Thursday, December 30, 2010

Monday, December 27, 2010

Have You Ever Tried to Sell a Diamond? (1982 article)

Great find from Miguel at Simoleon Sense.

The diamond invention—the creation of the idea that diamonds are rare and valuable, and are essential signs of esteem—is a relatively recent development in the history of the diamond trade. Until the late nineteenth century, diamonds were found only in a few riverbeds in India and in the jungles of Brazil, and the entire world production of gem diamonds amounted to a few pounds a year. In 1870, however, huge diamond mines were discovered near the Orange River, in South Africa, where diamonds were soon being scooped out by the ton. Suddenly, the market was deluged with diamonds. The British financiers who had organized the South African mines quickly realized that their investment was endangered; diamonds had little intrinsic value—and their price depended almost entirely on their scarcity. The financiers feared that when new mines were developed in South Africa, diamonds would become at best only semiprecious gems.

The major investors in the diamond mines realized that they had no alternative but to merge their interests into a single entity that would be powerful enough to control production and perpetuate the illusion of scarcity of diamonds. The instrument they created, in 1888, was called De Beers Consolidated Mines, Ltd., incorporated in South Africa. As De Beers took control of all aspects of the world diamond trade, it assumed many forms. In London, it operated under the innocuous name of the Diamond Trading Company. In Israel, it was known as "The Syndicate." In Europe, it was called the "C.S.O." -- initials referring to the Central Selling Organization, which was an arm of the Diamond Trading Company. And in black Africa, it disguised its South African origins under subsidiaries with names like Diamond Development Corporation and Mining Services, Inc. At its height -- for most of this century -- it not only either directly owned or controlled all the diamond mines in southern Africa but also owned diamond trading companies in England, Portugal, Israel, Belgium, Holland, and Switzerland.

De Beers proved to be the most successful cartel arrangement in the annals of modern commerce. While other commodities, such as gold, silver, copper, rubber, and grains, fluctuated wildly in response to economic conditions, diamonds have continued, with few exceptions, to advance upward in price every year since the Depression. Indeed, the cartel seemed so superbly in control of prices -- and unassailable -- that, in the late 1970s, even speculators began buying diamonds as a guard against the vagaries of inflation and recession.

The diamond invention is far more than a monopoly for fixing diamond prices; it is a mechanism for converting tiny crystals of carbon into universally recognized tokens of wealth, power, and romance. To achieve this goal, De Beers had to control demand as well as supply. Both women and men had to be made to perceive diamonds not as marketable precious stones but as an inseparable part of courtship and married life. To stabilize the market, De Beers had to endow these stones with a sentiment that would inhibit the public from ever reselling them. The illusion had to be created that diamonds were forever -- "forever" in the sense that they should never be resold.

Is the SEC fighting last year's war?

Thanks to Max for passing this along.

Richard Bookstaber, veteran Wall Street risk manager and hedge fund manager, made a splash on the eve of the financial meltdown with the publication of Demon of Our Own Design, a book that warned the markets had grown too complex and were headed for a crash. Last year, Bookstaber left Wall Street to join the Securities and Exchange Commission as Senior Policy Adviser in the newly formed Division of Risk, Strategy, and Financial Innovation – a job he calls the most fulfilling of his career. In what spare time he has, Bookstaber trains in Brazilian jiu-jitsu, pens a broadly read blog, and during his New York-Washington commute is working on a novel that explores the limits of human knowledge.

He recently sat down with Fortune to reflect on his first year in a regulatory role.

Deepwater Horizon’s Final Hours

But this was a disaster with two distinct parts — first a blowout, then the destruction of the Horizon. The second part, which killed 11 people and injured dozens, has escaped intense scrutiny, as if it were an inevitable casualty of the blowout.

It was not.

Nearly 400 feet long, the Horizon had formidable and redundant defenses against even the worst blowout. It was equipped to divert surging oil and gas safely away from the rig. It had devices to quickly seal off a well blowout or to break free from it. It had systems to prevent gas from exploding and sophisticated alarms that would quickly warn the crew at the slightest trace of gas. The crew itself routinely practiced responding to alarms, fires and blowouts, and it was blessed with experienced leaders who clearly cared about safety.

On paper, experts and investigators agree, the Deepwater Horizon should have weathered this blowout.

This is the story of how and why it didn’t.

