Sent via BlackBerry from T-Mobile
Tuesday, March 24, 2009
"Inheriting"
The word of the day -- this day and every day -- is "inherit".
Wednesday, March 18, 2009
At least he didn't say "Inherited"
AIG Chairman and CEO Edward M. Liddy has an op-ed in the Washington Post entitled "Our Mission at AIG: Repairs, and Repayment" this morning. He is trying to justify the payment of the $165 million bonuses. Good luck with that there, Mr. Liddy. But for one thing we can be grateful: in telling the tale of his appointment at AIG after the hapless Martin Sullivan, he spares us the word "inherited."
I suppose that word is government property.
I suppose that word is government property.
Tuesday, March 17, 2009
The Coming Real Estate Recovery -- By The Numbers
I have been analyzing real estate and construction since 1991. I can’t even say that our current real estate collapse is unprecedented, because to me it’s not – I went through the Asian Financial Crisis, and this is like that. As a matter of fact, the Hongkong real estate slump of 1994-95 was pretty serious even before the Big One two years later. And Japan's real estate collapse has been both huge and enduring.
But I well remember my first AFC trip to the region. I had been correctly bearish in 1997 and I was analyzing from afar, unwilling to allow myself to make the trip in case my natural sympathy with people should overcome my brutally harsh analysis. So instead of my usual five-times-a-year Asia trips, I took no trips in 1997. Finally in the first quarter of 1998 I was sure things were as bad as they were going to get, and I did not have to worry about personal contagion any longer. I flew into Seoul, and was driven immediately in a black car to the Bank of Korea. Along the way I saw the debris from anti-government demonstrations and grafitti saying “IMF = I AM F¿¢KED”. The last two hundred yards of the way to the BOK, the car went slowly enough for me to see the sad, sunken faces looking with deep suspicion at a foreigner in a limo on his way to the central bank.
From Seoul I flew to Singapore on a Singapore Airlines wide-body aircraft with exactly three passengers on it, just me and a honeymooning couple.
In Bangkok, I visited the offices of one of the big commercial real estate brokers, where the Englishman in charge appeared a broken man. We looked out over the vast city with its forest of cranes all idle for the first time in memory. “No one will build another class A building in Bangkok for fifteen years,” he said.
But he was wrong. Capital did re-form in the real estate markets, and things were humming again inside of three years.
That’s good, and I expect we can look forward to some similar unexpectedly rapid recovery. But enough talk already. What do the data say we can expect here? Let’s dig into the housing market data.
For a long time I have resisted the popular Case-Shiller 20-City Housing Index, for many reasons. I think Shiller’s nutty professor act is off-putting, as is the false precision in the reports, the short history, and my sense that it is hard to index lumpy and illiquid stuff like houses. But everyone now uses it, so I have to relent.
I refer to short history -- Professors Case and Shiller only reach back to 1987, which misses the booms and busts of the seventies and early eighties. I can’t deal with that, so here’s what I did. I took their data, and lined them up with Census data going back to 1959, data that HUD also reports. I did some regressions and other hand-waving trend analysis to try to extend the Case-Shiller Index back in time.
Hey, if hand-waving is good enough for the Treasury Secretary, it’s good enough for me.
I got GDP, PCE Housing, and 10-year Note Yield data (the latter my mortgage interest rate proxy) from my good friend Fred at the St. Louis Federal Reserve Bank, and lined that up with the housing index stuff reported by the good professors and massaged by me.
Six recessions have been observed since 1959. Twenty quarters (five years) after trough recessionary conditions, the average increase in the price index has been 46.3%, the median increase 55.2%, the maximum 79.8% and the minimum -0.3%.
Eight interest rate spikes over the same period have seen the average price increase 30.0% twenty quarters later, or 34.5% on a median basis. The maximum increase was 75.9% and the minimum -22.3% (i.e. a more than 20% drop, in the period in which we now find ourselves).
There have been only five episodes of declining prices, of which this is by far the worst. Twenty quarters after the midpoint of these episodes, prices are 18.8% higher (average), 17.1% (median), 75.7% higher at best and down 28.3% at worst. But leaving out the current episode, which I suppose is not finished, the figures are respectively 46.3%, 55.2%, 79.8%, and -0.3%.
Food for thought.
But I well remember my first AFC trip to the region. I had been correctly bearish in 1997 and I was analyzing from afar, unwilling to allow myself to make the trip in case my natural sympathy with people should overcome my brutally harsh analysis. So instead of my usual five-times-a-year Asia trips, I took no trips in 1997. Finally in the first quarter of 1998 I was sure things were as bad as they were going to get, and I did not have to worry about personal contagion any longer. I flew into Seoul, and was driven immediately in a black car to the Bank of Korea. Along the way I saw the debris from anti-government demonstrations and grafitti saying “IMF = I AM F¿¢KED”. The last two hundred yards of the way to the BOK, the car went slowly enough for me to see the sad, sunken faces looking with deep suspicion at a foreigner in a limo on his way to the central bank.
From Seoul I flew to Singapore on a Singapore Airlines wide-body aircraft with exactly three passengers on it, just me and a honeymooning couple.
In Bangkok, I visited the offices of one of the big commercial real estate brokers, where the Englishman in charge appeared a broken man. We looked out over the vast city with its forest of cranes all idle for the first time in memory. “No one will build another class A building in Bangkok for fifteen years,” he said.
But he was wrong. Capital did re-form in the real estate markets, and things were humming again inside of three years.
That’s good, and I expect we can look forward to some similar unexpectedly rapid recovery. But enough talk already. What do the data say we can expect here? Let’s dig into the housing market data.
For a long time I have resisted the popular Case-Shiller 20-City Housing Index, for many reasons. I think Shiller’s nutty professor act is off-putting, as is the false precision in the reports, the short history, and my sense that it is hard to index lumpy and illiquid stuff like houses. But everyone now uses it, so I have to relent.
I refer to short history -- Professors Case and Shiller only reach back to 1987, which misses the booms and busts of the seventies and early eighties. I can’t deal with that, so here’s what I did. I took their data, and lined them up with Census data going back to 1959, data that HUD also reports. I did some regressions and other hand-waving trend analysis to try to extend the Case-Shiller Index back in time.
Hey, if hand-waving is good enough for the Treasury Secretary, it’s good enough for me.
I got GDP, PCE Housing, and 10-year Note Yield data (the latter my mortgage interest rate proxy) from my good friend Fred at the St. Louis Federal Reserve Bank, and lined that up with the housing index stuff reported by the good professors and massaged by me.
Six recessions have been observed since 1959. Twenty quarters (five years) after trough recessionary conditions, the average increase in the price index has been 46.3%, the median increase 55.2%, the maximum 79.8% and the minimum -0.3%.
Eight interest rate spikes over the same period have seen the average price increase 30.0% twenty quarters later, or 34.5% on a median basis. The maximum increase was 75.9% and the minimum -22.3% (i.e. a more than 20% drop, in the period in which we now find ourselves).
There have been only five episodes of declining prices, of which this is by far the worst. Twenty quarters after the midpoint of these episodes, prices are 18.8% higher (average), 17.1% (median), 75.7% higher at best and down 28.3% at worst. But leaving out the current episode, which I suppose is not finished, the figures are respectively 46.3%, 55.2%, 79.8%, and -0.3%.
Food for thought.
The Contributions of AIG in Perspective, & Who Wrecked Them
I just spent an hour today going through American International Group's last twenty years of Annual Reports, finding out how much tax AIG has paid over the last 20 years, working out estimates of how much tax its employees have paid on their incomes and how much has been remitted to the Treasury on dividends paid by AIG to shareholders on previously-taxed income.
The numbers I come up with are $35 billion of income taxes paid until the company tumbled into loss for its 2008 fiscal year. Taxes on salaries and dividends through 2008 I estimate at another $20 billion, for a total tax rake-off of around $55 billion.
What I cannot work out as easily is how much tax has been paid by service providers, lessors and so many others who prospered when AIG prospered. It would also take study to quantify the other economic benefits conferred on the cities and towns in which AIG operates, and the contributions AIG made to all the good causes it has supported so generously down the years.
As black as the company is now painted by career-making politicians, including some who now advise AIG personnel to commit suicide out of shame, one must try to remember that there were many benefits of AIG's rise and rise and rise. Far from being a criminal enterprise or a ship of fools, AIG was one of the greatest American companies, right up until it was wrecked by the incompetents brought in after that great man of the people, Eliot Spitzer, made it his special project to destroy Hank Greenberg and the company he built.
The numbers I come up with are $35 billion of income taxes paid until the company tumbled into loss for its 2008 fiscal year. Taxes on salaries and dividends through 2008 I estimate at another $20 billion, for a total tax rake-off of around $55 billion.
What I cannot work out as easily is how much tax has been paid by service providers, lessors and so many others who prospered when AIG prospered. It would also take study to quantify the other economic benefits conferred on the cities and towns in which AIG operates, and the contributions AIG made to all the good causes it has supported so generously down the years.
As black as the company is now painted by career-making politicians, including some who now advise AIG personnel to commit suicide out of shame, one must try to remember that there were many benefits of AIG's rise and rise and rise. Far from being a criminal enterprise or a ship of fools, AIG was one of the greatest American companies, right up until it was wrecked by the incompetents brought in after that great man of the people, Eliot Spitzer, made it his special project to destroy Hank Greenberg and the company he built.
Sunday, March 15, 2009
Friday, March 13, 2009
"I Blame the Recession" . . . the wisdom of a 14-year-old
True story. Yesterday as I was driving my 14-year-old daughter to school, the AM stations we normally listen to at that time for business, news, weather and traffic were all in commercial breaks at the same time.
So we switched over to 92.3 for the first (and probably last) time since K-ROCK signed off and the dopey Z100 wannabe top-40 station came on.
There was some gal I've never heard of singing a Top 40 song I don't know. It sounded like Katy Perry, but without the soul.
Cyrenah asked, "Dad, WTF?"
I explained that K-ROCK was gone and this is what we have instead.
And she said, "I blame the recession."
I asked her why.
"Everything that sucks is because of the recession."
So we switched over to 92.3 for the first (and probably last) time since K-ROCK signed off and the dopey Z100 wannabe top-40 station came on.
There was some gal I've never heard of singing a Top 40 song I don't know. It sounded like Katy Perry, but without the soul.
Cyrenah asked, "Dad, WTF?"
I explained that K-ROCK was gone and this is what we have instead.
And she said, "I blame the recession."
I asked her why.
"Everything that sucks is because of the recession."
Wednesday, March 11, 2009
Bernie Madoff Court Appearance Tomorrow
Beg your pardon for being away from the blog -- pressure of some document preparation with a Friday deadline.
I just want to take note that Bernie Madoff will appear in court tomorrow, reportedly to plead guilty to eleven counts of various frauds.
My opinion since the beginning of this scandal is that he should have been remanded to custody immediately. His lingering under house arrest in the opulent penthouse apartment has mocked his victims and demonstrated how unseriously and inconsistently our system treats white collar crime.
In New York a fellow of a different color or different profession than Madoff would see the inside of Rikers Island if he were charged for the theft of my wallet. Madoff stood accused of a $50 billion fraud initially, now apparently upgraded to over $60 billion. For perspective, consider that the initial insured loss in the 9/11 attacks was determined to be $11 billion.
I just want to take note that Bernie Madoff will appear in court tomorrow, reportedly to plead guilty to eleven counts of various frauds.
My opinion since the beginning of this scandal is that he should have been remanded to custody immediately. His lingering under house arrest in the opulent penthouse apartment has mocked his victims and demonstrated how unseriously and inconsistently our system treats white collar crime.
In New York a fellow of a different color or different profession than Madoff would see the inside of Rikers Island if he were charged for the theft of my wallet. Madoff stood accused of a $50 billion fraud initially, now apparently upgraded to over $60 billion. For perspective, consider that the initial insured loss in the 9/11 attacks was determined to be $11 billion.
Friday, March 6, 2009
Employment in Manufacturing & Government & the Deficit with China
Around the 20th of January, I heard a couple of talkers on business news and talk radio note that government employment had exceeded manufacturing employment in the United States. When I looked into it, I found the origin of this meme at a blogpost of Fabius Maximus entitled America passes a milestone!, with interesting charts and analysis. The charts are from subscription site Contrary Investor. Instapundit, Dr. Melissa Clouthier and Citizen Paine are among the analysts who picked up the story from Fabius, and well done to him.
But I wanted to see the original data, and I found it on one of my favorite sources for primary material, the website of the Bureau of Labor Statistics, for which the relevant interactive dialog box is here.
