do a thing, because we STILL aren't allowing prices to collapse to reasonable levels. Owners of real estate need to demand vastly less for property in the short term, only VERY credit-worthy borrowers should be able to hurdle high interest rates and massive credit constrains, and all that excess inventory needs to get bought. Then, in a few years, those high-quality borrowers can refi.

Ironically, the hope them is to create another credit bubble.

Credit bubbles can do one of two things. They can vastly stimulate domestic industries, like in the 1980's after the last Volcker move. They can also transfer trillions of dollars to foreign sovereign banks, like in 2001-2008. Guess which version creates long-term economic sustainability? Every credit bubble is a dice-roll that innovation and private enterprise winds up creating huge new value-added sectors of the economy. Sometimes you get a whole pile of plasma televisions made by Asians. Let's hope for the former.

You're Not Even Suffering

2008-10-06T23:11:00.004-04:00

Those forecasting another Great Depression don't know how good we have it.

Yes, the economy is in bad shape. That's a fact. Jobs are a problem, corporate earnings are a problem, and investment performance is more dismal than an economist convention.

But when time comes to batten down the hatches, there are backstops in this economy. Wal*Mart gives 290m to charity annually. Americans, especially the wealthy, are very philanthropic.

But they're nowhere close to the generosity of our Federal Government. Our spending in Iraq is legendary.

Besides, America isn't poor. See the picture. We've got so far to go before we're considered poor as superpowers go that it's laughable. The size and strength of the US economy should not be underestimated.

We're a long way off before words of suffering become truly credible. There are people who are not participating in the American dream. There are people who are barely holding on. But for the most part, there are e-populists arguing on broadband connections in air-conditioned rooms. I'd suggest those people re-read The Grapes of Wrath in the coming days and realize just how far we are from that scenario.

Picture taken from censusscope.org.

SNL Understands

2008-10-05T23:02:00.004-04:00

There is so much to love about this skit, but let's keep it to the truly great parts:

* George Soros listed as "Owner, Democratic Party"
* Anne Hathaway, who is gorgeous
* The crazy-eyed Nancy Pelosi performance
* The interesting point about the role of the Democrats in Fannie/Freddie lending

And, of course, this quote:

"And thank you, Congressman Frank, as well as many Republicans for helping block Congressional oversight of our corrupt activities."

From Panic to Fear

2008-10-05T21:41:00.002-04:00

The TARP bailout bill's passage removed the element of abject panic from the marketplace. 700B dollars will be borrowed/printed and used to provide an alternative - because other hilarious, invisible banks are also paying 50-60c on the dollar - market for mortgage-backed securities.

This bill was passed under the presumption that removing mortgage-backed assets from these banks would invite private and foreign investment, as well as prevent wealthy investors from completing a devastating run on the bank that has paralyzed lending. I would say neither scenario is guaranteed by the bill, but it sends a strong signal to international money and credit markets that the US is prepared to dilute owners of Treasury securities to bail out domestic interests. As they should be. Much has been made of foreign participation in the value of the USD, but ultimately the first interest of the Treasury should be to safeguard the safety of the tax base. Which is, substantially, the wealthy and their assets.

TARP ends the panic, but not the fear. Banks still aren't going to be lending at 2006 rates anytime soon, if ever again. That has major consequences for businesses - without a steady diet of commercial paper, they will need to be more liquid to maintain daily operations. That means that corporations will be keeping more cash on hand and less inventory, staff, or expansion capital is available.

It also has dire consequences for industries that float substantial debt or equity issuances to operate, notably in the media, technology, and private equity spheres. Obtaining investment capital is a much higher hurdle today than it was yesterday. The "long tail" of the equity and debt markets, small companies looking for a shot, will be largely consumed as banks focus on stable, less-risky relationships with established firms; the unhappy consequence is fewer Google-type companies sprouting out of sparse capital nutrients. Of course, it also means fewer BananaBread.com's.

The overarching theme, then, is one of limited domestic growth potential in the near term. Globally. The cycle of wealth creation is on a trending down, which means more redistributive philosophies taking root politically. The trickling down will need to be upgraded to more of a pouring or flooding sensation for the eternally growing earnings expectations of the middle class to be met. Do you think anyone sees this and thinks THEY'RE affected? Just look at all the "time preference" credit card spending taking place.