Hussman Weekly Market Comment: A Fed-Induced Speculative Blowoff

Why are Treasury yields rising despite hundreds of billions of Treasury purchases by the Federal Reserve? There are two possibilities in the current debate. One is that the Fed's policy of purchasing Treasuries has scared the willies out of the bond market on fears of higher inflation, and that the policy is a failure. The other is that the policy has been such a success at boosting the prospects for economic growth that interest rates are rising on anticipation of a better economy.

From our standpoint, neither of these explanations hold much water.


Fortunately for fans of logic, there is a third explanation that is much more plausible, and has the benefit of having data behind it. Despite my extreme criticism of Fed actions in recent years, I would argue that QE2 has in fact been "successful" over the short-term, but not through any monetary mechanism. Rather, QE2 has been successful a) by creating a burst of enthusiasm that released some pent-up demand in the same way that Cash for Clunkers and the new homebuyer tax credit did, and b) by encouraging investors to believe that the Fed has provided a "backstop" for stocks and other risky assets, creating a speculative blowoff in these securities, to the detriment of what investors perceive as "safe" assets, which ironically includes Treasury securities.

In short, the main effect of QE2 has not been monetary but has instead been rhetorical - and that rhetoric may very well be nearly empty.

Friday, December 24, 2010

Newsweek Interview with Bill Gates and Randi Weingarten on Education

Weingarten: What we’re seeing is that the United States, instead of moving ahead, is actually stagnating. We’re basically in the same place we’ve been, and these countries have moved forward. They’ve spent a lot of time investing in the preparation and support of teachers. Many of them teach a common curriculum, very similar to the common standards that Bill Gates and the Gates Foundation have been supporting. And they create the tools and conditions that teachers need to teach, and they have mutual respect and accountability. So kids have a role in terms of education, parents have a role in terms of education, teachers have a role in terms of education, and policymakers do as well.

Gates: I agree with all that, except we spend more money by every measure than any other system. Any way you look at it we spend by far the most money. So that is a dilemma. What are we going to do to get more out of the investments we make? Are there practices in terms of helping teachers be better that we can fit into our system? What can you do to help the teachers be better? You know, a quarter of our teachers are very good. If you could make all the teachers as good as the top quarter, the U.S. would soar to the top of that comparison. So can you find the way to capture what the really good teachers are doing? It’s amazing to me that more has not been invested in looking at how does that good teacher calm that classroom? How does that good teacher keep the attention of all those kids? We need to measure what they do, and then have incentives for the other teachers to learn those things.

Thursday, December 23, 2010

Heads Up Play With David Einhorn

If you’re going to commit financial fraud, you probably don’t want to find yourself sitting at a table across from David Einhorn, who will know what you’re up to and share it with the world. Similarly, if you’ve never played poker and have only ever had a 15 minute tutorial on the game, you probably should avoid playing with the Greenlight Capital founder, whose vastly superior skills will demonstrate just how much you suck. As I like to live on the edge, yesterday in an undisclosed location, I choose not to heed the wisdom of the latter. Over several hands, Einhorn and I discussed the new edition of his 2008 book, “Fooling Some Of The People, All Of The Time.”

The latest version includes an epilogue, and concludes the story of Allied and Einhorn’s years of trying to get other people to listen when he said something was up. As we now know, Allied’s shares collapsed, Greenlight collected $35 million, and the hedge fund made another big (and correct) call on a bank called Lehman Brothers, whose failure was, according to Einhorn, “the Allied story all over again,” just on a bigger scale, with more resounding consequences. Even after the last crisis, which should have been a wake-up call, Einhorn doesn’t think we’ve changed much and if anything, the reforms passed only “encourage poor behavior and will likely foster an even bigger crisis.” He and I chatted about that exciting event, Quantitative Easing, Steve Eisman’s illicit pleasure of choice and more, plus poker tips for people who really, really need them.


Book: Fooling Some of the People All of the Time

John Mauldin's Outside the Box: Apple, Google, NewsCorp and the Future of Content

TEDxWoodsHole - Dan Ariely - Temptations and Self-Control

Found via Simoleon Sense.

Endless Memory

Part 1

Part 2

Wednesday, December 22, 2010

Meredith Whitney Defends Muni Crisis Prediciton


In a Sign of Foreclosure Flaws, Suits Claim Break-Ins by Banks

When she finally got into the house, it was empty. All of her possessions were gone: furniture, her son’s ski medals, winter clothes and family photos. Also missing was a wooden box, its top inscribed with the words “Together Forever,” that contained the ashes of her late husband, Robert.