It is the work of a few minutes to find that, yes indeed, according to BLS, the non-seasonally-adjusted figure for workers employed in the goods producing sector of the US economy was set preliminarily at 21,404,000 for 2008, down from 22,221,000 in 2007, while the comparable employment-in-government figures were 22,457,000 preliminarily for 2008, up from 22,203,000 in 2007.
The services sector is bigger than both put together, with a preliminary 115,648,000 employed for the year 2008.
It was two days after Fabius's article that Timothy Geithner had his confirmation hearings in the Senate Finance Committee. One of the hostile Senators, Jim Bunning (R-KY), roasted Geithner over the US-China trade and financial relationship. He got started in his opening statement:
. . . and in questioning he was if anything tougher, blaming Chinese manufacturers and workers, in effect, for the financial crisis in which we now find ourselves. This, I believe, is a dangerous new aspect of international financial and trade relations, as I stated in my posting of January 26.
It strikes me that there is a direct line between the manufacturing implosion and the current account deficit with China and certain other trading partners, if anyone just cared to draw it. And there's not a thing Mr. Geithner could have done about it in his role as a regulator.
The capital inflows that so trouble Senator Bunning are just the flip side of America's trade deficit with that country. It's a matter of double-entry accounting identities, rather than any cunning device to "keep its currency low."
It can be shown -- I have done the work, and will put it here at some point -- that a portion of the trade deficit with China is really with American companies who have investments there.
Nevertheless, it is clear that the US economy has gone post-industrial.
Our trading partners will not buy our manufactures if we do not manufacture.
They will buy very little of the output of our large and growing government sector.
They will buy some of our services, but of course in these times of financial crisis and straitened circumstances, they too have less need of the financial and creative services in which American business specializes.
Our trading partners will buy hardly any of the spa, tanning, psychotherapy, handyman, coaching, self-actualization, pet grooming, personal-shopping, kitchen-designing, dog-walking, SAT-essay tutoring, Search Engine Optimization consulting, skateboard training, party-planning, eBay-auctioning, credit-counseling, baby-sitting and similar personal services in which a huge number of Americans now occupy themselves and try to scratch a living.
An entrepreneurial Chinese person might as well try his hand at manufacturing. An entrepreneurial American might as well shoot himself in the head as try his hand at manufacturing. The thought of going into the business of manufacturing a product for sale, with all the nightmares of taxation and regulation that go with that in the United States in the year 2009, is not for the faint-hearted among the business-minded.
And that is why perfectly serviceable industrial parks near my home in New Jersey are rented out to ballet schools, medical offices, day care centers, basketball clinics, gymnastics facilities, skate parks, senior centers, art studios, martial arts gyms, fitness centers, churches, mosques, schools, and even government offices, but hardly at all to industry.
If this cannot be changed -- and if anything the anti-manufacturing tide is still at the flood stage -- then how can the US current account deficit be anything but a huge long-term structural problem for us?
But I wanted to see the original data, and I found it on one of my favorite sources for primary material, the website of the Bureau of Labor Statistics, for which the relevant interactive dialog box is here.
It is the work of a few minutes to find that, yes indeed, according to BLS, the non-seasonally-adjusted figure for workers employed in the goods producing sector of the US economy was set preliminarily at 21,404,000 for 2008, down from 22,221,000 in 2007, while the comparable employment-in-government figures were 22,457,000 preliminarily for 2008, up from 22,203,000 in 2007.
The services sector is bigger than both put together, with a preliminary 115,648,000 employed for the year 2008.
It was two days after Fabius's article that Timothy Geithner had his confirmation hearings in the Senate Finance Committee. One of the hostile Senators, Jim Bunning (R-KY), roasted Geithner over the US-China trade and financial relationship. He got started in his opening statement:
Thank you, Mr. Chairman.
The financial crisis we are experiencing today did not happen overnight and it could have been avoided. As Mr. Greenspan now admits, the easy monetary policy that he and Mr. Geithner championed at the Federal Reserve created an asset bubble. Large capital inflows from countries like China, for the purpose of keeping its currency low, contributed to the bubble and they went unchecked. But, the collapse of the bubble would not have been so devastating if Mr. Geithner had been effective in his role as a regulator. . . .
. . . and in questioning he was if anything tougher, blaming Chinese manufacturers and workers, in effect, for the financial crisis in which we now find ourselves. This, I believe, is a dangerous new aspect of international financial and trade relations, as I stated in my posting of January 26.
It strikes me that there is a direct line between the manufacturing implosion and the current account deficit with China and certain other trading partners, if anyone just cared to draw it. And there's not a thing Mr. Geithner could have done about it in his role as a regulator.
The capital inflows that so trouble Senator Bunning are just the flip side of America's trade deficit with that country. It's a matter of double-entry accounting identities, rather than any cunning device to "keep its currency low."
It can be shown -- I have done the work, and will put it here at some point -- that a portion of the trade deficit with China is really with American companies who have investments there.
Nevertheless, it is clear that the US economy has gone post-industrial.
Our trading partners will not buy our manufactures if we do not manufacture.
They will buy very little of the output of our large and growing government sector.
They will buy some of our services, but of course in these times of financial crisis and straitened circumstances, they too have less need of the financial and creative services in which American business specializes.
Our trading partners will buy hardly any of the spa, tanning, psychotherapy, handyman, coaching, self-actualization, pet grooming, personal-shopping, kitchen-designing, dog-walking, SAT-essay tutoring, Search Engine Optimization consulting, skateboard training, party-planning, eBay-auctioning, credit-counseling, baby-sitting and similar personal services in which a huge number of Americans now occupy themselves and try to scratch a living.
An entrepreneurial Chinese person might as well try his hand at manufacturing. An entrepreneurial American might as well shoot himself in the head as try his hand at manufacturing. The thought of going into the business of manufacturing a product for sale, with all the nightmares of taxation and regulation that go with that in the United States in the year 2009, is not for the faint-hearted among the business-minded.
And that is why perfectly serviceable industrial parks near my home in New Jersey are rented out to ballet schools, medical offices, day care centers, basketball clinics, gymnastics facilities, skate parks, senior centers, art studios, martial arts gyms, fitness centers, churches, mosques, schools, and even government offices, but hardly at all to industry.
If this cannot be changed -- and if anything the anti-manufacturing tide is still at the flood stage -- then how can the US current account deficit be anything but a huge long-term structural problem for us?
The Household Initiative Plan is posted at Household Initiative Plan Blog
Wednesday, March 4, 2009
Big Economic News From China
We have CCTV4 (China Central TV Channel 4) in our house and at the moment Premier Wen Jiabao is delivering a major speech about economic stimulus. Here are a few of my notes.
The Chinese Communists are cutting corporate taxes, cutting capital gains taxes, cutting stock transfer taxes, promoting the motor industry and the housing market, promising to complete major recovery efforts for the Sichuan earthquake zone this year, and committing themselves to major infrastructure projects, agricultural and rural development, and much more. They are not giving up on their earlier forecast of 8% GDP growth for 2009.
Premier Wen's delivery is certain and confident. He is at pains to remind government officials that this is the people's money they are committing, and not "yi fen" (one penny) is to waste. The objective is to increase productivity in the Chinese economy and support employment in productive industry, and not promote make-work schemes or screwdriver assembly industry. Apart from this feint in the direction of industrial policy, the plan is highly market-oriented. It is detailed, fully-formed and ready to implement.
The Chinese Communist Party, which once said "Whatever you do never forget Class Struggle," has forgotten class struggle. There is apparently nothing in the Chinese plan for condoms, community organizers, or Maglev trains from senior politicians' districts to Disneyland.
You just have to be bullish on China. It is hard to argue that China will not emerge from the current financial crisis relatively stronger than before.
More later.
The Chinese Communists are cutting corporate taxes, cutting capital gains taxes, cutting stock transfer taxes, promoting the motor industry and the housing market, promising to complete major recovery efforts for the Sichuan earthquake zone this year, and committing themselves to major infrastructure projects, agricultural and rural development, and much more. They are not giving up on their earlier forecast of 8% GDP growth for 2009.
Premier Wen's delivery is certain and confident. He is at pains to remind government officials that this is the people's money they are committing, and not "yi fen" (one penny) is to waste. The objective is to increase productivity in the Chinese economy and support employment in productive industry, and not promote make-work schemes or screwdriver assembly industry. Apart from this feint in the direction of industrial policy, the plan is highly market-oriented. It is detailed, fully-formed and ready to implement.
The Chinese Communist Party, which once said "Whatever you do never forget Class Struggle," has forgotten class struggle. There is apparently nothing in the Chinese plan for condoms, community organizers, or Maglev trains from senior politicians' districts to Disneyland.
You just have to be bullish on China. It is hard to argue that China will not emerge from the current financial crisis relatively stronger than before.
More later.
Why Worry About the Capital Gains Tax Rate?
GE's drop below $6 is symptomatic of the fact that the investor class of this country has huge capital losses to write off against gains for the next many years. Our losses will outlast this current anti-capital, anti-business government.
GE joins the -90% club.
GE joins the -90% club.
Friday, February 27, 2009
The Government is Too Much With Us
The people are sovereign and this is what they voted for.
Obama's speech the other night sounded great, if you paid no attention to the words, which were a lot hair shirt and class struggle guff. Then came the budget announcement, in which those who did not really believe the new president is determined to move the country hard left finally had to face the facts that he means it -- the class warfare, the redistribution, the anti-business, anti-capital worldview -- all of it. Thursday we had attacks on health care and finance, Friday the 40% dilution of Citigroup's common equity. (Citigroup should henceforward be known as Citi Government.) The Dow loses 100 points every day, which wasn't so bad when it was at 14,000 but smarts a bit when it's at 7,000.
One of the most interesting fields of finance is "real options", not the familiar listed options but the features of optionality that are embedded in so many facets of everyday life. It helps me to think of our current predicament in terms of real options: in the face of 100% uncertainty and 200% hostility, the option to withhold my money for investment and keep it in my hip pocket instead is more valuable than ever.
Multiply that attitude by millions of investors and business people, and this economy is heading for a total breakdown.
One half wonders whether the Obama administration actually wants that breakdown in order to be able to ratchet up the class warfare even more . . . "Look, we offered them $3000 to hire new workers, but they laid of people and moved to China instead -- these rotten business people are your class enemies, let's fix them good!" That then is a pretext to move things rapidly in an even more revolutionary direction. It was chief of staff Rahm Emanuel who said crises are great opportunities for rapid and radical change.
On the other hand, the masses of the American people did not really vote for socialism, they voted for charisma and smooth talk and racial reconciliation. Democrats in Congress, who stand for election every two years, are showing their misgivings that when the people see where this is going, how rapidly we are heading towards breakdown, they may change their minds.
What the capital and business class of this country wants, apart from not being demonized and shaken down, is clarity on bailouts, budgets, and the very integrity of the system that produced the wealth and is now under attack for its pains.
There's a sense that the driver does not know the way to go but is driving 110 miles per hour trying to get there. Until we get clarity, or dare we hope a touch on the brakes from a Congress that realizes this is an electoral disaster in the making for them, capital will strike.
Obama's speech the other night sounded great, if you paid no attention to the words, which were a lot hair shirt and class struggle guff. Then came the budget announcement, in which those who did not really believe the new president is determined to move the country hard left finally had to face the facts that he means it -- the class warfare, the redistribution, the anti-business, anti-capital worldview -- all of it. Thursday we had attacks on health care and finance, Friday the 40% dilution of Citigroup's common equity. (Citigroup should henceforward be known as Citi Government.) The Dow loses 100 points every day, which wasn't so bad when it was at 14,000 but smarts a bit when it's at 7,000.
One of the most interesting fields of finance is "real options", not the familiar listed options but the features of optionality that are embedded in so many facets of everyday life. It helps me to think of our current predicament in terms of real options: in the face of 100% uncertainty and 200% hostility, the option to withhold my money for investment and keep it in my hip pocket instead is more valuable than ever.
Multiply that attitude by millions of investors and business people, and this economy is heading for a total breakdown.
One half wonders whether the Obama administration actually wants that breakdown in order to be able to ratchet up the class warfare even more . . . "Look, we offered them $3000 to hire new workers, but they laid of people and moved to China instead -- these rotten business people are your class enemies, let's fix them good!" That then is a pretext to move things rapidly in an even more revolutionary direction. It was chief of staff Rahm Emanuel who said crises are great opportunities for rapid and radical change.
