Is The Chinese Bubble Ready To Burst?

Thanks to Phil for passing this along.

The discussion of whether or not the Chinese economy is a bubble destined to collapse, or if the recent rash of media over empty cities and spiraling food costs are merely sensationalistic hype masking an unstoppable growth story, has become a favorite Wall Street parlor game over the past year.

May trade data from China released earlier this month registered stronger growth in imports than consensus forecasts, suggesting that demand in the Middle Kingdom is remaining resilient despite the steady rounds of tightening that the People’s Bank of China policy makers began in the fourth quarter of last year. With interest rate and reserve ratio increases still failing to tame rising prices completely, some economists anticipate that currency appreciation against the dollar peg is remains a possibility. Simply put, the longer view of the situation facing Beijing is still very much a matter of debate.

One strong voice in this debate is Vikram Mansharamani, a Managing Director at Boston-based SDK Capital and a lecturer at Yale where he teaches a seminar on economic boom and bust cycles that served as the basis for his book 'BOOMBUSTOLOGY: Spotting Financial Bubbles Before They Burst' that was published earlier this year.

Mansharamani, who holds a PhD and two master’s degrees from MIT, helps oversee a long/short global equity portfolio. "I skin the cat thematically – what I look for structural long term trends on which I can bank for longs, and on the short side I look for things that fit my framework of bubbly conditions."

One example Mansharamani gives as a potential developing bubble is base metals. "The steel industry in China boomed from 5 percent of global steel production in the late 70s to almost 50 percent today; on the back of that surge was a voracious appetite for iron ore" he says. "Anticipating that Chinese growth will continue and extrapolating on past trends, the iron ore industry is now planning expansions equating to over 100 percent capacity growth in the next ten years. Well, hold on a moment: if China continues to grow at past rates, China becomes more than 90 percent of the entire global steel market – which is unlikely, and so it seems likely that the iron ore capacity may be rising just as slowing capital investments in China cools demand."

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Book: Boombustology

Related previous post: Hedgehogs and Foxes

Jim Grant talks beer goggles with Tom Keene on Bloomberg TV

Link

Miguel Barbosa on The Great Books Curriculum

My friend Miguel at Simoleon Sense has a great post up about The Great Books Curriculum.

Link to: Miguel on The Great Books Curriculum

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And just to add a little something to the discussion, here’s my current Top 10 list of books for someone new to investing:

1. The Essays of Warren Buffett (or better yet, Buffett’s Letters to Shareholders)

2. Poor Charlie's Almanack (it's a good idea to add Seeking Wisdom to the cart as well)

3. The Most Important Thing

4. Value Investing: From Graham to Buffett and Beyond

5. Competition Demystified

6. Boombustology

7. Probable Outcomes

8. Fooled by Randomness

9. You Can Be a Stock Market Genius

10. Security Analysis

Notes from Tim Harford's book "Adapt"

Via Farnam Street:

Biologists have a word for the way in which solutions emerge from failure: evolution. ... Disconcertingly, given our instinctive belief that complex problems require expertly designed solutions, it is completely unplanned. Astounding complexity emerges in response to a simple process: try out a few variants on what you already have, weed out the failures, copy the success - and repeat forever. Variation, and selection, again and again.

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Whether we like it or not, trial and error is a tremendously powerful process for solving problems in a complex world, while expert leadership is not.

...most real-world problems are more complex than we think. They have a human dimension, a local dimension, and are likely to change as circumstances change. ... (the method for dealing with this could be summarized in three principles) first, seek out new ideas and try new things; second, when trying something new, do it on a scale where failure is survivable; third, seek out feedback and learn from your mistakes as you go along. (variation, survivability, and selection)

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Book: Adapt

Related previous posts:

Tim Harford on learning from failure

In praise of pragmatism - By Tim Harford

Tim Harford on EconTalk

James Grant on CNBC

Mr. Grant comes in around the 4-minute mark.

Link

Jeff Bezos on innovation

Thanks to Andrew for passing this along.

When you look at something like, go back in time when we started working on Kindle almost seven years ago…. There you just have to place a bet. If you place enough of those bets, and if you place them early enough, none of them are ever betting the company. By the time you are betting the company, it means you haven’t invented for too long.