The culprit, Ms. Ash soon learned, was not a burglar but her bank. According to a federal lawsuit filed in October by Ms. Ash, Bank of America had wrongfully foreclosed on her house and thrown out her belongings, without alerting Ms. Ash beforehand.

In an era when millions of homes have received foreclosure notices nationwide, lawsuits detailing bank break-ins like the one at Ms. Ash’s house keep surfacing. And in the wake of the scandal involving shoddy, sometimes illegal paperwork that has buffeted the nation’s biggest banks in recent months, critics say these situations reinforce their claims that the foreclosure process is fundamentally flawed.

John Mauldin: Kicking the Can Down the Road

How often did we as young kids go down the street kicking a can? “Kicking the can down the road” is a universally understood metaphor that has come to mean not dealing with the problem but putting a band-aid on it, knowing we will have to deal with something maybe even worse in the future.

While the US Congress is certainly an adept player at that game, I think the world champions at the present time have to be the political and economic leaders of Europe. Today we look at the extent of the problem and how it could affect every corner of the world, if not played to perfection. Everything must go mostly right or the recent credit crisis will look like a walk in the Jardin des Tuileries in Paris in April compared to what could ensue.

From the point of view of not wanting to so soon endure another banking and credit crisis, we must applaud the leaders of Europe. The PIIGS collectively owe over $2 trillion to European and US banks. German, French, British, Dutch, and Spanish banks are owed some $1.5 trillion of that by Portugal, Ireland, Spain, and Greece by the end of June, 2010. That figure is down some $400 billion so far this year, which means that the ECB is taking on that debt, helping banks push it off their balance sheets. For what it’s worth, the US holds, according to the Bank for International Settlements, about $353 billion, or 17%, of that debt, which is not an inconsequential number.

Robert Lenzner notes something very interesting about the latest BIS report, out this week:

“What’s curious, though, is that for the first time the BIS has broken out a new debt category termed ‘other exposures, which it defines as ‘other exposures consist of the positive market value of derivative contracts, guarantees extended and credit commitments.’ These ‘other exposures’ – quite clearly meant to be abstruse – amount to $668 billion of the $2 trillion in loans to the PIIGS.

“So, bank analysts everywhere; you now have to cope with evaluating derivative contracts that could expose lenders to losses on sovereign debt. Be on notice!”

Tuesday, December 21, 2010

Howard Marks Memo: All That Glitters

On the merits of gold.

Monday, December 20, 2010

60 Minutes - State Budgets: Day of Reckoning

145 Minutes With Nassim Taleb

Hussman Weekly Market Comment: Things I Believe

1) Investors dangerously underestimate the risk of an abrupt and possibly severe equity market plunge

2) Agreement among "experts" is not your friend

3) Downside risk tends to be elevated precisely when risk premiums and volatility indices reflect the most complacency

4) We did not avoid a second Great Depression because we bailed out financial institutions. Rather, the collapse in the economy and the surge in unemployment were the direct result of a gaping hole in the U.S. regulatory structure that prevented the rapid restructuring of insolvent non-bank financials. Policy makers then inappropriately extended the "too big to fail" doctrine to ordinary banks. Following a striking loss of public confidence that resulted from arbitrary policy responses, coupled with fear-mongering by exactly those who stood to benefit from public handouts, the self-fulfilling crisis was contained by a change in accounting rules that effectively disabled capital requirements for all financial companies. We are now left with a Ponzi scheme.

5) The U.S. economy is recovering, but that recovery is vulnerable to even modest shocks.

6) The U.S. fiscal position is far worse than our present $1.3 trillion deficit and nearly 100% debt/GDP ratio would suggest.

7) A long period of generally rising interest rates will not negate the ability of flexible investment strategies to achieve returns, provided that the increase in rates is not diagonal, and the strategy has the ability to vary its exposure to interest rate risk.

8) Stocks are a poor inflation hedge until high and persistent inflation becomes fully priced into investor expectations. At the same time, short-dated money market debt has historically been a very effective inflation hedge.

9) It will be harder to inflate our way out of the Federal debt than investors seem to believe.

