This weekend's Wall Street Journal profiled a Texas fund manager, Donald Hodges, amidst the recent ruin of his investment strategy. It highlights a common myth that several friends have expressed to me lately. Simply stated, the belief is,
'I know the market, and my funds, fell sharply last year. But, eventually, the funds I own will come back...won't they? The market will surely regain its losses in time, so my funds will, too. Right?'
Not necessarily.
The article begins,
"For many years, Donald Hodges ran one of the top-rated stock-focused mutual funds in the country. He also has lost money for his investors over the past decade.
A $10,000 investment in Hodges Fund made 10 years ago would be worth around $9,015 today, compared with $7,720 if it was invested in the Standard & Poor's 500-stock index. Years of stellar performance were wiped out by a 49.5% plunge in 2008, a much steeper fall than the S&P, and a 11% drop so far this year."
From various pieces of information in the piece, it's clear that Hodges is a qualitative, seat-of-the-pants type manager. He doesn't seem to employ any tools to assess whether he should be long, or short in regard to equities. The article continued,
"He has become more cautious in his new stock picks, leery about buying until he is sure they are unlikely to blow up.
The "go-anywhere" Hodges Fund -- Donald Hodges invests in both value and growth issues, and ranges from small- to large-market capitalizations -- was founded in 1992 and rose to $750 million in assets by early last year. But now it is one-third that size, thanks to the brutal decline and outflows of around $31 million for the first two months of this year.
In the first half of 2008, even as the broad market fell, Hodges Fund held up relatively better because it had few financials. In the summer, Mr. Hodges took time off for an investors' cruise to Asia. He received a daily update on the fund portfolios via faxes and emails.
But after the collapse of Lehman Brothers Holdings Inc. in September, several of his fund holdings were hit hard. Mr. Hodges figured it was a buying opportunity -- a strategy that had worked well for him coming out of the 1982 and 1987 market slumps."
I found this to be just amazing. And very indicative of subjective equity managers. Without well-reasoned, defensible metrics, Hodges just felt that the fall of last year looked a lot like prior equity markets, so he started buying.
"He bought some cheap shares that he thought would hold up. One was Cal-Maine Foods Inc., a large producer and distributor of eggs. Wrong move. That stock has dropped 42% since September.
"You have to be somewhat forgiving of yourself, and realize that over a period of time you've done well," Mr. Hodges says. "And that day will return again." "
That last statement is so desperate. How can Hodges possibly know if his subjective approach will ever work again?
I have friends who, from the other side of the table, fervently want to believe the same thing. They have holdings in a disparate collection of equity mutual funds which have just been crushed in the past twelve months. They want to believe that, in concert with a hoped-for return to an S&P of 1400, their own funds will also rise.
They just don't realize how unrealistic such a hope is. Like Hodges, many of these other qualitative managers are now at sea in a very different market. We are experiencing the largest deleveraging of the past several decades, if not since the 1930s, as well as a serious recession. How anyone with a purely subjective method for selecting equities would know what to do in these conditions is beyond me.
But, as my business partner constantly reminds me, people like stories. Stories with happy endings, no matter how fictive they may be.
So investors cling to shares of mutual funds they have held for years, despite the fact that while, in an average year, 25% of mutual funds can beat the S&P, it is typically a different 25% each year. Public mutual fund managers are notoriously inconsistent in their results.
Will Hodges ever return to his prior portfolio returns? Who knows? Frankly, it's doubtful. As it is, the Journal piece notes that Hodges' fund was Lipper's best 5-year fund in that category for three years. That's a pretty narrow timeframe of outperformance, isn't it?
Multiply the Hodges story a few thousand times, and you have a pretty good picture of the equity management sector right now.
That is, failed managers, taken by surprise, desperately clinging to hope that they can reproduce whatever short period of market outperformance they once exhibited during the last few decades' largely up market on the back of expanding private leverage.
Tuesday, March 31, 2009
Monday, March 30, 2009
Rick Wagoner's Ouster
I've written my share, or more, of posts criticizing GM's recently-ousted CEO, Rick Wagoner.
And I don't like to mix politics with business on this blog.
But this weekend's firing of GM CEO Wagoner by the head of one of the firm's creditor's, the US federal government, breaks new ground. So I believe it needs to be addressed.
The accompanying price chart for GM and the S&P500 Index since 1962 paints a very sobering picture for the auto maker. In non-deflated dollars, the company's stock price peaked in 2000, but, in real terms, obviously much, much earlier.
Since Wagoner's assumption of the CEO title, GM's market value has headed straight downhill.
I've railed for years against GM's horrible senior management and ineffectual board of directors. I have argued for years that Wagoner should go.
But not because the president of the US, which is not even the largest creditor of the company, says so.
However, even Wagoner's dismissal by a minor creditor, is not the most troubling news related to GM today.
No, that would be the US president's contentions, as expressed in his remarks about GM this morning. It's evidently too recent to find a YouTube clip of the appearance, so my text will have to suffice.
Disturbingly, the president of our country unilaterally declared that:
-GM is too old and important to fail.
-Management is to blame, but workers are not.