The Internet Recession

2008-10-03T22:19:00.006-04:00

Eeesh. I just got home about an hour ago to the news about Gawker's Moe. Rough stuff - we differed on some things, but being unemployed is a hard thing for anyone. Fortunately, I think she's talented enough to land on her feet. My thought was always that a really great editor would bring out the best in her and that she wasn't necessarily being edited enough here. Hopefully the next engagement will allow that to take place.

What prompted this, though? Did Gawker overpay in the Radar-Jezebel-Gawker derby? Did management feel that the Panic of '08 story was mismanaged? Complaining advertisers? Cultural issues? I don't think her employment status was driven by "economic weakness." Her firing sticks out as set apart from the interesting - and scary - argument Mr. Denton made about advertising revenues.

He is changing the nature of his investment in internet content-driven advertising. Say what you want about the man, but he knows what he's doing with this stuff - one need only look to the wise sale earlier in the year of 3 properties. One point where we disagree is that I think this represents an inflection point for the theorized golden era of advertising-supported internet content. Ad spending implies demand for consumer products and services; when the economy retracts, ads retract. I suspect the payrolls of blogs and the bankrolls of bloggers will experience a similar phenomenon - to say nothing of the impact on Google and Yahoo.

My thought? Yahoo! doesn't survive 2009. Google's stock price cycles down to a much lower P/E. And ad-supported "free" distribution models die with the credit bubble.

Why American Express is Fucked, Which Means All Trading is Discretionary

2008-10-02T22:45:00.008-04:00

Ultimately, fuck your math. The economy is anecdotal.

You can argue macro concepts and bang on The Wealth of Nations like a Bible. You can come armed with a mound of data. But when it comes to market insight, you need to be able to pair that knowledge with a really good story. It has to make sense. Insecure sacs of flesh and bone are what meets the pavement in a crisis. MATLAB is the useless pair of safety goggles on the charred corpse of Lehman Brothers.

I work in banking, and the first thing I think when I sit down at my desk every day is not "I feel so effortless, free, and secure!" It's much more along the lines of "I wonder how much all this shit weighs?" Or perhaps "I really hope they fire me mid-day so I'm guaranteed a seat on the train so I won't have to carry a box." You know, stuff that fucked people think while waiting for the ax to fall.

You know what happened last Monday? In the midst of my "I'm fucked!" ruminations?

American Express doubled my credit limit. They DOUBLED it. Are they fucking retarded?

32% of AMEX's exposure is to borrowers with "risky" credit scores. I'm not in that unfortunate population, but I might be one of those dirty, evil bankers that gets his Privatized Losses for setting fire to Main Street in my War on the Middle Class. Not that I even USE my credit card for anything but a bill aggregation tool. But still! I'm a huge risk underneath that supposedly-gaudy credit score, and they have no idea. To say nothing of the people who are obvious risks at this point because they stopped paying bills 6 months ago!

You know what the other fun thing about AMEX is? Everyone on the Street uses them. AMEX cards are a status symbol amongst a population of ex-Street over-borrowed punks that are sending out resumes right now. Even if those assholes stay up-to-date, is the lucrative charge card market going to float AMEX through this crisis? Fuck no.

Also, AMEX, you can fucking forget about business users, you can't comp a tray of sandwiches for a meeting with Warren Buffet right now.

Smart investors, and people really, think like this all the time - they, like Rockefeller, see the extra rivet on the oil barrel, which you don't notice if you base all your analysis and decision-making on a spreadsheet full of cost figures like Quant investors. Investing is discretionary. Remember that, and don't be afraid to throw the statistics out on their asses if you've got a good reason. Economies are anecdotal, and ultimately your model doesn't know a fucking thing about scared investors doing what comes naturally - times like this prove both points.

The Bailout's Moon Behind a Cloud

2008-09-28T18:00:00.000-04:00

Gun-shy politicians have us on the edge of the unthinkable. This is quite a gamble these rich, out-of-touch plutocrats are taking.

I agree with Kucinich on some of his points, and his anger at a negligence and greed that has gone on for too long in the private and public sectors. But ultimately, investment banking and private industry are the economic drivers in this and all nations - following bulls or dancing with bears is not a matter of choice. Rather, it is the implicit reality of the modern world economy. The tax base, our retirements, and the value of the dollars we eye warily in the bank are inextricably tied to the performance of multinational corporations and banking conglomerates; we are a long, long, long way from yeoman farmers scratching a living from the dirt.