10) It will be harder to grow our way out of the Federal debt than investors seem to believe

11) Based on a variety of valuation methods that have a strong historical correlation with subsequent long-term market returns, we estimate that the S&P 500 is presently priced to achieve a total return averaging just 3.6% annually over the coming decade.

12) The specific features of a given economic cycle don't change the mathematics of long-term returns - they simply affect the level of valuation that investors demand or are willing to temporarily tolerate.

Friday, December 17, 2010

Wednesday, December 15, 2010

WCAM - QE2: Inflate or Die!

While many argue that quantitative easing can’t go on forever, Fed Chairman Ben Bernanke argues that it can go on as long as it takes, even if it requires further expanding the scale of asset purchases or expanding the menu of assets that it buys. Whether it’s QE2 or QE5, what matters is that the Fed has monetized a significant amount of debt and will continue to do so in order to flood the market with cheap capital. From our perspective, the Fed has done everything but scream from the rooftop that inflation is on its way. Whether or not the consequences will be deafening remains to be seen, but we urge investors to pay attention and be prepared.

Cash and long term bonds are the obvious casualties of inflation, while real estate, commodities and certain stocks will be the ultimate beneficiaries. The Fed’s hope is that inflation will increase meaningfully but not at an uncontrollable rate, and that consumers will experience a “wealth effect” as the value of their assets increase over time. Many argue that such wealth would increase only in nominal terms, but for those who have locked in long term debt at historically low interest rates, the wealth effect will be quite real. In turn, the Fed expects such wealth effects to spark consumer spending and stimulate economic activity that results in more jobs and higher government tax revenues.

Unfortunately, it isn’t that simple. As most baby-boomers vividly remember, the 1970’s and early 1980’s were marked by runaway inflation that was coupled with painfully high interest rates and unemployment. Many predict a similar course in the not too distant future, and we don’t believe the Fed has ruled out this possibility.

Ultimately, we believe the dollar will be inflated regardless of whether Bernanke pushes it to the forefront in the near term. The U.S. government’s mounting debt and deficits are simply unsustainable and eventually it will come time to pay the piper.

Tuesday, December 14, 2010

Excerpt from The New Evolution Diet

Nassim Taleb also wrote about a 10 page section at the end of De Vany's book.

We tend to simplify what otherwise seems overwhelmingly complicated. But as we now know, our metabolic function is infinitely complex. I found myself using concepts from other scientific disciplines to help me understand and explain the human body’s inner workings.

According to chaos theory, certain systems that seem to be random in fact are not–it’s just difficult for us to perceive, at the outset, all the subtle factors that set the course and determine the outcome. One landmark of chaos theory is the “butterfly effect.” This says that even a very small, unseen occurrence in a far-off place can have a large eventual impact–that if a butterfly flaps its wings in Hong Kong, the resulting breeze can trigger a cascade of atmospheric events and cause a hurricane in Brazil.

This can be used to explain many of our bodies’ inner workings. Here’s a simple one: If you go to the gym several hours after your last meal (so that you’re on a relatively empty stomach), your body will quickly burn through whatever glycogen is in your muscles and then move on to burning fat, which is the desirable state. But if on your way to the gym you have a sports drink, one with lots of carbs, you’ll need to burn off the glucose first. And depending on your workout, you might never get around to burning fat at all. Same exact exercise routine, very different outcomes, all because of your choice of pre-exercise beverage.

Another scientific concept, the power law, also comes up often in my discussions of health and fitness. It is based on the Pareto principle, named for Italian economist Vilfredo Pareto. In essence, it describes the relationship between how common a factor is and how much influence it exerts. It says that the most unusual events will have the greatest impact. Pareto’s study determined that 80 percent of privately held land in Italy was owned by 20 percent of the population.

Similar power laws exist all around us. This relationship between low frequency and high impact is found again and again, in various fields of science, business, and elsewhere.


Book: The New Evolution Diet

Related previous post: The New Evolution Diet

Jean-Marie Eveillard on King World News

Link to: Jean-Marie Eveillard on King World News

Monday, December 13, 2010

Jim Chanos on CNBC

From last week. Link to videos:

Investing Behind the Great Wall

The Short Story on the Markets

The Payout from the Bailout

Restructuring the Euro

Chanos: High-End Art Market Is Back

Chanos' Parting Shots

The New Evolution Diet

Related previous post: Art De Vany’s Essay on Evolutionary Fitness

Hussman Weekly Market Comment: Warning - An Updated Who's Who of Awful Times to Invest

In recent weeks, the U.S. stock market has been characterized by an overvalued, overbought, overbullish, rising-yields syndrome that has historically been hostile to stocks. Last week, the situation became much more pointed. Past instances have been associated with such uniformly negative outcomes that the current situation has to be accompanied by the word "warning."