On the other hand, the masses of the American people did not really vote for socialism, they voted for charisma and smooth talk and racial reconciliation. Democrats in Congress, who stand for election every two years, are showing their misgivings that when the people see where this is going, how rapidly we are heading towards breakdown, they may change their minds.
What the capital and business class of this country wants, apart from not being demonized and shaken down, is clarity on bailouts, budgets, and the very integrity of the system that produced the wealth and is now under attack for its pains.
There's a sense that the driver does not know the way to go but is driving 110 miles per hour trying to get there. Until we get clarity, or dare we hope a touch on the brakes from a Congress that realizes this is an electoral disaster in the making for them, capital will strike.
The Household Initiative Plan is posted at Household Initiative Plan Blog
Tuesday, February 24, 2009
While waiting for the Prez's speech, let's talk defaults!
There is time to dispose of a piece of received wisdom that is abroad in the land, and totally wrong.
Jamie Dimon (that's "Die-mon" not "Dee-mon", Mr. Congressman) of JP Morgan had the opportunity to hit this out of the park the other day when someone asked him about whether borrowers who are underwater on their loans might as well just walk away. Predictably enough, he said no, a mortgage is a contract and when you make a contract you should fulfill its terms.
True, and a large part of the moral truth. But not the whole truth, as there is a practical truth as well, for those who are not bound by moral scruple, who ask not "What's right?", but "What's in this for me?" The practical truth is that walking away has dire consequences that people have to weigh together with other considerations.
If you walk away, and the lender forecloses, it will destroy your credit for eight or ten years. If things improve and you want to buy a house again, or you need a car, a credit card, a student loan for your kids, you will be hard pressed to get one with a foreclosure in your recent past.
Moreover when the sheriff auctions your foreclosed house on the courthouse steps, there could well be a deficiency judgment against you for the difference between the hammer price and the amount on which you have defaulted. That deficiency judgment could follow you around for twenty years, during which the court can garnish your wages, withhold your tax refunds, and sell whatever assets you have that they can attach.
A ten- to twenty-year sentence? It is not worth it. You are far better off, and your lender is far better off, working it out than mailing the keys back to the lender and running off.
OK, now the President.
Jamie Dimon (that's "Die-mon" not "Dee-mon", Mr. Congressman) of JP Morgan had the opportunity to hit this out of the park the other day when someone asked him about whether borrowers who are underwater on their loans might as well just walk away. Predictably enough, he said no, a mortgage is a contract and when you make a contract you should fulfill its terms.
True, and a large part of the moral truth. But not the whole truth, as there is a practical truth as well, for those who are not bound by moral scruple, who ask not "What's right?", but "What's in this for me?" The practical truth is that walking away has dire consequences that people have to weigh together with other considerations.
If you walk away, and the lender forecloses, it will destroy your credit for eight or ten years. If things improve and you want to buy a house again, or you need a car, a credit card, a student loan for your kids, you will be hard pressed to get one with a foreclosure in your recent past.
Moreover when the sheriff auctions your foreclosed house on the courthouse steps, there could well be a deficiency judgment against you for the difference between the hammer price and the amount on which you have defaulted. That deficiency judgment could follow you around for twenty years, during which the court can garnish your wages, withhold your tax refunds, and sell whatever assets you have that they can attach.
A ten- to twenty-year sentence? It is not worth it. You are far better off, and your lender is far better off, working it out than mailing the keys back to the lender and running off.
OK, now the President.
The Household Initiative Plan is posted at Household Initiative Plan Blog
Monday, February 23, 2009
Confiscation of Retirement Assets?
There is a lively discussion under way at the Legal Insurrection blog with a post "The Revolt of the Kulaks Has Begun." In the comments it is suggested that the administration will come after tax-advantaged savings assets of American retirement savers.
This is dynamite. It is hard to believe the administration would overreach this way, but congressional Democrats exposed them to the charge by taking advice from Teresa Ghilarducci, a critic of the retirement savings system at the New School. In effect she suggests confiscating private accounts and supplying guaranteed government accounts in their place.
Promoting my Household Initiative Plan or something like it is one way to make the administration tell us what it really has in mind for private retirement accounts.
I have been making free-market proposals to liberalize the current rules for the 46 million IRAs, SEPs, SIMPLE and Keogh retirement accounts and permit them to invest in real estate without the heavy restrictions which pertain to them now. Retirement-minded people who are in good shape, not behind on their bills, and not struggling, could benefit from this opportunity to use retirement savings to take advantage of low real estate prices in popular retirement areas.
If you believe that the money people have contributed to their retirement accounts belongs to them, then it should be their free choice to do with as they think best, to take advantage of such opportunities as they perceive, or to bail themselves out of the trouble they are in. And if the administration thinks differently, then it would have to knock down proposals like my HIP.
Let's speak more generally about the restrictions and penalties that apply to these accounts. They are making a terrible situation even worse by restricting liquidity. Many people are being severely penalized for tapping their retirement accounts in order to try to save their homes and credit scores. Others who are behind on their mortgages and other bills, thereby damaging their credit, are nevertheless unwilling to incur the penalties they would pay to access their money in these accounts to get current on their bills. This is just madness. For the duration of the crisis, let's free things up, and let people access their own money in these accounts to work themselves out of trouble without penalties.
This is dynamite. It is hard to believe the administration would overreach this way, but congressional Democrats exposed them to the charge by taking advice from Teresa Ghilarducci, a critic of the retirement savings system at the New School. In effect she suggests confiscating private accounts and supplying guaranteed government accounts in their place.
Promoting my Household Initiative Plan or something like it is one way to make the administration tell us what it really has in mind for private retirement accounts.
I have been making free-market proposals to liberalize the current rules for the 46 million IRAs, SEPs, SIMPLE and Keogh retirement accounts and permit them to invest in real estate without the heavy restrictions which pertain to them now. Retirement-minded people who are in good shape, not behind on their bills, and not struggling, could benefit from this opportunity to use retirement savings to take advantage of low real estate prices in popular retirement areas.
If you believe that the money people have contributed to their retirement accounts belongs to them, then it should be their free choice to do with as they think best, to take advantage of such opportunities as they perceive, or to bail themselves out of the trouble they are in. And if the administration thinks differently, then it would have to knock down proposals like my HIP.
Let's speak more generally about the restrictions and penalties that apply to these accounts. They are making a terrible situation even worse by restricting liquidity. Many people are being severely penalized for tapping their retirement accounts in order to try to save their homes and credit scores. Others who are behind on their mortgages and other bills, thereby damaging their credit, are nevertheless unwilling to incur the penalties they would pay to access their money in these accounts to get current on their bills. This is just madness. For the duration of the crisis, let's free things up, and let people access their own money in these accounts to work themselves out of trouble without penalties.
The Household Initiative Plan is posted at Household Initiative Plan Blog
Sunday, February 22, 2009
The Question of Capital Flight
In better times, I was a money manager. My first job was analyzing Asia-Pacific stocks for one of the world's largest pension funds, and my first boss was a very smart, savvy Hongkong Chinese person. I had coffee with her recently and she says she is certain that this country is already experiencing capital flight. Capital flight is one critical step beyond "capital strike," which is how Larry Kudlow on CNBC characterizes it. If true, this is a big problem for a country with a current account deficit such as ours.
The Household Initiative Plan is posted at Household Initiative Plan Blog
Saturday, February 21, 2009
Household Initiative Plan to Rescue Real Estate
Here's a new plan for America's housing problem called the Household Initiative Plan. It’s called that because of all the plans out there it is the only one that asks little of the Treasury, Federal Reserve, or other government agencies besides non-interference in what millions of responsible householders could do for themselves on their own initiative.
My Household Initiative Plan will act to revive the real estate market by attacking three parts of the problem together. It reduces the unsold housing inventory and arrests the decline in home prices by helping liquidity re-form in the real estate market. It does this by making available an untapped source of capital that has previously been hard to access: the IRAs, SEPs, SIMPLE and Keogh plans of American retirement savers. According to the Investment Company Institute, there were over 46 million of these retirement accounts at the most recent survey in 2007, holding an incredible $4.5 trillion. No doubt some has gone in the financial market collapse, but it is still a great deal of money even by current jaded standards.
While it has been possible to buy real estate with IRA funds all along, the heavy restrictions and complicated regulations have kept people from doing so. This plan calls for suspending the restrictions and regulations on the use of IRAs for real estate purchase.
At present, if you buy property through your IRA, you do not own the property, the IRA does. You cannot pay the taxes and maintenance expenses of the property, the IRA has to have enough funds to cover them. You cannot make personal use of the property while the IRA owns it, it must be held only for investment until distribution upon your retirement. You cannot manage the property, the IRA trustee has to designate a manager. You cannot collect rents, they have to be paid to the IRA. You can apply monies from more than one IRA account to the purchase and expenses, but in effect you cannot buy the property with a mortgage simply because no lender is going to have IRA accounts as mortgagors.
At least for the duration of the economic crisis, why not liberalize and simplify the system, so that more people might take advantage of low real estate prices using IRA money that they have but would not think to use for this purpose? Let's allow people to take as much of their money as they want out of IRAs, SEPs, SIMPLE and Keogh plans, without taxes or penalties, for any real estate purchase – investment property or principal residence, first, second, or seventh home. They can then write contracts and take title as real persons in the regular way, without the complication of having a trustee execute these instruments on behalf of the IRA. Subject to market conditions and substantial down-payments, buyers should be able to get mortgages for regular-way purchases.
Let's permit buyers using IRA funds to pay property taxes and maintenance expenses and collect any rents of the property either personally if they prefer, or through the IRA if they can. On an investment property, if they receive net investment income personally, it can be taxable, if through the IRA, then not. That will provide an incentive for directing investment income back to the retirement accounts. If the property is used as the principal personal residence of the owners, the normal mortgage interest deduction can apply. If it is a vacation home, then perhaps disallow that, because there has already been a tax advantage conferred by the liberalized use of the IRA monies.
If a property paid for with IRA funds is sold before the owners' retirement, there are at least two sensible ways of handling the net proceeds. They can either go into another property without any capital gains tax but also without the further complication of a Section 1031 Exchange. Or the proceeds can return to the IRA, without fees, taxes, or penalties. Also – and this is important – if the account holders suspended IRA contributions after their property purchase, they should be permitted to catch up on their contributions and top up their accounts to the full extent that they could have funded their accounts under IRA rules.
The idea of my Household Initiative Plan is to make things easy for people to choose to use their IRA assets to buy real estate now. It removes the preference for financial assets over real assets and places both on a level playing field. Financial experts will object that retirement-minded investors should prefer stocks at today's low prices. However, real estate is also very cheap now, particularly in popular retirement regions of the southwest and southeast, and there is no way of knowing whether houses or stocks will treat people's money better in the coming years. As they always say, past performance is not an indicator of future results, but it is noteworthy that even after its sharp decline, the broad real estate asset class has performed better than the S&P500 over the last ten years.
The key point at this time of financial uncertainty is this: The people's money in IRA accounts belongs to them, and it should be their free choice to do with as they think best. If their choice can help the national prosperity as they prosper themselves, and at no additional public expense, what could be better for the general welfare?
D.H. Smith, Mt. Freedom NJ, 2/16/2009
Cross-posted at Household Initiative Plan Blog
Glad to get your feedback at "the.grayling at gmail dot com"
My Household Initiative Plan will act to revive the real estate market by attacking three parts of the problem together. It reduces the unsold housing inventory and arrests the decline in home prices by helping liquidity re-form in the real estate market. It does this by making available an untapped source of capital that has previously been hard to access: the IRAs, SEPs, SIMPLE and Keogh plans of American retirement savers. According to the Investment Company Institute, there were over 46 million of these retirement accounts at the most recent survey in 2007, holding an incredible $4.5 trillion. No doubt some has gone in the financial market collapse, but it is still a great deal of money even by current jaded standards.
While it has been possible to buy real estate with IRA funds all along, the heavy restrictions and complicated regulations have kept people from doing so. This plan calls for suspending the restrictions and regulations on the use of IRAs for real estate purchase.
At present, if you buy property through your IRA, you do not own the property, the IRA does. You cannot pay the taxes and maintenance expenses of the property, the IRA has to have enough funds to cover them. You cannot make personal use of the property while the IRA owns it, it must be held only for investment until distribution upon your retirement. You cannot manage the property, the IRA trustee has to designate a manager. You cannot collect rents, they have to be paid to the IRA. You can apply monies from more than one IRA account to the purchase and expenses, but in effect you cannot buy the property with a mortgage simply because no lender is going to have IRA accounts as mortgagors.