It's not wrong to oppose the bailout in its current form, or to take exception to the idea of "trusting Wall Street" once again in purchasing their assets from them. You could express legitimate concerns at such a move about the degree of Federal oversight, the absence of regulatory reform, etc. But transitioning so rapidly from a debt-based economy will be hard, and requires more than simple opposition. It requires an alternative plan to be in place, and quickly. The worst thing that could happen is for this deal to die with no hope in sight - the potential run on the bank as wealthy depositors panic, if it becomes a reality, would bring about the fall of our nation's economy.

Every day of inaction will be very costly. The FDIC is a 54-billion-dollar backstop for a multi-trillion-dollar depository banking system, and even then it provides minimal insurance for the truly rich that have been watching these proceedings with interest. The safety net is a spiderweb in the path of a falling anvil - MGIC, MBIA, Ambac, and AIG all learned the same lesson over the last year. The wealthy will be at the teller windows tomorrow. Everyday Americans will be the ones with deposits in these banks when they collapse. The suffering will be immense, and experienced primarily by the lower rungs of society.

I hope these "populists" have a realistic understanding of the risk they are taking here.

The Debate

2008-09-26T22:46:00.001-04:00

The legacy of this debate will be one of turnout suppression. It was as ordinary as possible. In a time of turbulence with two candidates claiming to represent change, hope for it died on their lips.

Queuing the Apocalypse

2008-09-26T20:03:00.003-04:00

Every bank in the world essentially stopped intrabank lending today.

Every bank in the world is queuing trades to wind down counterparty exposure en-masse, like on that heady Lehman weekend. They're contingent on a bailout. Tech staffs are nervously monitoring servers to ensure the volume can be handled.

Sweat it out! I think the ice will break and we'll do the needful. I hope so. Otherwise, Congress becomes the ultimate "FAIL" image macro.

The Inferno Takes WaMu

2008-09-25T23:19:00.005-04:00

Washington Mutual's deposits exceed the value of the FDIC's trust. JP Morgan purchased them, and the rest of the company will be allowed to collapse. It looks like we'll still be able to avoid the crushing, fatal blow to the entire fabric of American money that closed banks and long lines would engender, for now.

Cooler heads need to prevail in the bailout discussions. Tomorrow will be bad, though maybe not quite so. But if there isn't a deal on Monday, it's going to ugly.

A failure to create SOME kind of deal would be a disaster of indifferent idealism akin to Smoot-Hawley. Let's hope a contentious political process and crushing waves of misinformation, speculation, distrust, and paranoia don't get in the way of the needful.

Boiling it Down - Reaching Accord on the Bailout

2008-09-25T13:57:00.004-04:00

Congress, of the 9% approval rating, is debating non-regulatory provisions in a massive banking system bailout. The President is there, backing the Secretary of the Treasury to pass an initiative that will further destroy his blasted legacy. The hopeful Presidents are there, milking every moment for political gain.

The rich watch and wait, demanding the security of their investments and wealth, pressing their expensive stilleto heals and patent loafers into the throats of our nation's leaders.

Bankers wait, wondering how the paradigm is about to change, clinging to their overwhelming sense that if they could just borrow some more, head back to the table one last time...

And the public, with no idea how or why this is happening or what it means, gather their torches and pitchforks to rally against an unseen foe. Vowing to throw 'em all out. Looking for a lever to press, a building to burn, a car to flip.

The best part is? We haven't even felt the consequences yet. Just the calm before the storm. The credit cards are still burning, as we all cling to lifestyles that are about to be drastically, irrevocably reduced on a national level. Every balance sheet in the country feels like an albatross - from the consumer, to the company he/she works for, to the government chartering the corporation. We don't even remember what paying down one's debts FEELS like. What paying cash really means.

It's a beautiful, black mountain of waste, greed, and debt. We haven't even begun feeling what liquefying that is going to feel like, and already the masses are restless. This is more than unwinding Bush's bubble. This is setting the national financial clock back to the 80's, when the credit boom began. Maybe all the way back to 1934, when the modern financial system last began anew.

Hell of a time to be alive.

The Distraction Battle

2008-09-24T20:58:00.004-04:00

Democrats appear to have won CEO pay concessions for companies bailed out by the Government in this debacle.

Hooray.