It's not pleasant to adhere to our discipline here, but I believe that it is essential to do so, because conditions like these are often where it matters most, despite the discomfort. We've lost several percent in the Growth Fund in an advancing market, reflecting a tendency of investors to abandon stable investments in preference for the "risk trade" in highly cyclical stocks, as well as option time decay in an environment where defense is seen as unnecessary. The market's recent embrace of the "risk trade" can be traced to the apparent endorsement of risk-taking by the Fed. Still, it's wise to remember that while Fed Chairmen have proven to be apt encouragers of bubbles over the short term, the "Greenspan put" certainly didn't avoid the 2000-2002 mauling, nor did the "Bernanke put" avoid the even deeper 2007-2009 plunge. The only put options that investors can rely on here are the contractual kind.


The "stability trade" versus the "risk trade"

From a stock selection perspective, it is striking how extended the stocks of cyclical companies have now become, relative to more stable companies. This is true both on the basis of price and valuation. Cyclical stocks include companies such as Alcoa, Citigroup, Caterpillar, CSX, DuPont, Deere, Ford, FedEx, Goodyear, Hewlett Packard, International Paper, Southwest Airlines, 3M, Sears, United Technologies, and Whirlpool, among others. Staples include companies like Abbott Labs, ADP, Colgate Palmolive, Disney, General Mills, Johnson and Johnson, Kimberly Clark, Coca-Cola, McDonalds, Merck, Pepsico, Pfizer, Safeway, Walgreens, and Wal-Mart, among others.

The following chart (courtesy of Bill Hester) presents the ratio of the cyclicals index (CYC) versus the staples index (CMR). It's notable that the most recent spike in this ratio coincided with Bernanke's initial announcement of QE2. Cyclicals are now nearly as overextended relative to staples as they were at the 2007 peak. As one would infer from the word "cyclical," these companies are unusually prone to volatility.

Just as relevant for investors is the comparative valuation of these groups. The chart below presents the ratio of price/book value for staples relative to cyclicals. Historically, staples have been awarded higher valuations due to their higher and more stable long-term returns on equity. While staples continue to have strong returns on equity, they are strikingly out of favor. On this note, we have to agree with Jeremy Grantham of GMO in observing that high-quality large-caps (and we would emphasize those with stable growth, profit margins and ROE) most likely present the best prospects for total returns in the coming years. These stocks represent a distinct subset of the S&P 500. The constituents of the S&P 500 should not be viewed as a uniform group of "high quality" companies by any means.

Friday, December 10, 2010

Bruce Berkowitz: The megamind of Miami

Thanks to Will for passing this along.

He may be the most driven investor on earth. And now the founder of the $17 billion Fairholme Fund is making the boldest bet of his career.

Bruce Berkowitz is starting to sweat. It's just after 5 a.m. on a Thursday, and the man who is arguably the top mutual fund manager on the planet is briskly walking his usual morning route on the mansion-lined streets of his gated neighborhood in Coral Gables, Fla., just outside Miami. Alongside him is his investing partner, right-hand man, and next-door neighbor, Charlie Fernandez, who is furiously scrolling through e-mails on his BlackBerry as the two bat around ideas for the portfolio of Fairholme, (FAIRX) the $17 billion fund Berkowitz started 11 years ago. "Out here you can actually think," says Berkowitz, explaining the appeal of an hour of daily pre-dawn speed-walking to a visitor hustling to keep pace.

As he charges through the darkness in shorts, running shoes, and a black University of Miami zip-up hoodie, Berkowitz bounces from topic to topic in his typical scattershot way. He and Fernandez have just returned from an eight-day fact-finding trip to China -- he's bullish but wishes he'd gotten in 10 years ago -- packed so full of meetings that, Berkowitz says, they slept a mere 24 hours total. Next he jumps to the bold investments that he and Fernandez have made -- hedge-fund-like maneuvers involving both equity and debt -- in subprime lender AmeriCredit and then-bankrupt mall owner General Growth Properties (GGP), moves that have netted his fund a profit of $2 billion.