At least for the duration of the economic crisis, why not liberalize and simplify the system, so that more people might take advantage of low real estate prices using IRA money that they have but would not think to use for this purpose? Let's allow people to take as much of their money as they want out of IRAs, SEPs, SIMPLE and Keogh plans, without taxes or penalties, for any real estate purchase – investment property or principal residence, first, second, or seventh home. They can then write contracts and take title as real persons in the regular way, without the complication of having a trustee execute these instruments on behalf of the IRA. Subject to market conditions and substantial down-payments, buyers should be able to get mortgages for regular-way purchases.
Let's permit buyers using IRA funds to pay property taxes and maintenance expenses and collect any rents of the property either personally if they prefer, or through the IRA if they can. On an investment property, if they receive net investment income personally, it can be taxable, if through the IRA, then not. That will provide an incentive for directing investment income back to the retirement accounts. If the property is used as the principal personal residence of the owners, the normal mortgage interest deduction can apply. If it is a vacation home, then perhaps disallow that, because there has already been a tax advantage conferred by the liberalized use of the IRA monies.
If a property paid for with IRA funds is sold before the owners' retirement, there are at least two sensible ways of handling the net proceeds. They can either go into another property without any capital gains tax but also without the further complication of a Section 1031 Exchange. Or the proceeds can return to the IRA, without fees, taxes, or penalties. Also – and this is important – if the account holders suspended IRA contributions after their property purchase, they should be permitted to catch up on their contributions and top up their accounts to the full extent that they could have funded their accounts under IRA rules.
The idea of my Household Initiative Plan is to make things easy for people to choose to use their IRA assets to buy real estate now. It removes the preference for financial assets over real assets and places both on a level playing field. Financial experts will object that retirement-minded investors should prefer stocks at today's low prices. However, real estate is also very cheap now, particularly in popular retirement regions of the southwest and southeast, and there is no way of knowing whether houses or stocks will treat people's money better in the coming years. As they always say, past performance is not an indicator of future results, but it is noteworthy that even after its sharp decline, the broad real estate asset class has performed better than the S&P500 over the last ten years.
The key point at this time of financial uncertainty is this: The people's money in IRA accounts belongs to them, and it should be their free choice to do with as they think best. If their choice can help the national prosperity as they prosper themselves, and at no additional public expense, what could be better for the general welfare?
D.H. Smith, Mt. Freedom NJ, 2/16/2009
Cross-posted at Household Initiative Plan Blog
Glad to get your feedback at "the.grayling at gmail dot com"
Notes on the HIP
1. The careful reading and valuable insights of Harriet Baldwin, Charles Burns, Timothy Gildner, Cameron Adams, Swee Hsien Tsung and Terry Zou are gratefully acknowledged.
2. Other plans to fix the housing market focus variously on one or more parts of the problem: they aim to shore up the capital of banks, re-constitute the mortgage markets with private or government investment, re-work loan terms to mitigate foreclosures and keep people in their houses, clear the market oversupply of houses, and stop the spiral of house price declines. No single plan acts upon all of parts of the problem. Most act upon more than just one part. No useful plan acts upon only one.
3. The following are the key points of the well-known real estate plans, no doubt digested to the point that their originators would not recognize them:
4. Most of the well-known real estate plans have their good points, but the one thing none of them do is allow the American people a free choice to apply their own existing resources in the service of their own economic interests.
2. Other plans to fix the housing market focus variously on one or more parts of the problem: they aim to shore up the capital of banks, re-constitute the mortgage markets with private or government investment, re-work loan terms to mitigate foreclosures and keep people in their houses, clear the market oversupply of houses, and stop the spiral of house price declines. No single plan acts upon all of parts of the problem. Most act upon more than just one part. No useful plan acts upon only one.
3. The following are the key points of the well-known real estate plans, no doubt digested to the point that their originators would not recognize them:
a) The Zingales Plan (Luigi Zingales, of the University of Chicago) -- A decline in an index of local property prices triggers a government-mandated reduction of principal balance on securitized mortgages; lenders thus crammed-down may recapture some of future price appreciation in underlying assets.
b) The Columbia Plan (Glenn Hubbard and Chris Mayer, Columbia Business School) -- Calls for nationalized institutions Fannie Mae and Freddie Mac to provide home loans to new and existing borrowers with positive equity on such terms as would be available were markets working normally e.g 4.75% for 30 year loans.
c) The Feldstein Plan (Martin Feldstein, Harvard) --Proposes “mortgage-replacement” loans from the treasury at low cost (e.g. 2%) for all mortgage holders, up to 20% of their outstanding mortgage debt, to reduce their cost of debt service. These loans are full recourse, in first place ahead of mortgage, and aim to reduce the incentive for owners to abandon their properties.
d) The Immigration Plan suggests allowing an increased flow of immigrants to take up the excess housing stock.
e) The National Association of Realtors Plan: Expand and extend the home purchase tax credit, increase conforming loan limits, use TARP funds for mortgage interest buy-downs, and keep banks out of Realtors’ traditional business.
f) The National Association of Home Builders Plan: Extend tax credits of 10% of purchase price up to $22k to all new home buyers, and use TARP funds to buy down interest on conforming mortgages.
g) The Fix Housing First Plan (Sen. Johnny Isakson, Republican of Georgia, et. al.) -- Extend tax credits as per the NAHB plan, applicable to 2008 income tax, and make them monetizable, so that buyers can apply them at closing.
h) The Stimulus Plan as signed on 2/17/09 -- Expanded a program of $8000 tax credit for first-time homebuyers, repayment not required.
4. Most of the well-known real estate plans have their good points, but the one thing none of them do is allow the American people a free choice to apply their own existing resources in the service of their own economic interests.
Some Reaction to the HIP
I ran the Household Initiative Plan by the strong free market advocates of the Ayn Rand "Atlas Shrugged" group on Linkedin, and got back strong opinions. One comment:
“The defect [of the HIP] is that it's just minor tinkering. Instead, let's repeal the community investment act, privatize or abolish the GSEs. Repeal the income tax, lay off all government employees . . . this plan is illogical since it seeks to artificially make real estate go back up again . . . "
Another:
"The defect [of the HIP] is that is a plan and a planned economy never works. You describe it as a plan to turn the housing market around. Around from what and in which direction? I don’t know if real estate has to come down [and] neither do you . . . the only way to know what should happen is to free the market and watch it work."
I answered as follows. First, there is no way that liberating 46 million accounts and trillions of dollars constitutes minor tinkering.
Second, I think my use of the word “plan” has caused more grief than the actual contents of the plan. Among strong free market believers it is a word that elicits negative reactions. I only chose the word plan in order to try to compete for attention among all the other plans that are out there -- Zingales, Hubbard/Mayer, Feldstein and all the rest. I could have called it a proposal, an idea, or following an ancient Fed official, a banana.
My plan, or banana if you object to the word plan, is non-interference, a level playing field, clearing away the regulatory debris, and letting the owners of capital decide how to apply their capital.
The "planned economy" is not part of my proposal. On the contrary the "planned economy" was introduced to this situation years ago when the current structures of IRAs, Keoghs, SEPs Simples and all the IRS apparatus that goes with them were created. By the way, it should be understood by one and all that this whole apparatus was a giant gift for investment companies, banks, financial planners and accountants.
Surely I am not the only one with money in IRAs, losing money in financial assets and thinking about the future, who might choose to buy a condo in Florida instead with the money if the restrictions were lifted. That would be my choice, freely made, well considered, possibly wrong, but I'm willing to take the risk on that if I am permitted and not ask for a bailout if I am wrong. If someone else chooses to stick with their Fidelity and Putnam funds, I would be the last to tell them they can't.
At least for now, the money in these accounts belongs to the people who own the accounts. (There are professors at the New School who are advising the administration to do something about that too.) Let the people make their own choices. I don't see how that can be objectionable.
“The defect [of the HIP] is that it's just minor tinkering. Instead, let's repeal the community investment act, privatize or abolish the GSEs. Repeal the income tax, lay off all government employees . . . this plan is illogical since it seeks to artificially make real estate go back up again . . . "
Another:
"The defect [of the HIP] is that is a plan and a planned economy never works. You describe it as a plan to turn the housing market around. Around from what and in which direction? I don’t know if real estate has to come down [and] neither do you . . . the only way to know what should happen is to free the market and watch it work."
I answered as follows. First, there is no way that liberating 46 million accounts and trillions of dollars constitutes minor tinkering.
Second, I think my use of the word “plan” has caused more grief than the actual contents of the plan. Among strong free market believers it is a word that elicits negative reactions. I only chose the word plan in order to try to compete for attention among all the other plans that are out there -- Zingales, Hubbard/Mayer, Feldstein and all the rest. I could have called it a proposal, an idea, or following an ancient Fed official, a banana.
My plan, or banana if you object to the word plan, is non-interference, a level playing field, clearing away the regulatory debris, and letting the owners of capital decide how to apply their capital.
The "planned economy" is not part of my proposal. On the contrary the "planned economy" was introduced to this situation years ago when the current structures of IRAs, Keoghs, SEPs Simples and all the IRS apparatus that goes with them were created. By the way, it should be understood by one and all that this whole apparatus was a giant gift for investment companies, banks, financial planners and accountants.
Surely I am not the only one with money in IRAs, losing money in financial assets and thinking about the future, who might choose to buy a condo in Florida instead with the money if the restrictions were lifted. That would be my choice, freely made, well considered, possibly wrong, but I'm willing to take the risk on that if I am permitted and not ask for a bailout if I am wrong. If someone else chooses to stick with their Fidelity and Putnam funds, I would be the last to tell them they can't.
At least for now, the money in these accounts belongs to the people who own the accounts. (There are professors at the New School who are advising the administration to do something about that too.) Let the people make their own choices. I don't see how that can be objectionable.
Still More Reaction to the HIP
I got a valuable contribution from my best college friend. He writes:
Dave,
. . . First, the biggest problem is selling the idea. It sounds good, but who in the government is going to buy it? Democrats don't trust that people are smart enough to be able to handle their own retirement accounts - isn't that the purpose of Social Security? The cushion that an IRA, et. al., offers is still a piece that is supposedly handled by people that have some idea as to what they're doing - not Joe Bag O'Donuts next door. Republicans don't think that people with small investments are worth supporting in this measure, as they get their support from those money managers who are handling all the IRAs. You're going to take away their revenue stream.
Second, it seems that more people have problems with their existing mortgages. Emptying out their IRAs will have already occurred in some cases, in an attempt to stave off that foreclosure. Others will have to figure out how to draw out that IRA to buy fresh real estate while still being upside down on their existing mortgage. How do you handling buying a $300k home, with your $250k IRA when you already owe $250k on a house now valued at $200k? Insert whatever relevant numbers you want here, the problem is still the same.
Third, how do you convince people that investing in real estate is a good idea. [My city] ranks third among emptying cities. There's a glut of available real estate, and the prices continue to drop, but even those people with money are refusing to part with it - at least not for tickets that pricey. It's the same reason car sales have dropped. You can survive in a house with drafty windows and too small rooms, while you wait for the recovery. You can milk another 20 thousand miles out of that car, squirreling away the finally-relieved car payments, rather than upgrade, just to make sure that HP doesn't decide to downsize your department.
All that being said, I do think that your idea seems worthwhile. The problem has always been what the Dutch discovered hundreds of years ago - it's all just a bunch of tulips. Speculation leads to false value leads to soaring investment, finally to gossamer worth. When you discover all it ever was is a flower, then it all falls down on itself. Real estate has a quantifiable value. While it may not always be monetary, it is always concrete in its being. (Picture bad pun here.)
Hope that helps.
I replied as follows:
Hey there, I really appreciate you looking at it and giving me this well-considered feedback.
I'm a strong free market guy, so my best hope of sponsorship is not in either of the parties as you say, but in think tanks like Cato, Hudson, AEI. If they get behind something like it, the Republicans may pick it up in their role as opposition.
There is nothing for Republicans from Wall Street anymore, and no risk in attacking the franchise of the investment companies, banks and financial advisors.
You allude to a major problem that bothers me too: the fact that people are struggling when they have money that could help them, or are being subjected to penalties when they go into that money. I think it would be best to get rid of these penalties for the duration of the crisis. (Or forever.)
The candidates for buying condos in Florida and Phoenix are not the people who are upside down in their principal residence. They are the ones who could take $75k out of their accounts and finance $25-50k . . . in other words, buyers who would buy with a low loan-to-value ratio, if not a zero LTV.
I would be the last guy to try to convince anybody that they should do this or that with their money. Some people would make this choice freely if it were open to them. I sure would. That said, I believe the loss of confidence in financial assets will last for many years, while there is some baseline real-life demand for real estate. As you say, it is concrete and you can live in it.