If you invent frequently and are willing to fail, then you never get to that point where you really need to bet the whole company. AWS also started about six or seven years ago. We are planting more seeds right now, and it is too early to talk about them, but we are going to continue to plant seeds. And I can guarantee you that everything we do will not work. And, I am never concerned about that…. We are stubborn on vision. We are flexible on details…. We don’t give up on things easily. Our third-party seller business is an example of that. It took us three tries to get the third-party seller business to work. We didn’t give up.

But. if you get to a point where you look at it and you say look, we are continuing invest a lot of money in this, and it’s not working and we have a bunch of other good businesses, and this is a hypothetical scenario, and we are going to give up on this. On the day you decide to give up on it, what happens? Your operating margins go up because you stopped investing in something that wasn’t working. Is that really such a bad day?

So, my mind never lets me get in a place where I think we can’t afford to take these bets, because the bad case never seems that bad to me. And, I think to have that point of view, requires a corporate culture that does a few things. I don’t think every company can do that, can take that point of view. A big piece of the story we tell ourselves about who we are, is that we are willing to invent. We are willing to think long-term. We start with the customer and work backwards. And, very importantly, we are willing to be misunderstood for long periods of time.

I believe if you don’t have that set of things in your corporate culture, then you can’t do large-scale invention. You can do incremental invention, which is critically important for any company. But it is very difficult — if you are not willing to be misunderstood. People will misunderstand you.

Any time you do something big, that’s disruptive — Kindle, AWS — there will be critics. And there will be at least two kinds of critics. There will be well-meaning critics who genuinely misunderstand what you are doing or genuinely have a different opinion. And there will be the self-interested critics that have a vested interest in not liking what you are doing and they will have reason to misunderstand. And you have to be willing to ignore both types of critics. You listen to them, because you want to see, always testing, is it possible they are right?

But if you hold back and you say, ‘No, we believe in this vision,’ then you just stay heads down, stay focused and you build out your vision.

Article by Joel Greenblatt

Thanks to Steve F. for passing this along.

As most financial advisors know, the secret to successful investing is relatively simple: Figure out the value of something and then — pay a lot less. Unfortunately, as it turns out, it's really hard to figure out the value of a business. And finding good fund managers that can do the job for you — that can be just as difficult. There are several inherent reasons why this is so. Mutual fund managers have to do the things that private investors, such as me, can afford to do. We can own just a few stocks — say as few as 10 to 25 of our favorites — and we can choose stocks that are too small for big funds to buy and for Wall Street firms to follow. Also funds often get too big and charge too much to beat the market. Complicating things further, retail investors — even their financial advisors — are unwilling to hold a good manager when his style is, well, out of style.

Of course, a big impediment to beating the market that all managers must overcome is fees. Most actively managed mutual funds charge fees and expenses based on the size of the fund, usually 1 percent to 2 percent of the total assets under management. This means that the more assets a fund has, the more money the management company makes. As you might suspect, this incentive to gather more assets isn't necessarily good for investors.

To get big and take large positions, fund managers tend to go for big, well-known stocks. But, there can be big advantages to looking at smaller companies. These companies are often too small for large investment funds to buy and for Wall Street firms to spend money on doing research. Less competition from other buyers and less available Wall Street research often mean a greater opportunity to find bargain-priced stocks among these lesser-followed small-capitalization companies. Since there are thousands of companies with market capitalizations below $1 billion both in the United States and internationally, small-cap investors have a big advantage. Being able to choose from thousands of additional choices with less competition from large investors is a luxury that successful investors like Warren Buffett wish they still had. Yet the goal of most mutual funds is to gather as many assets as possible. Chances are that by the time you've heard of a successful mutual fund, it already has many hundreds of millions or billions under management and can no longer take advantage of some of these smaller investment opportunities.

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Related whitepaper: The Case for Small & Micro-Cap Value Investing

A Value Investor's Perspective on Tail Risk Protection: An Ode to the Joy of Cash - By James Montier

In this white paper, James Montier, a member of GMO's Asset Allocation team, examines tail risk protection and how many of the principles of disciplined value investing can be helpful in first identifying tail risk and then choosing the best insurance to protect against it.