Finally, on the fourth or fifth pass down his block, Berkowitz, 52, gets around to the biggest and most public wager of his life: his $5 billion bet on the resurgence of Wall Street. Fairholme is now the largest shareholder of AIG (AIG) after the U.S. government, with a $1.5 billion position in the insurance giant. And Berkowitz has also taken huge stakes in Citigroup (C), Goldman Sachs (GS), Morgan Stanley (MS), and Bank of America (BAC). "We're going to make more on these names than we have on anything," he declares, as the sun begins rising behind the palm trees.

Thursday, December 9, 2010

Wednesday, December 8, 2010

David Einhorn Quote

Great quote from David Einhorn in the Charlie Rose interview linked to in the previous post:

CHARLIE ROSE: What is it you like about what you do, because you didn’t set out to do this?

DAVID EINHORN: No. What I like is solving the puzzles. I think that what you are dealing with here is incomplete information. You’ve got little bits of things. You have facts. You have analysis. You have numbers. You have people’s motivations.

And you try to put this together into a puzzle -- or decode the puzzle in a way that allows you to have a way better than average opportunity to do well if you solve on the puzzle correctly, and that’s the best part of the business.

Monday, December 6, 2010

The Absolute Return Letter - December 2010: The Dirty Dozen

In the world of finance, risk is essentially the probability of an investment’s actual return being different from the expected return. As most of us are not overly concerned about actual returns being higher than expected, it is fair to say that in practical terms, risk is a measure of the probability of losing some or all of your investment.

Now, risk cannot always be quantified, and there is indeed a term for immeasurable risk. It is called uncertainty. Good investment management is founded on robust risk management or, as we ought to label it, the ability to manage uncertainty well. Many moons ago, a good friend with more grey hair than myself gave me the advice to focus on the management of uncertainty. His philosophy was that if you manage that well, over time, performance will take care of itself.

Now, I must confess that over time I have made my fair share of mistakes. Managing risk/uncertainty is a heck of a lot more difficult in practice than the mathematicians want us to believe. I am only human. I get carried away from time to time like most other investors. Unless you were born with the DNA of Warren Buffett, keeping emotions at bay when making investment decisions is far from easy.

Mounting Debts by States Stoke Fears of Crisis

The State of Illinois is still paying off billions in bills that it got from schools and social service providers last year. Arizona recently stopped paying for certain organ transplants for people in its Medicaid program. States are releasing prisoners early, more to cut expenses than to reward good behavior. And in Newark, the city laid off 13 percent of its police officers last week.

While next year could be even worse, there are bigger, longer-term risks, financial analysts say. Their fear is that even when the economy recovers, the shortfalls will not disappear, because many state and local governments have so much debt — several trillion dollars’ worth, with much of it off the books and largely hidden from view — that it could overwhelm them in the next few years.

“It seems to me that crying wolf is probably a good thing to do at this point,” said Felix Rohatyn, the financier who helped save New York City from bankruptcy in the 1970s.

Some of the same people who warned of the looming subprime crisis two years ago are ringing alarm bells again. Their message: Not just small towns or dying Rust Belt cities, but also large states like Illinois and California are increasingly at risk.

Hussman Weekly Market Comment: A Most Important Rule

A few weeks ago, I noted that the return/risk profiles that we identify for stocks, bonds and precious metals had shifted abruptly. Since then, a decline in bond prices has modestly improved expected returns in bonds, but not yet sufficiently to warrant an extension of our durations. Precious metals have become more overbought, and while we are sympathetic to the long-term thesis for gold, intermediate term risks are now elevated. Finally, we have observed a further deterioration in market conditions for stocks.

Since the early 1980's, I've examined and tested an enormous range of analytical techniques and investment rules, including various versions of "Don't fight the Fed," and "Don't fight the tape." If I had to choose between only these two, "Don't fight the tape" would win, hands down, as Fed-based investment approaches typically endure excruciating drawdowns - even those that succeed in slightly improving long-term returns. That said, there are numerous refinements that perform far better than these simple rules-of-thumb; especially those that reflect broader considerations such as valuation, sentiment, economic pressures, yield trends, market internals, and so forth. If I had to pull a single rule from these combinations, one particular admonition - "Don't take risk in overvalued, overbought, overbullish, rising-yield environments" - is one of the single most important in terms of avoiding major, sometimes catastrophic losses.