If governments gets things wrong now and print money to paper over the cracks in the system, we will get to where you need bushel baskets of dollar bills to buy a Big Mac. The gold price is telling you there is real concern about this outcome. Real estate prices are indexed for inflation, but financial asset prices generally are not.
Dave,
. . . First, the biggest problem is selling the idea. It sounds good, but who in the government is going to buy it? Democrats don't trust that people are smart enough to be able to handle their own retirement accounts - isn't that the purpose of Social Security? The cushion that an IRA, et. al., offers is still a piece that is supposedly handled by people that have some idea as to what they're doing - not Joe Bag O'Donuts next door. Republicans don't think that people with small investments are worth supporting in this measure, as they get their support from those money managers who are handling all the IRAs. You're going to take away their revenue stream.
Second, it seems that more people have problems with their existing mortgages. Emptying out their IRAs will have already occurred in some cases, in an attempt to stave off that foreclosure. Others will have to figure out how to draw out that IRA to buy fresh real estate while still being upside down on their existing mortgage. How do you handling buying a $300k home, with your $250k IRA when you already owe $250k on a house now valued at $200k? Insert whatever relevant numbers you want here, the problem is still the same.
Third, how do you convince people that investing in real estate is a good idea. [My city] ranks third among emptying cities. There's a glut of available real estate, and the prices continue to drop, but even those people with money are refusing to part with it - at least not for tickets that pricey. It's the same reason car sales have dropped. You can survive in a house with drafty windows and too small rooms, while you wait for the recovery. You can milk another 20 thousand miles out of that car, squirreling away the finally-relieved car payments, rather than upgrade, just to make sure that HP doesn't decide to downsize your department.
All that being said, I do think that your idea seems worthwhile. The problem has always been what the Dutch discovered hundreds of years ago - it's all just a bunch of tulips. Speculation leads to false value leads to soaring investment, finally to gossamer worth. When you discover all it ever was is a flower, then it all falls down on itself. Real estate has a quantifiable value. While it may not always be monetary, it is always concrete in its being. (Picture bad pun here.)
Hope that helps.
I replied as follows:
Hey there, I really appreciate you looking at it and giving me this well-considered feedback.
I'm a strong free market guy, so my best hope of sponsorship is not in either of the parties as you say, but in think tanks like Cato, Hudson, AEI. If they get behind something like it, the Republicans may pick it up in their role as opposition.
There is nothing for Republicans from Wall Street anymore, and no risk in attacking the franchise of the investment companies, banks and financial advisors.
You allude to a major problem that bothers me too: the fact that people are struggling when they have money that could help them, or are being subjected to penalties when they go into that money. I think it would be best to get rid of these penalties for the duration of the crisis. (Or forever.)
The candidates for buying condos in Florida and Phoenix are not the people who are upside down in their principal residence. They are the ones who could take $75k out of their accounts and finance $25-50k . . . in other words, buyers who would buy with a low loan-to-value ratio, if not a zero LTV.
I would be the last guy to try to convince anybody that they should do this or that with their money. Some people would make this choice freely if it were open to them. I sure would. That said, I believe the loss of confidence in financial assets will last for many years, while there is some baseline real-life demand for real estate. As you say, it is concrete and you can live in it.
If governments gets things wrong now and print money to paper over the cracks in the system, we will get to where you need bushel baskets of dollar bills to buy a Big Mac. The gold price is telling you there is real concern about this outcome. Real estate prices are indexed for inflation, but financial asset prices generally are not.
Thursday, February 19, 2009
Federal Open Mouth Policy is a Big Sell
The first time I realized that the Federal Open Mouth Policy is a Big Sell was over a year ago, when Fed Chief Ben Bernanke made some innocuous remarks about financial conditions that at that point did not yet rise to the level of panic. The stock market sold off hard.
Bear Stearns rescue -- short term relief, after which market sold off hard.
The statements that have followed every one of the Fed's and Treasury's Sunday evening interventions -- short term relief, after which market sold off hard.
Every one of these schemes to expand the type of security they'll take at the Fed window to include S&H green stamps, Pokemon cards, Indian wampum and pocket lint -- short term gain, after which, well, you know.
TARP, TALF . . . barf.
George W. Bush, Ben Bernanke, and Hank Paulson -- just the headline on CNBC that any of them would make any kind of a statement those last many months of 2008 unleashed a blizzard of sell orders. If the latter two had to go to Congress, same thing, only worse. It has been singularly unedifying to see the people who run the world questioned by the likes of Maxine Waters, Ron Paul, and Bernie Sanders.
The sands ran out of the glass on the hapless Bush administration, and everyone hoped for change. Just the good feeling and positive energy engendered by the new Obama administration would improve the economy in short order, or so I was told by business friends including some Wall Street people.
The Inauguration Address went over like a lead balloon. Big, big sell.
But there were high hopes for the Stimulus Bill . . . until that turned out to be a carnival of wasteful payoffs to favored constituencies, of which capital is emphatically not one. Sell.
The president's first press conference. Surely even his fans can't think this was a great performance. Apart from the oddly angry demeanor, the one takeaway is the he didn't want to steal the thunder of Treasury Secretary Timothy Geithner. Geithner, the indispensable man who had to be confirmed, despite his defects, because he is the career financial policy fixer who lives breathes eats and drinks financial and economic policy, and only he can prevent the ailing system of free market capitalism from falling about our feet. He will have a banking plan for us the next day. Can't steal his thunder.
The finger was on the sell button, but we held back on pressing it.
It turns out there's no thunder! Timothy Geithner may be a career financial and economic policy geek whose entire life has been preparation for the moment. He may have been Treasury Secretary in waiting for many months, during which time he presumably could have given some thought to our systemic issues and what he might like to do to address them. But on the day he had nothing. The indispensable man had no plan. There was some hand waving and some expressions of good intentions. What a disappointment. Big, big sell.
The bank chieftains went to Washington to get punched out by Congress. You knew what to do. It's become routine.
So yesterday we had the housing plan, and a speech by Ben Bernanke at the National Press Club. Bernanke sounded at ease, and very sensible. What do you know . . . these have actually been taken on board without another tsunami of selling. Maybe the capital interests of this country are exhausted, or have put as much into gold and Chinese stocks as they care to for now, or maybe they actually think that socializing the debts of the fiscally unsound is the way to move America forward.
Or maybe they will wait till later in the day. It's early yet.
While I wait, I'll express my hope that everyone in government would reconsider their open mouth policy for a while.
UPDATE: No mistake, they sold it hard in the afternoon. After the close, a few companies blew up, portending more of the same tomorrow.
MORE UPDATES: The selling continued all week, taking the indices down to 1997 levels. In other words, if you have been investing since 1997, you needn't have bothered.
Bear Stearns rescue -- short term relief, after which market sold off hard.
The statements that have followed every one of the Fed's and Treasury's Sunday evening interventions -- short term relief, after which market sold off hard.
Every one of these schemes to expand the type of security they'll take at the Fed window to include S&H green stamps, Pokemon cards, Indian wampum and pocket lint -- short term gain, after which, well, you know.
TARP, TALF . . . barf.
George W. Bush, Ben Bernanke, and Hank Paulson -- just the headline on CNBC that any of them would make any kind of a statement those last many months of 2008 unleashed a blizzard of sell orders. If the latter two had to go to Congress, same thing, only worse. It has been singularly unedifying to see the people who run the world questioned by the likes of Maxine Waters, Ron Paul, and Bernie Sanders.
The sands ran out of the glass on the hapless Bush administration, and everyone hoped for change. Just the good feeling and positive energy engendered by the new Obama administration would improve the economy in short order, or so I was told by business friends including some Wall Street people.
The Inauguration Address went over like a lead balloon. Big, big sell.
But there were high hopes for the Stimulus Bill . . . until that turned out to be a carnival of wasteful payoffs to favored constituencies, of which capital is emphatically not one. Sell.
The president's first press conference. Surely even his fans can't think this was a great performance. Apart from the oddly angry demeanor, the one takeaway is the he didn't want to steal the thunder of Treasury Secretary Timothy Geithner. Geithner, the indispensable man who had to be confirmed, despite his defects, because he is the career financial policy fixer who lives breathes eats and drinks financial and economic policy, and only he can prevent the ailing system of free market capitalism from falling about our feet. He will have a banking plan for us the next day. Can't steal his thunder.
The finger was on the sell button, but we held back on pressing it.
It turns out there's no thunder! Timothy Geithner may be a career financial and economic policy geek whose entire life has been preparation for the moment. He may have been Treasury Secretary in waiting for many months, during which time he presumably could have given some thought to our systemic issues and what he might like to do to address them. But on the day he had nothing. The indispensable man had no plan. There was some hand waving and some expressions of good intentions. What a disappointment. Big, big sell.
The bank chieftains went to Washington to get punched out by Congress. You knew what to do. It's become routine.
So yesterday we had the housing plan, and a speech by Ben Bernanke at the National Press Club. Bernanke sounded at ease, and very sensible. What do you know . . . these have actually been taken on board without another tsunami of selling. Maybe the capital interests of this country are exhausted, or have put as much into gold and Chinese stocks as they care to for now, or maybe they actually think that socializing the debts of the fiscally unsound is the way to move America forward.
Or maybe they will wait till later in the day. It's early yet.
While I wait, I'll express my hope that everyone in government would reconsider their open mouth policy for a while.
UPDATE: No mistake, they sold it hard in the afternoon. After the close, a few companies blew up, portending more of the same tomorrow.
MORE UPDATES: The selling continued all week, taking the indices down to 1997 levels. In other words, if you have been investing since 1997, you needn't have bothered.
Monday, February 16, 2009
NY Fashion Week . . . Not What It Once Was
Just as Wall Street is not merely a street but a designation for the entire far-flung financial world of which it is the center, so Seventh Avenue is not just an avenue but the symbol of the American fashion and retail industry. Wall Street and Seventh Avenue are New York's #1 and #2 major businesses, and they have both fallen on hard times.
A couple of years ago, when Bryant Park wanted to kick out Fashion Week, there was so much lamentation and gnashing of teeth from designers that IMG and Bryant Park had to extend the arrangement. Now, with the economy in the tank, many designers have decided there are better things to do with a few spare hundred thousand dollars than spend them on twenty-minute shows in the tents.
Who has opted not to show in the Bryant Park tents? Carmen Marc Valvo, J. Mendel, Vera Wang, Sass & Bide, Betsey Johnson . . .
This may be all for the best. The excess of NYFW, like the excesses of the industry it showcases, had reached an extreme point. There was too much on the schedule, too much traffic, too many celebrities, too many paparazzi. It was becoming a burden on the people to whom it is supposed to targeted, buyers and editors. Some of them will be glad to get back to viewing collections from committed designers under more suitable conditions.
In the mean time that means less of this:
and this:
Sigh.
A couple of years ago, when Bryant Park wanted to kick out Fashion Week, there was so much lamentation and gnashing of teeth from designers that IMG and Bryant Park had to extend the arrangement. Now, with the economy in the tank, many designers have decided there are better things to do with a few spare hundred thousand dollars than spend them on twenty-minute shows in the tents.
Who has opted not to show in the Bryant Park tents? Carmen Marc Valvo, J. Mendel, Vera Wang, Sass & Bide, Betsey Johnson . . .
This may be all for the best. The excess of NYFW, like the excesses of the industry it showcases, had reached an extreme point. There was too much on the schedule, too much traffic, too many celebrities, too many paparazzi. It was becoming a burden on the people to whom it is supposed to targeted, buyers and editors. Some of them will be glad to get back to viewing collections from committed designers under more suitable conditions.
In the mean time that means less of this:
and this:
Sigh.
Sunday, February 15, 2009
And It Was Not Good
AND it came to pass in those days, that there went out a decree from Caesar Obamus, that all the world should be taxed.
(And this taxing was first made when Corzinus Corruptus was governor of Nova Ieiursii.)
And all went to his own city to be taxed.
And lo, the Stimulus came upon them; and they were sore afraid.
And a chorus of Pelosim descended from on high, and said unto them, Fear not; for I bring a million million simoleons which shall be to some people.
And even unto the ACORNs of the field, who toil not, neither do they spin, but do turn out a heavenly host on election day; unto ACORN shall be two thousand million gold simoleons.
Hosannah in the highest.
(And this taxing was first made when Corzinus Corruptus was governor of Nova Ieiursii.)
And all went to his own city to be taxed.
And lo, the Stimulus came upon them; and they were sore afraid.