Quote

“The markets are a classroom where lessons are taught every day. The keys to investment success lie in observing and learning.”

-Howard Marks, The Most Important Thing (p.159)

Bill Gates at WIRED Conference

Thanks to David for passing this along. Link to video:

Chris Anderson, Editor in Chief of WIRED moderates a Q&A with Bill Gates as part of the opening session of the third annual WIRED Business Conference.

John Mauldin: The Contagion Risk of Europe

Bernanke gave another press conference after the FOMC meeting this week. Taking his time to address the situation in Europe, and the increased urgency of the crisis in Greece, Bernanke said US bank exposure to Greece was minimal and only indirect, via positions in large, core-nation banks in Germany and France. Raising a red flag, the bearded academic said that money-market mutual funds had substantial exposure to those same banks and could take a big hit if push came to shove in Europe. “A disorderly Greek default would have significant effects on the US” economy, he added.

About the only thing there was seeming consensus on in Europe was that Greece will eventually default. The question is when. European leaders, along with the IMF, have caved and will give Greece €12 billion to tide them over while they debate on finding €70-100 sometime late next month. By some accounts that amount will have to be a lot more. Meanwhile, the ECB is adamant that Greece cannot be allowed to default.

The whole process is somewhat akin to trying to help someone who is drunk by giving them another bottle of whiskey. Trying to cure a problem of too much debt with even more debt is simply irrational, and everyone but Europe’s leaders can see that. So why are they doing it?

Because if Greece is allowed to go, there is real reason to believe that the problems will spread rather quickly to the rest of peripheral Europe. By the way, it is not just French and German banks that US money markets have exposure to; there are a lot of Spanish banks that have issued commercial paper as well. And my sources told me that many of the state-owned German Landesbanks are essentially insolvent, with massive amounts of sovereign debt. By the way, another source notes that US money-market funds are not rolling over the commercial paper to some of the banks (like Spanish ones), so there is a liquidity squeeze coming to European banks in peripheral countries.

The ECB has taken on some €100 billion of Greek, Irish, and Portuguese debt, if I remember the number right. They have capital of only about €10 billion. They want to take on even more debt from the banks, as the banks are using sovereign debt as collateral. The whole process is a way to paper over the fact that many European banks are essentially insolvent if they have to mark to market their Greek debt.

Michael Mauboussin on WealthTrack

Link

FiveBooks Interview: Jerry Coyne on Evolution

The evolutionary biologist tells us why Darwin is still essential reading and sifts the vast amount of more recent writing on evolution for books that are both inspiring to scientists and accessible to general readers

I know you had a hard time narrowing your list down to just five books. In the end you chose books that are not only accessible but also your personal favourites.

Yes. There are books, like Richard Dawkins’s The Ancestor’s Tale or The Greatest Show on Earth, which give you evidence for evolution and are educational. But they weren’t inspirational to me in the way that these five books are. These are books that would be of benefit not only to the layperson but also to the working biologist.

I actually canvassed a lot of my colleagues, who are all evolutionary biologists, to get their ideas about what books to recommend. Most of them said they don’t read popular books on evolution, which I found kind of appalling. You can always learn stuff – nobody knows everything about evolution. Also, these books teach you how to write, how to promulgate your ideas and be a better educator. That’s part of our function as scientists, to communicate what we do.

I left aside more technical, textbook-type titles like The Selfish Gene by Dawkins and Adaptation and Natural Selection by George Williams, which is a bit of an arcane book. They’re inspirational to me as a scientist, but not so much as a scientist interested in communicating with the general public. It was a tough call. I had to leave out Carl Sagan. The good thing is that there is a plethora of books out there to educate the public about evolutionary biology. The bad thing is that the public doesn’t seem to be reading them, because 40% of Americans still reject evolution.

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Related books:

On the Origin of Species

Voyaging

The Power of Place

The Blind Watchmaker

The Mismeasure of Man

Evolution

Ever Since Darwin

Why Evolution is True

The Selfish Gene

Climbing Mount Improbable

The Extended Phenotype

Related link: Growing Up in the Universe