Meanwhile, no regulatory concessions were sought or provided. No oversight was created or expanded. The government will still remain the largest provider of mortgage-backed securities. The government will receive no equity stake.

Who needs a forest when you have all these trees?

Bailout: How Progressive Taxation Empowers the Rich

2008-09-24T15:14:00.012-04:00

America's top 5% of wage earners are responsible for more than half of tax receipts, and the top 50% account for virtually all of them. I'll begrudgingly source an old Rush Limbaugh bit. Let's assume that we're all in agreement that the rich make the rules in America.

Why?

Well, the argument always goes - they get the best lawyers, they pay for the best friends in DC, they roll over their nest eggs through generations, and can afford better educations to manage them through the decades. The "born equal" game is rigged, so to speak. Progressive taxation, supposedly, redistributes some of this rigged-game-earned income to the lower-income folk that the rich lord over. It provides them with everything from roads to emergency health care to unemployment pay to retirement income in exchange for complicity in a Democratic system that doesn't favor their interests. A wealthy American pays a lot to the tax system and receives relatively little, a poor American pays a little to the tax system and receives relatively a lot, and both rich and poor agree on a concept of "America" without mansions on fire.

Now - look at the bailout of Wall Street. The rich, so to speak, have the most to gain. A lot of the rich work for those companies, or own chunks of them. A lot of the rich work with those companies to invest their assets, and would lose quite a bit in the event of a total failure of the banking system. Consider my post below about IRR, then incorporate the concept of our national mission of protecting the tax base with the concept of the top 5% being responsible for more than half of that tax base. That means our national mission, effectively, is also about protecting the hell out of the rich.

Thus, progressive taxes hit the rich, but they also empower them. Do you know what "too big to fail" means from a tax-base perspective? It means if the rich are actually called on to suffer at the hands of the so-called free market, the tax system collapses. If banking fails and a large number of the rich get wiped out, we turn a Federal debt crisis into an instantaneous, unavoidable implosion of every Federal spending program. The expense-reducing carnage would be incredible, and everything from defense to social security would be a shadow of itself. So it will never, ever happen as long as our comfortable plutocrat lawmakers draw breath.

THIS is why several wealthy folks like that guy in Texas are against the bailout, not some silly love of the "free market" meme/construct that keeps the middle-class semi-rich in line. They have their money elsewhere - offshore, in other currencies, in commodities. A banking collapse would result in the single largest reduction in the size and power of the Federal Government in its history, essentially giving it back to oligarchs, and it would stick it to the champagne-liberal rich that actually deigned to keep their money in domestic (non-tax-avoidey Cayman-style) accounts.

Sound fun? You need this bailout for your Liberal spending agendas, and the rich need it to stay rich. But the game remains the same unless we do away with Progressive taxation entirely and stop tiering sovereignty.

Variables in Your Bailout Math

2008-09-24T13:19:00.019-04:00

When any business makes a decision, it performs cost vs. benefit calculations. IRR, MIRR, and NPV are all capital budgeting calculations used to determine the best "bang for the buck" decision. MIRR is likely most valid here, as the 700B spent here is being actively evaluated against the Obama spending agenda by Liberal opponents of the deal. Conservatives, presumably, are evaluating it against the cost of making and using ICBMs.

Hank Paulson did not get his undergrad without understanding these calculations. His responsibility as Treasurer requires that he perform them to determine if this project is the best possible value for the American people. Doing so will require estimates, and variables that are codependent across the calculations. It's complex, and uncertain - Investment Banking is an inexact science, and best at producing ranges of potentiality. Fortunately, we have an i-Banking mensch running the show.

You're already running this in your head - absent, well, the math to justify your protest - when you say "But we could have XYZ social program instead!" The question is not whether you could have that program, but how that program's value is returned in exchange for taxpayer expenses. Meaning, which plan stabilizes and provides for the growth of tax revenues the best? Let's compare the 700B bailout to, say, a socialized health care plan

Variables in Hank's math:

1.) Per-Annum Cash outflows

The Treasury increases revenue by keeping taxpayers employed and generating revenue. The banking system is a major economy component - some 1/6th of total GDP, much of it taxed as normal wage income. In addition, the services banking provides to the wealthy generate substantial cap gains tax revenue. A "run on the bank" removes that as well. The connection between bank failure and decreased tax receipts is a powerful one. Estimates should be performed here to determine the expected losses.