And a chorus of Pelosim descended from on high, and said unto them, Fear not; for I bring a million million simoleons which shall be to some people.
And even unto the ACORNs of the field, who toil not, neither do they spin, but do turn out a heavenly host on election day; unto ACORN shall be two thousand million gold simoleons.
Hosannah in the highest.
Saturday, February 14, 2009
No Bailouts for Commercial Real Estate
I heard this news from Diana Olick on CNBC and read the Reuters article about it on forexpros.com -- MIT's Center for Real Estate says commercial real estate prices fell 10% in the fourth quarter of 2008, according to an index they track of sales by institutional investors. But we know real estate is crummy without benefit of indices.
And we know why. Real estate people are always bullish. They never ask whether the office park or regional mall they are building on marginal sites miles from anywhere or right next to existing space that is 80% let is a good idea. If they have money to build, they build. When money was free, developers built mindlessly and sprawl became more than ever a blot on the American landscape, with results you can see. Now financial companies that are retrenching don't need office space, and Circuit City and Linens & Things are two of the chains whose space is going begging.
So real estate people are going begging for their piece of government pork.
This must be resisted.
We think rules for bail-outs have to limit them to industries the failure of which will cause systemic failure for the economy overall, or that employ huge numbers.
Commercial real estate industry does not qualify on either count. If commercial real estate employs half a million people directly, that would be a lot. And if the worst that happens is that the commercial mortgages of loser developers with marginal properties go bad, then that is going to be among the least of the hits the economy takes in the course of this financial crisis. It will not be Armageddon. Lenders will take a haircut; get in line with everyone else. Some viable properties will be taken over and operated by lenders, who are insitutional investors with real estate that they own. Some will be sold on to new investors at low prices that give them an opportunity to profit.
Some may be converted to alternative use, in the same way that a lot of surplus industrial space in Newark and Paterson is used for churches and mosques.
Some, let's face it, can just be abandoned, monuments to greed and stupidity in a bygone era of American economic history.
And we know why. Real estate people are always bullish. They never ask whether the office park or regional mall they are building on marginal sites miles from anywhere or right next to existing space that is 80% let is a good idea. If they have money to build, they build. When money was free, developers built mindlessly and sprawl became more than ever a blot on the American landscape, with results you can see. Now financial companies that are retrenching don't need office space, and Circuit City and Linens & Things are two of the chains whose space is going begging.
So real estate people are going begging for their piece of government pork.
This must be resisted.
We think rules for bail-outs have to limit them to industries the failure of which will cause systemic failure for the economy overall, or that employ huge numbers.
Commercial real estate industry does not qualify on either count. If commercial real estate employs half a million people directly, that would be a lot. And if the worst that happens is that the commercial mortgages of loser developers with marginal properties go bad, then that is going to be among the least of the hits the economy takes in the course of this financial crisis. It will not be Armageddon. Lenders will take a haircut; get in line with everyone else. Some viable properties will be taken over and operated by lenders, who are insitutional investors with real estate that they own. Some will be sold on to new investors at low prices that give them an opportunity to profit.
Some may be converted to alternative use, in the same way that a lot of surplus industrial space in Newark and Paterson is used for churches and mosques.
Some, let's face it, can just be abandoned, monuments to greed and stupidity in a bygone era of American economic history.
Set Rules for Bailouts Now!
If we are giving up free market purism for the duration of the crisis maybe we could at least set rules for bail-outs. These are absolutely necessary. Markets abhor uncertainty, and the ad hocery we have had in the last several months pumps up the uncertainty. It is part of what is killing us -- this one gets rescued on easy terms, this one survives but its shareholders are snuffed, that one is allowed to go under. The sane investor looks at this and says, "I'm out of here."
So Bail-outs should only be considered if:
(1) industry impairment is likely to cause a systemic failure for the economy as a whole.
or
(2) the employment impact of the industry's collapse are unacceptably high.
The financial industry qualifies under (1) -- without a financial system, ATMs have no money, checks don't clear, and we are in the stone age.
The auto industry qualifies under (2) -- not only scores of thousands of Detroit Three employees are wiped out, but also millions more working for the transplants, the dealers, the suppliers who make thousands of the parts that go into vehicles, and in all kinds of jobs in towns across the country where car and parts factories operate.
The snowboard industry does not qualify.
The commercial real estate industry does not qualify.
Larry Flynt and the porn industry do not qualify. The Detroit Lions do not qualify. The City of Philadelphia does not qualify.
So Bail-outs should only be considered if:
(1) industry impairment is likely to cause a systemic failure for the economy as a whole.
or
(2) the employment impact of the industry's collapse are unacceptably high.
The financial industry qualifies under (1) -- without a financial system, ATMs have no money, checks don't clear, and we are in the stone age.
The auto industry qualifies under (2) -- not only scores of thousands of Detroit Three employees are wiped out, but also millions more working for the transplants, the dealers, the suppliers who make thousands of the parts that go into vehicles, and in all kinds of jobs in towns across the country where car and parts factories operate.
The snowboard industry does not qualify.
The commercial real estate industry does not qualify.
Larry Flynt and the porn industry do not qualify. The Detroit Lions do not qualify. The City of Philadelphia does not qualify.
Wednesday, February 11, 2009
Kung Pao Chinese Stocks Ding
I worked in China from 1986-88. People I trained were later instrumental in the establishment of Chinese securities markets. Some of what I did, as theoretical as it seemed then, helped lay a basis for their subsequent development. Before there were Chinese stocks, I owned Chinese bonds. When the first issue of Chinese shares was offered to foreign investors, China Southern Glass in 1991, my company bought in.
I have been involved in modern China’s financial system since before its creation, and stayed involved continuously. So let’s declare biases honestly and note that I am not impartial. I am called a China hand by my Chinese friends, and dismissed as an apologist by . . . others. I’m not a dreamy China head (though I did go through that dreamy China head phase for about three weeks in 1986). I am sharply critical of what I see as deficiencies of their system.
I have been fortunate to make money in Chinese financial markets. Sometimes it has been a simple matter of doing the diametric opposite of whatever the top Wall Street firms advise in their China strategy. But when they have gotten it right and their clients have done well, as during the latest Chinese bull markets, it has been a wonderful thing to see. I’m glad so many people have good success, because in the 90s it sometimes seemed that everyone who ever invested in China lost money and ended up sour on the experience.
Certainly there have been problems that have bedeviled the Chinese markets all these years.
As a nominally communist country, China struggled at first with the very concept of financial markets. When they began to be introduced in the late 80s, they were described as “experimental.” The designation endured for a long time. It is not much of an endorsement, is it? “Welcome Capitalist Roaders to Invest in Our Experimental Markets that We Might Shut Down if We Don’t Like the Way it Goes.”
If markets were purely experimental, the social scientists running the experiment figured they might as well do lots of trials. To that end, the Chinese markets have been finely sliced and diced like Kung Pao Chicken Ding. The authorities set up a Shanghai A share market for local people and a Shanghai B share market for foreigners. Then they replicated the pair in Shenzhen – that’s four venues in China for the trading of Chinese shares. Two classes of Chinese shares, the H shares and the Red Chips, traded in Hong Kong. There were N shares, for which the initial listing was on the NYSE – China Brilliance (CBA), Shandong Huaneng (SH), and Huaneng International (HNP). Later they lost control of the process, and various stray Chinese companies did IPOs in Singapore, Tokyo, Sydney, London, and I lose track of where all else. There has been a major boom in backdoor listings of Chinese companies on junior stock exchanges around the world.
And that’s a big problem – no one can keep track. If I want Italian shares, I pretty much know where to look. If I want Chinese shares, where do I start?
(I met a Chinese market regulator, an executive of the Chinese Securities Regulatory commission, in May 2007 during the raging bull market. He was in a self-congratulatory mood, and invited me to offer congratulations too. I demurred, and instead took the opportunity to point out that their sclerotic regulatory process had prevented too many decent Chinese issuers from doing IPOs in the Chinese markets where home-team investors would most welcome them, sending them instead to go for Rube-Goldberg RTO and SPAC listings on junior stock exchanges abroad where they would struggle to gain a following or a fair valuation.)
The B share markets in particular became bogged down in a morass of low liquidity and poor quality. There were a few corporate governance issues. Many foreign institutions believed that the Chinese securities market experiment was designed to let the Chinese government move garbage off its books into foreign portfolios. I have had big investors tell me with a straight face that they assumed the Chinese meant to hose them.
Some of the international stock offerings have had that effect, but I don’t believe it was ever intentional or malicious. The Chinese thought they would impress us by making their biggest enterprises available to us – their giant steelworks, shipyards, and petrochemical complexes. It turns out that bigger is not better. The social burdens on these cities-within-factory were hard to lift.
It can be quantitatively proven that the closer a share gets to the domestic Chinese investor the better the average quality, if such a concept can be distilled from growth rates and balance sheet items. H shares that do not also list A shares are worse than H shares that do, and A shares that do not issue any class of share to foreigners are of the best quality. I have done the work on this. I’ll report the research in this space shortly.
More than one fund manager has rejected my research finding, without offering to rework the numbers. But the alternative is to believe that they have sold us better stuff than they sold themselves. Does that make sense to you? No, it is intuitively hard to accept. It could not be, because whole attractive parts of the Chinese economy, including retail/wholesale trade and part of the telecom and media space, have been off limits to foreign investment in the past or even now. That alone would raise the quality of the average domestic Chinese share, and it has nothing to do with the Chinese government going out of its way to dump its garbage on foreigners.
If you run an international mutual fund, then the Chinese markets are just one part of your opportunity set. Given that they are sliced and diced beyond comprehension and riddled with pockets of low liquidity and poor quality, you could always make the case that it’s more bother than it’s worth.
But if you are a domestic Chinese saver, then Chinese A shares are a huge part of your opportunity set. As a Chinese investor, what alternatives do you have? Interest rates on bank deposits have been reduced from 24% to very, very small, bonds are not popular, and real estate is relatively illiquid. And some of the stocks in the opportunity set are really good after all.
For most of the time, this fact has eluded detection by the so-called experts of Wall Street, who have not generally examined domestic Chinese shares as long as they remained off-limits to their international clientele. But one feature of this latest bull market has been that some foreign investors are gaining access to the domestic Chinese opportunity set, while some Chinese investors are venturing abroad. That means Chinese investors, at least the biggest exemplars of the breed, are now clients of Wall Street, and Wall Street had to open its mind and its eyes and assign some analysts to take a look at the A shares.
Formerly, when the A share markets have gone crazy on the upside every once in a while, the foreign brokers who ostensibly “cover” Chinese markets have had nothing to say. These periodic bull moves have been totally incomprehensible to them. Don’t they just prove how stupid and gullible the Chinese individual investor is? Well, no . . . there has been another obvious conclusion, but these foreigners have not always had enough information to arrive at it. That conclusion is: some domestic shares are good, and there is a time and place to buy them, if you can.
China is complicated. More than once I have had to argue with analysts over points of fact – not opinion, fact -- arguments of the Kafkaesque “Black is white” variety. Well, the facts are sometimes obscure. So who does Wall Street send to deal with this most confusing and delicate market? Often its youngest, least experienced, least capable analysts, of course! Since China is relatively speaking a small part of the global opportunity set, why send a top gun analyst? You need that guy back in Hongkong to write the thirtieth report this week on HSBC.
So what is changing these problems? The passage of time. The action of price, making China a bigger piece of global market capitalization, bringing in more investors in the good times and lately attracting more critical scrutiny in the bad. How about regulation? The financial markets’ place in modern China is not the subject of an experiment anymore. They are clearly here to stay. With this belated acceptance the worst of the slicing and dicing should be undone. Short of allowing A and B share markets to merge, the regulators can easily allow domestic investors to gain access to B and H shares and expand foreigners’ access to A shares. My sense is that China emerges from the current global financial crisis with its relative position enhanced compared to other economic players. It has national savings, it has surpluses, it can adjust policy at short notice. Sclerosis now is a bigger problem for the developed west.
I still hope for root and branch restructuring of the regulatory system that allows these changes and many others to come more quickly. But my CSRC official as well as many other Chinese advise me not to hold my breath. Even though it is a relatively new bureaucracy, it is still a bureaucracy, and an entrenched, calcified one at that.
I have been involved in modern China’s financial system since before its creation, and stayed involved continuously. So let’s declare biases honestly and note that I am not impartial. I am called a China hand by my Chinese friends, and dismissed as an apologist by . . . others. I’m not a dreamy China head (though I did go through that dreamy China head phase for about three weeks in 1986). I am sharply critical of what I see as deficiencies of their system.