Our investment stance is not defensive here based on our concerns with the appropriateness or legality of various Fed actions, nor based on our concerns about the underlying state of balance sheets in the financial sector, nor based on the elevated vulnerability of economic outcomes to small shocks. We are defensive because stocks are presently overvalued, overbought, and overbullish, and this combination is joined by rising yield pressures despite Fed actions.

1999 Paper: A Framework for Understanding Market Crisis - By Richard Bookstaber

Link to: A Framework for Understanding Market Crisis

David Einhorn on CNBC

Book: Fooling Some of the People All of the Time

Howard Marks Memo: Open and Shut

Mark Twain is described as having said, “History doesn’t repeat itself, but it does rhyme.” Thanks to the tendency of investors to forget lessons and repeat behavior, it sometimes seems there’s no longer a need for me to come up with new ideas for these memos. Rather, all I have to do is recycle components from previous memos, like a builder reusing elements from old houses. I’m willing to try an experiment along those lines for this memo.

Tuesday, November 30, 2010

Scientists Confirm that Dispersants Are Increasing Contamination in the Gulf

From the naked capitalism blog.

Peter Hodson, an aquatic toxicologist from Queen’s University in Kingston, Ontario, presented his case on 9 November at a meeting of the Society of Environmental Toxicology and Chemistry in Portland, Oregon…

The problem, explains Hodson, is that the dispersed cloud of microscopic oil droplets allows the PAHs to contaminate a volume of water 100–1,000 times greater than if the oil were confined to a floating surface slick. This hugely increases the exposure of wildlife to the dispersed oil. …

Worse, the toxic constituents of oil hang around longer than other components, another speaker told the meeting. “This idea that there’s an oil biodegradation rate doesn’t hold,” says Ronald Atlas, a microbiologist at the University of Louisville, Kentucky, who has studied the aftermath of the 1989 Exxon Valdez spill in Alaska. Alkanes, the simple hydrocarbons that comprise the bulk of oil, are degraded more readily than the PAHs, he points out.

TED Talk - William Ury: The walk from "no" to "yes"

Related book: Getting to Yes

Stone Age Minds: A conversation with evolutionary psychologists Leda Cosmides and John Tooby

Found via Hunter-Gatherer.

Related books:

Evolutionary Psychology: An Introduction

The Moral Animal


Steve Jobs Interview from 1985

A great Playboy interview with Steve Jobs from early 1985.

Playboy Interview With Steve Jobs


And Steve Jobs' 2005 Stanford Commencement Address is always worth going back and watching from time to time.

Monday, November 29, 2010

China's food crisis spells end of record highs

Found via Infectious Greed.

Rampant food price inflation – of more than 10pc last month – is causing extreme concern and radical action from the Chinese authorities while the world's political and economic attention has been on Ireland, Spain and Portugal.

This appears to be the discouraging investors from piling into the alternative asset class of commodities for all their nervousness about European sovereign debt.

For commodities, which are always more sensitive to demand in China than the rest of the world, have a lot to lose from tightening monetary policy in the world's hottest economy.

Chinese inflation is nothing new, but the food situation is reaching a critical point - one of potential unrest, especially in poorer regions.

This spectre of social disorder has prompted Chinese authorities to start attacking the problem on several fronts.

James Grant at the 2010 Value Investing Conference at UVA

Thanks to Steve F. for passing this along. There are other videos from the conference available on YouTube as well.

Unyielding, an Oligarch vs. Putin - By Joe Nocera

I found this when it was mentioned in the Charlie Rose interview with Joe Nocera and Bethany McLean about their new book.

I wish I had enough space to reprint in its entirety Mikhail B. Khodorkovsky’s closing statement, as his latest sham trial in Russia came to an end earlier this week. I have never been so moved by the words of a businessman.

Not that Mr. Khodorkovsky is a businessman anymore. Once the most famous of the Russian oligarchs, he ran Yukos Oil, which under his leadership became the best-run, fastest-growing, most transparent company in the country — a gleaming symbol of hope for Russian industry. Mr. Khodorkovsky, however, has spent the last seven years in prison, much of that time in Siberia. Stripped of his company, which was sold off to politically connected insiders, Mr. Khodorkovsky and his business partner, Platon Lebedev, were convicted of trumped-up tax charges brought by prosecutors acting on behalf of Vladimir V. Putin, who had come to view Mr. Khodorkovsky as a threat.