Meanwhile, medical bankruptcy is arguably less related to job loss, although obviously connected. It also doesn't impact high income individuals - IE, more taxes - the way banking system failure would. There are numbers on this out there, and ranges should be incorporates.

Also, we're getting this money from foreign counterparties, hence the pre-deal collapse of the dollar and related rise in commodity prices. Debt service drags revenues. The "lower cost" plan has a major advantage here, because in a vacuum we're borrowing effectively all of this money.

2.) Per-annum Cash inflows

A health-care system would likely generate no revenue. It's a service provided to taxpayers. Out-of-pocket expenses for more extreme procedures aren't clear, although they would likely be absorbed by the government in many cases.

Investing in these debt securities at 22c on the dollar produces a range of possibilities, from a total loss to an 88c (or more) profit. In addition, the mortgage service will generate these revenues as cash on a monthly basis for Uncle Sam, increasing the liquidity of the Treasury.

3.) Duration

The debt securities don't have a very long lifespan - the mortgage cycle for homeowners is typically 7 years. Theoretically 30-60 years is possible for component mortgages within the securities, but generally 7 years is the rule of thumb for expiration. Furthermore, we realize the value of these securities on a monthly basis.

Meanwhile, with health care, we have no idea what the expense profile looks like 30, 50, 100 years in the future. It's impossible to guess. But a massive Boomer-driven increase in cost is fast approaching, flooding the system with exponentially more aging people with increased tendencies to demand medication, surgery, and long-term care.

Obama Comforts Me

2008-09-23T14:52:00.006-04:00

I'm only a recent Obama convert, but the man just scored some serious points with me by intimating that his ridiculous spending plans could potentially be delayed by the massive debt taken on by the Federal Government this year.

"Does that mean that I can do everything that I've called for in this campaign right away, probably not. I think that we are going to have to phase it in. A lot of it is going to depend on what our tax revenues look like," Obama said.

In a world where candidates simply can't be honest, I'm humbled and amazed that he would be so candid with a militant hemp-smoking socialist student base driving much of his success. All I want is prudence in the face of headwinds. To make the statements he made is a legitimate breath of fresh air.

Nestle Quik's Role in This Crisis

2008-09-22T18:06:00.016-04:00

Go pour yourself a glass of milk, and add a few spoonfuls of Nestle Quik to it. Watch the grains of chocolate-flavored sugar float around through the liquid. Does this resemble the stock market to you? No? Congratulations, you're smarter than most of Wall Street's biggest asset managers.

Derivatives, particularly those menacing credit-default swaps, are a big part of the credit crisis. Nobody knows how much they're worth anymore! Probably nothing! Why? Because, like they have done roughly 14 times since 1987, Black-Scholes and other stochastic pricing models have proven to be fundamentally flawed.

Back to your glass of chocolate milk. Particles - the Quik -in solution - the milk - diffuse in a geometric, stochastic process called Brownian Motion. Or at least, that's how Physicists predict the movements of individual particles and the group collectively. Some so-called geniuses, Fischer Black, Robert Merton, and Myron Scholes, decided that markets moved like Quik in a glass of milk. This led to the Black-Scholes pricing model, and to the Capital Assets Pricing Model. Both are commonly used in determining the valuation of assets. These guys won a Nobel Prize for this. Seriously.

Unfortunately, Black-Scholes and CAPM are as flawed as chocolate milk is delicious. For a lot of boring mathematical/philosophical reasons! But you can skip to the proof in the pudding: Myron Scholes and Robert Merton were working at LTCM when it died. And built most of its credit-spread derivative trading schemes out of their Brownian hypothesis. Fun fact: LTCM's horrific collapse was the last big market event to almost thrust us into disaster!

They teach Black-Scholes and CAPM in college. For a laugh, when they test you on it, hand them a copy of When Genius Failed. You won't pass, because teachers don't get jokes.

The best debunking I've ever read was written by Benoit Mandelbrot, most commonly known for the Mandelbrot set - a fractal. He makes a compelling argument that the market is more chaotic than Brownian, and assets would be best valued by a fractal-based analysis in The Mis-Behavior of Markets. Check it out. It's not a math tome, and there are better debunkings, but this one's relatively easy to read and not nearly as dry as others. If you care about the mathematical assumptions that contributed to this crisis I suggest it.

What Pelosi Should Care About

2008-09-21T16:46:00.006-04:00

CNBC has finally gotten some eyes on the bailout package, and have raised some salient points.