I have been fortunate to make money in Chinese financial markets. Sometimes it has been a simple matter of doing the diametric opposite of whatever the top Wall Street firms advise in their China strategy. But when they have gotten it right and their clients have done well, as during the latest Chinese bull markets, it has been a wonderful thing to see. I’m glad so many people have good success, because in the 90s it sometimes seemed that everyone who ever invested in China lost money and ended up sour on the experience.
Certainly there have been problems that have bedeviled the Chinese markets all these years.
As a nominally communist country, China struggled at first with the very concept of financial markets. When they began to be introduced in the late 80s, they were described as “experimental.” The designation endured for a long time. It is not much of an endorsement, is it? “Welcome Capitalist Roaders to Invest in Our Experimental Markets that We Might Shut Down if We Don’t Like the Way it Goes.”
If markets were purely experimental, the social scientists running the experiment figured they might as well do lots of trials. To that end, the Chinese markets have been finely sliced and diced like Kung Pao Chicken Ding. The authorities set up a Shanghai A share market for local people and a Shanghai B share market for foreigners. Then they replicated the pair in Shenzhen – that’s four venues in China for the trading of Chinese shares. Two classes of Chinese shares, the H shares and the Red Chips, traded in Hong Kong. There were N shares, for which the initial listing was on the NYSE – China Brilliance (CBA), Shandong Huaneng (SH), and Huaneng International (HNP). Later they lost control of the process, and various stray Chinese companies did IPOs in Singapore, Tokyo, Sydney, London, and I lose track of where all else. There has been a major boom in backdoor listings of Chinese companies on junior stock exchanges around the world.
And that’s a big problem – no one can keep track. If I want Italian shares, I pretty much know where to look. If I want Chinese shares, where do I start?
(I met a Chinese market regulator, an executive of the Chinese Securities Regulatory commission, in May 2007 during the raging bull market. He was in a self-congratulatory mood, and invited me to offer congratulations too. I demurred, and instead took the opportunity to point out that their sclerotic regulatory process had prevented too many decent Chinese issuers from doing IPOs in the Chinese markets where home-team investors would most welcome them, sending them instead to go for Rube-Goldberg RTO and SPAC listings on junior stock exchanges abroad where they would struggle to gain a following or a fair valuation.)
The B share markets in particular became bogged down in a morass of low liquidity and poor quality. There were a few corporate governance issues. Many foreign institutions believed that the Chinese securities market experiment was designed to let the Chinese government move garbage off its books into foreign portfolios. I have had big investors tell me with a straight face that they assumed the Chinese meant to hose them.
Some of the international stock offerings have had that effect, but I don’t believe it was ever intentional or malicious. The Chinese thought they would impress us by making their biggest enterprises available to us – their giant steelworks, shipyards, and petrochemical complexes. It turns out that bigger is not better. The social burdens on these cities-within-factory were hard to lift.
It can be quantitatively proven that the closer a share gets to the domestic Chinese investor the better the average quality, if such a concept can be distilled from growth rates and balance sheet items. H shares that do not also list A shares are worse than H shares that do, and A shares that do not issue any class of share to foreigners are of the best quality. I have done the work on this. I’ll report the research in this space shortly.
More than one fund manager has rejected my research finding, without offering to rework the numbers. But the alternative is to believe that they have sold us better stuff than they sold themselves. Does that make sense to you? No, it is intuitively hard to accept. It could not be, because whole attractive parts of the Chinese economy, including retail/wholesale trade and part of the telecom and media space, have been off limits to foreign investment in the past or even now. That alone would raise the quality of the average domestic Chinese share, and it has nothing to do with the Chinese government going out of its way to dump its garbage on foreigners.
If you run an international mutual fund, then the Chinese markets are just one part of your opportunity set. Given that they are sliced and diced beyond comprehension and riddled with pockets of low liquidity and poor quality, you could always make the case that it’s more bother than it’s worth.
But if you are a domestic Chinese saver, then Chinese A shares are a huge part of your opportunity set. As a Chinese investor, what alternatives do you have? Interest rates on bank deposits have been reduced from 24% to very, very small, bonds are not popular, and real estate is relatively illiquid. And some of the stocks in the opportunity set are really good after all.
For most of the time, this fact has eluded detection by the so-called experts of Wall Street, who have not generally examined domestic Chinese shares as long as they remained off-limits to their international clientele. But one feature of this latest bull market has been that some foreign investors are gaining access to the domestic Chinese opportunity set, while some Chinese investors are venturing abroad. That means Chinese investors, at least the biggest exemplars of the breed, are now clients of Wall Street, and Wall Street had to open its mind and its eyes and assign some analysts to take a look at the A shares.
Formerly, when the A share markets have gone crazy on the upside every once in a while, the foreign brokers who ostensibly “cover” Chinese markets have had nothing to say. These periodic bull moves have been totally incomprehensible to them. Don’t they just prove how stupid and gullible the Chinese individual investor is? Well, no . . . there has been another obvious conclusion, but these foreigners have not always had enough information to arrive at it. That conclusion is: some domestic shares are good, and there is a time and place to buy them, if you can.
China is complicated. More than once I have had to argue with analysts over points of fact – not opinion, fact -- arguments of the Kafkaesque “Black is white” variety. Well, the facts are sometimes obscure. So who does Wall Street send to deal with this most confusing and delicate market? Often its youngest, least experienced, least capable analysts, of course! Since China is relatively speaking a small part of the global opportunity set, why send a top gun analyst? You need that guy back in Hongkong to write the thirtieth report this week on HSBC.
So what is changing these problems? The passage of time. The action of price, making China a bigger piece of global market capitalization, bringing in more investors in the good times and lately attracting more critical scrutiny in the bad. How about regulation? The financial markets’ place in modern China is not the subject of an experiment anymore. They are clearly here to stay. With this belated acceptance the worst of the slicing and dicing should be undone. Short of allowing A and B share markets to merge, the regulators can easily allow domestic investors to gain access to B and H shares and expand foreigners’ access to A shares. My sense is that China emerges from the current global financial crisis with its relative position enhanced compared to other economic players. It has national savings, it has surpluses, it can adjust policy at short notice. Sclerosis now is a bigger problem for the developed west.
I still hope for root and branch restructuring of the regulatory system that allows these changes and many others to come more quickly. But my CSRC official as well as many other Chinese advise me not to hold my breath. Even though it is a relatively new bureaucracy, it is still a bureaucracy, and an entrenched, calcified one at that.
Tuesday, February 10, 2009
Louis Vuitton in Shenyang, China at night
Yep, that's their store.
This would be the same China that Peter Morici called the most protectionist country in the history of the world.
This would be the same China that Peter Morici called the most protectionist country in the history of the world.
Friday, February 6, 2009
Conformity to Chinese Practice
On a message thread about manufacturing in China, someone said the usual thing about Chinese disregarding our patents and ripping off our IP. No doubt this is a problem. Let's remember, though: the main thing patents & copyrights confer is a right to sue, which is minimal protection from a determined infringer whether in China, America, or wherever.
Coming out of this economic crisis, I am thinking that we will are going to be adjusting ourselves to Chinese ways of doing business more than we think. Their movement toward conformity with our practice on IP and other things has probably gone as far as it will for now. In China they have the surpluses, and we in the U.S. with our deficits are going to them cap in hand.
Already I get from my Chinese partners the confidence in their own ways that the Japanese exhibited at their peak in the 80s: "Why should we listen to you? Look at the bad situation you're in."
As far as IP theft is concerned, I have mixed feelings. Historically Americans have not always been on the side of the angels: Dickens notoriously had trouble getting paid for his books in the US. Funny how becoming the major producer of IP has turned us so righteous about IPR.
I love the story about English and Chinese potters learning from each other by copying each other in the 17th century. The English copied the Chinese, the Chinese thought the copies were great and they copied the copies, and so on, to the enrichment of both sides'production.
And the Chinese have a respectable tradition of copying going back to the Han dynasty. After the Qin destroyed all the written literature of the country, Han scribes set about recovering by copying the remnants.
In our world, there is so much sampling in music and visual arts that, anyway, originality belongs in quotes.
Coming out of this economic crisis, I am thinking that we will are going to be adjusting ourselves to Chinese ways of doing business more than we think. Their movement toward conformity with our practice on IP and other things has probably gone as far as it will for now. In China they have the surpluses, and we in the U.S. with our deficits are going to them cap in hand.
Already I get from my Chinese partners the confidence in their own ways that the Japanese exhibited at their peak in the 80s: "Why should we listen to you? Look at the bad situation you're in."
As far as IP theft is concerned, I have mixed feelings. Historically Americans have not always been on the side of the angels: Dickens notoriously had trouble getting paid for his books in the US. Funny how becoming the major producer of IP has turned us so righteous about IPR.
I love the story about English and Chinese potters learning from each other by copying each other in the 17th century. The English copied the Chinese, the Chinese thought the copies were great and they copied the copies, and so on, to the enrichment of both sides'production.
And the Chinese have a respectable tradition of copying going back to the Han dynasty. After the Qin destroyed all the written literature of the country, Han scribes set about recovering by copying the remnants.
In our world, there is so much sampling in music and visual arts that, anyway, originality belongs in quotes.
Thursday, February 5, 2009
Trade Restrictions? Won't Help You
The administration, the managed-trade segment of the policy establishment, and the labor unions should consider the experience of the auto industry. General Motors, Ford and Chrysler strong-armed Japan’s auto industry to accept voluntary export restraints (VERs) in the mid-80s. The results of the VERs are named Lexus, Acura, and Infiniti. The Japanese motor industry drove up-market and developed an unassailable reputation for superior quality, not only in their luxury marques but across their full lines. Meanwhile the market share of U.S. motor nameplates dropped from 74% in 1985 to barely 60% in 2004 in spite of the VERs. Now it is worse, and one or more of Detroit’s former big three may not survive.
VERs made negligible difference to Detroit's rate of market share erosion. Take a look market share data from 1970 through 2004 (Sources - US Dept. of Commerce, Ward’s Automotive Yearbook, D H Smith):
VERs made negligible difference to Detroit's rate of market share erosion. Take a look market share data from 1970 through 2004 (Sources - US Dept. of Commerce, Ward’s Automotive Yearbook, D H Smith):
Beat up trade partners over exchange rates? No!
American trading experience with Japan shows there’s much more to trade balances than just the exchange rate, and beating up trading partners over exchange rates is useless. In 1985, the Japanese yen traded at 250 to the dollar, and Japan ran a $46 billion surplus with America. In spite of billions wasted by the Bank of Japan in costly and ineffectual currency market intervention between 1985 and 2005, the value of the yen more than doubled to 109 per dollar. During the same two decades, Japanese industry suffered barriers against its motorcycles, semiconductors, and steel in the U.S. market, accepted voluntary export restraints on cars, and localized production in America through its investments of over $100 billion. Neither the huge currency appreciation, nor the restraints on trade, nor the transplanting of Japanese industry stateside prevented Japan’s trade surplus with the U.S. from rising to $75 billion by 2004.
(Source: US Dept. of Commerce, DH Smith)
Consider America’s trade deficit with China – it certainly is growing, having quadrupled between 1996 and 2004. Note that this was a period during which the dollar/renminbi exchange rate was stable to within 1.1%. During the exact same period, the Mexican peso declined by about one-third against the dollar. If the exchange rate were the principal factor in relative competitiveness, we might expect Mexico’s export performance in the United States market to be better than China’s. In fact, Mexico did increase its surplus by a factor of three — a strong performance, but not as strong as China’s.
(Source: US Dept. of Commerce, DH Smith)
Consider America’s trade deficit with China – it certainly is growing, having quadrupled between 1996 and 2004. Note that this was a period during which the dollar/renminbi exchange rate was stable to within 1.1%. During the exact same period, the Mexican peso declined by about one-third against the dollar. If the exchange rate were the principal factor in relative competitiveness, we might expect Mexico’s export performance in the United States market to be better than China’s. In fact, Mexico did increase its surplus by a factor of three — a strong performance, but not as strong as China’s.
Wednesday, February 4, 2009
Saul Alinsky, Rules for Radicals
The local Barnes and Noble had a big display of Saul Alinsky's Rules for Radicals on a table.
It took a lot of effort to resist the urge to liberate some copies.
(DISCLAIMER: We do not recommend shoplifting or other crimes.)
It took a lot of effort to resist the urge to liberate some copies.
(DISCLAIMER: We do not recommend shoplifting or other crimes.)
Harry Markopolous flays the SEC
It is damning stuff. Root and branch restructuring is coming soon to the SEC.