With the courtroom packed with supporters, Mr. Khodorkovsky stood up in the glass cage that has kept him imprisoned even during the trial. He talked for about 15 minutes, barely mentioning the charges against him. Instead, he spoke profoundly about what his case meant for his country.

A Case of Senioritis

Bill Gates is raising his arm, bent at the elbow, in the direction of the ceiling. The point he’s making is so important that he wants me and the pair of Gates Foundation staffers sitting in the hotel conference room in Louisville, Ky., to recognize the space between this thought and every lower-ranking argument. “If there’s one thing that can be done for the country, one thing,” Gates says, his normally modulated voice rising, “improving education rises so far above everything else!” He doesn’t say what the “else” is—deficit reduction? containing Iran? free trade?—but they’re way down toward the floor compared with the arm above that multibillion-dollar head. With the U.S. tumbling since 1995 from second in the world to 16th in college-graduation rates and to 24th place in math (for 15-year-olds), it was hard to argue the point. Our economic destiny is at stake.

Gates had just finished giving a speech to the Council of Chief State School Officers in which he tried to explain how administrators could hope to raise student achievement in the face of tight budgets. The Microsoft founder went through what he sees as false solutions—furloughs, sharing textbooks—before focusing on the true “cost drivers”: seniority-based pay and benefits for teachers rising faster than state revenues.


Related book: Work Hard. Be Nice.

Bill Gates reviews Matt Ridley's book "The Rational Optimist"

Found via Simoleon Sense.

The science writer Matt Ridley made his reputation with books like "The Red Queen: Sex and the Evolution of Human Nature" and "Genome: The Autobiography of a Species in 23 Chapters." His latest book, "The Rational Optimist: How Prosperity Evolves" is much broader, as its title suggests. Its subject is the history of humanity, focusing on why our species has succeeded and how we should think about the future.

Although I strongly disagree with what Mr. Ridley says in these pages about some of the critical issues facing the world today, his wider narrative is based on two ideas that are very important and powerful.

The first is that the key to rising prosperity over the course of human history has been the exchange of goods. This may not seem like a very original point, but Mr. Ridley takes the concept much further than previous writers. He argues that our success as a species, as opposed to earlier hominids, resulted from innate characteristics that allowed us to trade. Not long after Homo sapiens emerged, we were using rare objects, like obsidian blades, far away from the source materials needed to produce them. This suggests that large numbers of commercial links were established even at the hunter-gatherer stage of our development.

The second key idea in the book is, of course, "rational optimism." As Mr. Ridley shows, there have been constant predictions of a bleak future throughout human history, but they haven't come true. Our lives have improved dramatically—in terms of lifespan, nutrition, literacy, wealth and other measures—and he believes that the trend will continue. Too often this overwhelming success has been ignored in favor of dire predictions about threats like overpopulation or cancer, and Mr. Ridley deserves credit for confronting this pessimistic outlook.

Having shown that many past fears were ultimately unjustified, Mr. Ridley finally turns his "rational optimism" to two current problems whose seriousness, in his view, is greatly overblown: development in Africa and climate change. Here, in discussing complex matters where his expertise is not very deep, he gets into trouble.


"The Rational Optimist" would be a great book if Mr. Ridley had wrapped things up before these hokey policy discussions and his venting against those he considers to be pessimists. I agree with him that some people are overly concerned with potential problems, and I hadn't realized that this pessimism was so common in rich countries over the last several centuries. As John Stuart Mill said in 1828, in a quote from the book that I especially enjoyed: "I have observed that not the man who hopes when others despair, but the man who despairs when others hope, is admired by a large class of persons as a sage."

Mr. Ridley devotes his attention to just two present-day problems, development in Africa and climate change, and seems to conclude, "Don't worry, be happy." My prescription would be, "Worry about fewer things while understanding the lessons of the past, including lessons about the importance of innovation." This might qualify me as a rational optimist, depending on how stringent the criteria are. But there can be no doubt that excessive pessimism may cause problems with how society plans for the future. Mr. Ridley's book should trigger in-depth discussions on this important subject.


Book: The Rational Optimist: How Prosperity Evolves