-Federal money will be spent to save/create auto jobs in the communities affected by GM's troubles.
-GM will not be put through a normal Chapter 11 bankruptcy.
-After being 'fixed,' GM will rise to success once again.
No mention was made of the UAW's role in this through its exorbitant demands. Nor was Ron Gettelfinger's resignation as head of the UAW demanded by our government.
Further, our president, oddly for an attorney, provided evidence of his ignorance of what a Chapter 11 filing entails. He claimed that such a filing would result in dissolution of GM and the sale of its operations, which would also shut down.
This is simply false.
So now we have an ultimate government taking. At least with AIG, the federal government became the owner of the firm, albeit at gunpoint, and has since called the shots.
At GM, it's not an owner, but a relatively minor creditor. And should have no particular stake in the outcome of the firm. Markets are supposed to do that.
Instead, we have a near-Rooseveltian step by government into the restructuring of the auto sector. Chrysler was judged unworthy of further investment, unless it completes its pending merger with Fiat. GM has been deemed worthy of saving, but, obviously, because of the UAW jobs involved.
And those jobs, and the contracts under which they exist, will not be subject to a court-appointed bankruptcy trustee. No, the government has charged management alone with guilt in GM's failures.
The nature and extent of the federal government seizure of control of GM, using a comparatively small operating loan as the basis for its thuggery, is disturbing.
But perhaps this could have been avoided if, as I wrote half-jokingly, this post were true. Had Armando Codina been replaced by a competent board member, along with most of the rest of GM's board, perhaps this act of government seizure could have been avoided.
My business partner and I have discussed my strong belief in the necessary of death of corporations which cease to serve shareholders well. It is, admittedly, a very robust version of Schumpeterian dynamics. But this latest act in the melodrama that is GM proves my point.
Far better for the private sector to look after its own interests, shutting weak, ailing firms, than to await politically-motivated government meddling.
GM could have gone quietly, with some parts sold, others closed. Now, it's going to be forced to continue life as a money-losing "green" car maker, taking orders from Washington.
Truly, a far more ignominious end for the once-proud and profitable car maker.
And I don't like to mix politics with business on this blog.
But this weekend's firing of GM CEO Wagoner by the head of one of the firm's creditor's, the US federal government, breaks new ground. So I believe it needs to be addressed.The accompanying price chart for GM and the S&P500 Index since 1962 paints a very sobering picture for the auto maker. In non-deflated dollars, the company's stock price peaked in 2000, but, in real terms, obviously much, much earlier.
Since Wagoner's assumption of the CEO title, GM's market value has headed straight downhill.
I've railed for years against GM's horrible senior management and ineffectual board of directors. I have argued for years that Wagoner should go.
But not because the president of the US, which is not even the largest creditor of the company, says so.
However, even Wagoner's dismissal by a minor creditor, is not the most troubling news related to GM today.
No, that would be the US president's contentions, as expressed in his remarks about GM this morning. It's evidently too recent to find a YouTube clip of the appearance, so my text will have to suffice.
Disturbingly, the president of our country unilaterally declared that:
-GM is too old and important to fail.
-Management is to blame, but workers are not.
-Federal money will be spent to save/create auto jobs in the communities affected by GM's troubles.
-GM will not be put through a normal Chapter 11 bankruptcy.
-After being 'fixed,' GM will rise to success once again.
No mention was made of the UAW's role in this through its exorbitant demands. Nor was Ron Gettelfinger's resignation as head of the UAW demanded by our government.
Further, our president, oddly for an attorney, provided evidence of his ignorance of what a Chapter 11 filing entails. He claimed that such a filing would result in dissolution of GM and the sale of its operations, which would also shut down.
This is simply false.
So now we have an ultimate government taking. At least with AIG, the federal government became the owner of the firm, albeit at gunpoint, and has since called the shots.
At GM, it's not an owner, but a relatively minor creditor. And should have no particular stake in the outcome of the firm. Markets are supposed to do that.
Instead, we have a near-Rooseveltian step by government into the restructuring of the auto sector. Chrysler was judged unworthy of further investment, unless it completes its pending merger with Fiat. GM has been deemed worthy of saving, but, obviously, because of the UAW jobs involved.
And those jobs, and the contracts under which they exist, will not be subject to a court-appointed bankruptcy trustee. No, the government has charged management alone with guilt in GM's failures.
The nature and extent of the federal government seizure of control of GM, using a comparatively small operating loan as the basis for its thuggery, is disturbing.
But perhaps this could have been avoided if, as I wrote half-jokingly, this post were true. Had Armando Codina been replaced by a competent board member, along with most of the rest of GM's board, perhaps this act of government seizure could have been avoided.
My business partner and I have discussed my strong belief in the necessary of death of corporations which cease to serve shareholders well. It is, admittedly, a very robust version of Schumpeterian dynamics. But this latest act in the melodrama that is GM proves my point.
Far better for the private sector to look after its own interests, shutting weak, ailing firms, than to await politically-motivated government meddling.
GM could have gone quietly, with some parts sold, others closed. Now, it's going to be forced to continue life as a money-losing "green" car maker, taking orders from Washington.