Regulatory form can and should be part of the bailout package. What needs to be regulated? Oh, assist to Nancy Pelosi, here's the real shit you need to be worried about. You know, instead of trying to please the crowd on CEO pay like a moronic shyster.

1.) Mortgage origination - particularly the documentation and credit evaluation process. But more importantly, originators need to be held accountable for originating bad loans. Their current compensation structure involves no punishment for creating a bad loan unless it's still on the original bank's books when it goes sour. I'm not sure if that's just a contractual requirement in the course of the mortgage sale or some broader regulatory penalty structure in the event that a producer is creating a raft of risky mortgages, but something must be done.

2.) Mortgage securitization - these things are too big, too complicated, and too interconnected. The leverage that can be collateralized with these securities needs control. Otherwise, you create scenarios in which banks and their counterparties are too big - and interconnected - to fail.

3.) Financial education - how do you prevent abuse in mortgage sales? Ultimately the only way to be truly fair is to create equal access to financial product education, and pass legislation to make disclosures of cost and risk more clear. Too many people "didn't understand" their adjustable-rate mortgages. Take away the excuse.

4.) Bad Paper - between auction-rate securities, CDO paper, and credit-default swaps, Wall Street has created an ocean of questionable derivative securities and sold them to investors all over the world. It's time to clamp down. Banks need to hold this risk, as they're in the best position to evaluate it - it's clear that synthesizing the risk and redistributing it has limited effect when the underlying securities go belly-up.

5.) Nationalizing ratings agencies - it's time. Referees need to be accountable to voting taxpayers, not Wall Street. After all, in the event of colossal collective failure to identify risk like with this crisis, we foot the bill.

That's just a start. There needs to be sweeping regulatory reform, and it needs to be part of this package. And it is far, far, far more important than CEO pay. Why isn't it being discussed? Because the important, meaningful details don't please the crowd the way that limiting the next Angelo Mozillo's pay package would. Fucking Pelosi.

The Bullshit Olympics

2008-09-21T00:00:00.013-04:00

The Congressional Democrats are a bunch of fuckups.

How did you feel this week, America? Did you feel safe and warm about your retirement accounts, your money-market accounts, your mortgages, your investments? Did watching the market pinwheel about amidst headlines evoking 1929 while the Wall Street Journal dared to use the terminology "worst crisis since 1930's" comfort you?

The bailout plan Paulson put on the table has problems. It unfairly compensates private shareholders of financials as it mops up a huge, rotten base of failed mortgage securities from their balance sheets. It adds additional risk of taxpayer loss - though the floor it sets on these securities will likely be a profitable price if the economy recovers. It represents "moral hazard" in the sense that it lets banks off the hook for massive, historic, monumental risk management laxity.

That's great. You know what? Those are legitimate criticisms. I counter with, "Yeah, but if we don't do it there won't be any banks left to wag fingers at." We need to learn this lesson, to an extent. We also need the bailout.

But you know what we don't need? It doesn't need Nancy Pelosi to turn this historic, potentially-lifesaving arrangement into an election-year game of chicken with the whole fucking financial system in the balance.

Asking for a cap on CEO wages in the course of this bill is fucking irresponsible. I'm fine with the second stimulus plan - you know what, compromise is what we're built on - but tacking this onto the bill is essentially daring the Republicans and economically responsible Democrats, who rightfully oppose such anti-capitalist nonsense, to kill it. At the expense of ALL of us. And for what? To make the point that some of us WERE too rich before the entire American economy collapsed?

This is not the time to have a national conversation about the ethics of CEO pay. You know what? The Democrats will have Congress in 6 months. They'll probably have the executive branch. Can we please fucking deal with that then? Is it really necessary to destroy the only reason to feel confident in the marketplace at a time like this to make some insignificant - CEO pay cannot be constrained, only restructured - point about wealth distribution?

Please stop fucking around, Pelosi. This is way, way, way too important. We're all bitter about the last 8 years, but this is far greater than politics. This is more important than election-year posturing. If you kill this bill with your fucking games, we will experience systemic financial failure. If you fancy yourself a populist, protect the people before worrying about the CEO pay problem. You can have Obama bless it in a few months. Between this and the "get us out of Iraq" bullshit in 2006 I'm starting to see why Nancy's Congress has a 9% approval rating.