Tuesday, February 3, 2009
Protect Environment Saving Bumf
Dude, that's just what I was thinking. We have to save that bumf.
(Airport, Jinan, China)
Saturday, January 31, 2009
Banking for Smart People who aren't Bankers
Those "For Dummies" books and "Complete Idiots Guides" always rubbed me the wrong way. Who buys this stuff? "Hey, I'm a complete idiot, that's for me!" Uh-uh. You're smart and so am I. So let's talk about banking. I'd like you to understand, in simple terms, what's going on when they build a pyre of French antique commodes where Nassau runs into Broad at the corner of Wall Street and start burning bankers alive.
For the show trials they are a'comin. There is a lot of outrage that Uncle Sugar has provided bank capital and weeks later those damned banks are still not lending it. Well, let's examine that.
Basic banking is just a little more complicated than regular industrial enterprises. In a regular industrial enterprise the raw material is, say, habanero peppers and the end product after some processing is hot sauce. For a basic bank, the raw material is money and the end product, after no real processing, is also money.
So an investor -- you remember investors, right? they used to have money to invest -- an investor or investor group gets a bank charter, puts capital in to capitalize their bank, and opens for business. The bank charter allows the bank to take deposits and make loans. The bank loans its deposits. It does not loan its capital. Its capital sits in the vault.
That sets up popular misconception number 1: that having new capital from Uncle Sugar, banks should be lending it. No they shouldn't.
Banking regulations permit banks to lend out up to twelve times their capital.
What about deposits? Simple, plain vanilla banking is taking in deposits, and making loans. The bank pays as little interest as it can on deposits, and charges as much interest as it can on loans (plus points, fees, service charges, and whatever else it can get away with). The difference between interest and fees charged on loans and interest paid on deposits is profit.
The limit on the bank's lending is capital, not loans. If the bank wants to grow, that is to lend more, it needs more capital. A bank that lends less than its capital would permit is considered a conservative bank -- it has a capital surplus backstopping and its lending activities.
As for loans and deposits, the bank can lend out less than it takes in, the same amount as it takes in, or more than it takes in. If it lends out less to regular borrowers than it takes in from depositors, that excess doesn't sit in the vault. The bank buys bonds -- corporate bonds, government bonds, mortgage bonds, whatever. (A bond is just a loan in the form of a security.) If the bank wants to lend out more than it actually has from depositors, it can bid for deposits by raising the interest it pays, it may be able to borrow from the Federal Reserve, or it can borrow from other banks in a huge inter-bank market. Have you been hearing anxious talk about LIBOR, and not knowing what that is? LIBOR is the London Inter-Bank Offer Rate, a rate at which banks commonly lend to each other on a short-term basis.
Banking is a great business . . . you make a margin between what you give and what you receive. It is not a large margin as a percent of the loans and deposits, but because those are a multiple of capital, the returns on capital are large. Or they should be. But then there are losses.
Losses. Ugh. Banks expect that a small percentage of the loans they make to go bad. Some borrowers just get in trouble, some are crooks who never intended to pay back. In that case the bank forecloses on the house or repos the car, and takes what it can recover.
What the bank never expected was that so many of the mortgage bonds would go bad. Those bonds were supposed to be safe. Isn't that why Moody's and S&P put their great triple-A ratings on them?
So the bank looks at its loans and its bonds, and instead of a profitable portfolio it has bad loans, loans in collection, real estate on its own books losing value while no one maintains it and lawyers fight over it, and triple-A rated mortgage bonds in default. These losses are reported on the Profit and Loss Statement, and also charged against capital on the Balance Sheet.
Capital. You remember capital. Capital limits the loans that the bank can make. If the bank loses capital, it loses lending capacity. It can lend less to borrowers. Loan limits get cut. Lines get called, or not renewed.
When you multiply this effect by ten thousand banks across the national economy, you get a liquidity crunch and the economy judders to crawl almost immediately. You probably remember when it happened this time around: it was right around the day when Lehman Brothers went belly-up and we all realized how bad things were. We held our wallets closer, and stopped opening them for discretionary purchases. The economic motor slowed as if its power cord were yanked from the wall socket.
Banks can lend less, but with individuals and businesses cleaving tightly to their wallets, borrowers want to borrow even less. This answers popular misconception number 2: with new capital from Uncle Sugar, banks' capital is not constraining lending and liquidity should immediately re-form in loan markets. No it shouldn't. At this point the problem is not so much supply of loans. It is demand for loans.
With the economy slow and uncertain, everyone pulls back. If unemployment is rising, jobs are scarce, pay raises are hard to come by (and bonuses are made illegal by Acts of Congress), it is absolutely rational behavior for consumers to cut back on their use of credit. If business opportunities are thin on the ground and companies lack confidence, it is absolutely rational for business owners to hunker down, defer capital projects and try to cut back their demand for working capital.
There are some complications that I haven't got into here. I have tipped my hat to the ratings agencies, who have screwed up big time. I believe the standards-setting organizations for accounting and auditing have made this situation worse than it it needs to be by forcing banks to recognize losses too early on loans that can be worked out, crushing their capital. I have not talked about the Federal Reserve, the operations of which influence the price and availability of money.
What is the cure? I just alluded to part of the cure, it is that which cures all ills -- time. Given time, banks can work out of losses on many bad assets. Given time, individuals and business owners will regain confidence and begin to demand loans again.
Next, price. The Federal Reserve has hooked up the economy the a veritable firehose of liquidity and reduced the price to about zero. That lets banks cut their lending rates to levels that bring back prospective borrowers and yet still allows them to make a great margin.
Also, money. Banks are being recapitalized as the leaders of the industry and government figure out how to deal with the upsurge in bad loans. It is not only government money coming in to recapitalize banks, but also private capital that banks call upon from those that still have it. This also takes time (see above).
Hang in there. It gets better.
For the show trials they are a'comin. There is a lot of outrage that Uncle Sugar has provided bank capital and weeks later those damned banks are still not lending it. Well, let's examine that.
Basic banking is just a little more complicated than regular industrial enterprises. In a regular industrial enterprise the raw material is, say, habanero peppers and the end product after some processing is hot sauce. For a basic bank, the raw material is money and the end product, after no real processing, is also money.
So an investor -- you remember investors, right? they used to have money to invest -- an investor or investor group gets a bank charter, puts capital in to capitalize their bank, and opens for business. The bank charter allows the bank to take deposits and make loans. The bank loans its deposits. It does not loan its capital. Its capital sits in the vault.
That sets up popular misconception number 1: that having new capital from Uncle Sugar, banks should be lending it. No they shouldn't.
Banking regulations permit banks to lend out up to twelve times their capital.
What about deposits? Simple, plain vanilla banking is taking in deposits, and making loans. The bank pays as little interest as it can on deposits, and charges as much interest as it can on loans (plus points, fees, service charges, and whatever else it can get away with). The difference between interest and fees charged on loans and interest paid on deposits is profit.
The limit on the bank's lending is capital, not loans. If the bank wants to grow, that is to lend more, it needs more capital. A bank that lends less than its capital would permit is considered a conservative bank -- it has a capital surplus backstopping and its lending activities.
As for loans and deposits, the bank can lend out less than it takes in, the same amount as it takes in, or more than it takes in. If it lends out less to regular borrowers than it takes in from depositors, that excess doesn't sit in the vault. The bank buys bonds -- corporate bonds, government bonds, mortgage bonds, whatever. (A bond is just a loan in the form of a security.) If the bank wants to lend out more than it actually has from depositors, it can bid for deposits by raising the interest it pays, it may be able to borrow from the Federal Reserve, or it can borrow from other banks in a huge inter-bank market. Have you been hearing anxious talk about LIBOR, and not knowing what that is? LIBOR is the London Inter-Bank Offer Rate, a rate at which banks commonly lend to each other on a short-term basis.
Banking is a great business . . . you make a margin between what you give and what you receive. It is not a large margin as a percent of the loans and deposits, but because those are a multiple of capital, the returns on capital are large. Or they should be. But then there are losses.
Losses. Ugh. Banks expect that a small percentage of the loans they make to go bad. Some borrowers just get in trouble, some are crooks who never intended to pay back. In that case the bank forecloses on the house or repos the car, and takes what it can recover.
What the bank never expected was that so many of the mortgage bonds would go bad. Those bonds were supposed to be safe. Isn't that why Moody's and S&P put their great triple-A ratings on them?
So the bank looks at its loans and its bonds, and instead of a profitable portfolio it has bad loans, loans in collection, real estate on its own books losing value while no one maintains it and lawyers fight over it, and triple-A rated mortgage bonds in default. These losses are reported on the Profit and Loss Statement, and also charged against capital on the Balance Sheet.
Capital. You remember capital. Capital limits the loans that the bank can make. If the bank loses capital, it loses lending capacity. It can lend less to borrowers. Loan limits get cut. Lines get called, or not renewed.
When you multiply this effect by ten thousand banks across the national economy, you get a liquidity crunch and the economy judders to crawl almost immediately. You probably remember when it happened this time around: it was right around the day when Lehman Brothers went belly-up and we all realized how bad things were. We held our wallets closer, and stopped opening them for discretionary purchases. The economic motor slowed as if its power cord were yanked from the wall socket.
Banks can lend less, but with individuals and businesses cleaving tightly to their wallets, borrowers want to borrow even less. This answers popular misconception number 2: with new capital from Uncle Sugar, banks' capital is not constraining lending and liquidity should immediately re-form in loan markets. No it shouldn't. At this point the problem is not so much supply of loans. It is demand for loans.
With the economy slow and uncertain, everyone pulls back. If unemployment is rising, jobs are scarce, pay raises are hard to come by (and bonuses are made illegal by Acts of Congress), it is absolutely rational behavior for consumers to cut back on their use of credit. If business opportunities are thin on the ground and companies lack confidence, it is absolutely rational for business owners to hunker down, defer capital projects and try to cut back their demand for working capital.
There are some complications that I haven't got into here. I have tipped my hat to the ratings agencies, who have screwed up big time. I believe the standards-setting organizations for accounting and auditing have made this situation worse than it it needs to be by forcing banks to recognize losses too early on loans that can be worked out, crushing their capital. I have not talked about the Federal Reserve, the operations of which influence the price and availability of money.
What is the cure? I just alluded to part of the cure, it is that which cures all ills -- time. Given time, banks can work out of losses on many bad assets. Given time, individuals and business owners will regain confidence and begin to demand loans again.
Next, price. The Federal Reserve has hooked up the economy the a veritable firehose of liquidity and reduced the price to about zero. That lets banks cut their lending rates to levels that bring back prospective borrowers and yet still allows them to make a great margin.
Also, money. Banks are being recapitalized as the leaders of the industry and government figure out how to deal with the upsurge in bad loans. It is not only government money coming in to recapitalize banks, but also private capital that banks call upon from those that still have it. This also takes time (see above).
Hang in there. It gets better.
Friday, January 30, 2009
Will Exxon Apologize? Who will be first to denounce XOM?
AP Headline: "Exxon Mobil shatters US record for annual profit". Published Friday January 30, 8:32 am ET. See it here.
"Where is the outrage?"
"Where is the outrage?"
Thursday, January 29, 2009
If you take their money you will take their direction
President Obama took another shot at Wall Street today. "I saw an article today that indicated Wall Street bankers had given themselves $20 billion worth of bonuses. That is the height of irresponsibility. It is shameful."
We are uneasy about the anti-business tone being taken by the new administration and Congress. There's a ready market for this kind of populism, but after the bankers are burned alive on pyres of corporate jets and commodes, the economy catches no rise thereby.
American businesspeople are facing a world in which all their contracts and undertakings are examined line-by-line by government officials, second-guessed by PIRGs, NGOS, and the media (which is doing such a bang-up job managing its own affairs after all), and subjected to subpoena or prosecution by career-making politicians.
To advance themselves, they will not scruple to destroy you.
If you take their money, you will have to take their direction. Simple as that.
We are uneasy about the anti-business tone being taken by the new administration and Congress. There's a ready market for this kind of populism, but after the bankers are burned alive on pyres of corporate jets and commodes, the economy catches no rise thereby.
American businesspeople are facing a world in which all their contracts and undertakings are examined line-by-line by government officials, second-guessed by PIRGs, NGOS, and the media (which is doing such a bang-up job managing its own affairs after all), and subjected to subpoena or prosecution by career-making politicians.
To advance themselves, they will not scruple to destroy you.
If you take their money, you will have to take their direction. Simple as that.
Monday, January 26, 2009
Subscribe to:
Posts (Atom)