Truly, a far more ignominious end for the once-proud and profitable car maker.
Friday, March 27, 2009
The Folly Of The Mortgage "Cramdown" Plan
It's been a while since Congress' mortgage "cramdown" plan has received a lot of publicity. As I write this, I'm looking at a Wall Street Journal piece from the March 14-15 weekend edition entitled, "Mortgage 'Cramdown' Plan Hits Turbulence."
And how.
There is a high level approach to this topic that involves discussing capital markets, the rule of law, contracts, and such. I had originally intended to write that sort of piece.
But there's another level of coverage for this legislation that focuses on the local real estate markets, and that's where this post is now going.
About a week ago, I happened across a good friend and former professional international squash player who is now a local realtor. We began discussing the local market and pending governmental programs to 'help' the situation. She was not happy.
Elaine told me that the $8K credit for first-time home buyers is doing nothing around here, because the house prices are still so high that few, if any, initial buyers can afford them. She said the better solution was to have given anyone buying a home the $8K credit.
Then we turned to the subject of Congressional 'help' for delinquent or about-to-be-foreclosed mortgages.
Elaine concurred with the findings of research into delinquencies which I have read in the press within the past six months. To wit, homes that have mortgages fall into delinquency, then are given temporary relief, have a very high probability of becoming delinquent again and, eventually, entering foreclosure within six months.
Essentially, people typically become delinquent on their mortgage because there has been a job loss. They don't usually decide to take a European or Asian vacation, buy a second home, or a new car, and, thus, skip paying the mortgage on their primary residence for a month or two.
No, such drastic nonpayment events are usually the result of a job loss which exhausts the financial means of the owner of a home. If given a few months respite, the owner isn't magically given a new job, too. Just more time to resolve their delinquency.
All too often, i.e., more than half of the time, the owner re-enters a delinquent state and, then, foreclosure.
This is why cramdowns are a bad idea. It simply allows someone who can no longer afford their home to enjoy a court-ordered, unilateral rescission of the mortgage contract, effectively cutting the price of the home by forgiving some of the principal, and lowering the interest rate, too.
But, as my realtor friend noted, all this does is make taxpayers subsidize the current owner while they enjoy a price cut on their home, while anyone who was waiting to buy the home out of foreclosure at a lower price is denied that opportunity.
When normal housing markets are allowed to function, then people who can no longer afford their home due to having bought what they cannot now afford, the homes are sold out of foreclosure at lower, market-clearing prices, to new buyers who can now afford those homes.
The current foreclosure experiences across the US are not, at root, housing problems, but merely the consequences of employment problems.
You fix the latter with unemployment insurance, not mortgage relief via local court cramdowns.
Because of the looming Congressional mortgage relief, Elaine told me that delinquent homeowners and/or others wishing to sell are maintaining artificially high prices, or simply not listing yet. The result is a clogged and frozen local residential real estate market in which willing, qualified buyers are being denied the opportunity to gain access to homes that should be sold at market-clearing prices.
The mere hint of federal mortgage relief has frozen prices and is keeping the supply of homes tighter than it would be, were normal lending and market forces acting. Banks would be foreclosing, instead of halting those procedures, under TARP-related threats of Congressional penalties.
Since brokers aren't paid until homes sell, Elaine told me that she and her colleagues aren't even participating in workouts of delinquent mortgages anymore, because the owners' expectations of prices are too high to promise a sale anytime soon.
In short, the simple expression of Congressional action and interest in doing other than allowing normal market forces and the legal system operate in the instance of current residential mortgage finance, i.e., allowing lenders to handle delinquencies and foreclosures as usual, has seized up the entire residential housing market and caused existing homeowners to expect a taxpayer-financed price and interest rate reduction on their current homes, while waiting buyers are forced to subsidize this situation, while being denied their chance to finally realize their own dreams of home ownership, albeit on better-funded terms.
Things sure are upside down in the American housing market, thanks to boneheaded federal meddling.
And how.
There is a high level approach to this topic that involves discussing capital markets, the rule of law, contracts, and such. I had originally intended to write that sort of piece.
But there's another level of coverage for this legislation that focuses on the local real estate markets, and that's where this post is now going.
About a week ago, I happened across a good friend and former professional international squash player who is now a local realtor. We began discussing the local market and pending governmental programs to 'help' the situation. She was not happy.
Elaine told me that the $8K credit for first-time home buyers is doing nothing around here, because the house prices are still so high that few, if any, initial buyers can afford them. She said the better solution was to have given anyone buying a home the $8K credit.
Then we turned to the subject of Congressional 'help' for delinquent or about-to-be-foreclosed mortgages.
Elaine concurred with the findings of research into delinquencies which I have read in the press within the past six months. To wit, homes that have mortgages fall into delinquency, then are given temporary relief, have a very high probability of becoming delinquent again and, eventually, entering foreclosure within six months.
Essentially, people typically become delinquent on their mortgage because there has been a job loss. They don't usually decide to take a European or Asian vacation, buy a second home, or a new car, and, thus, skip paying the mortgage on their primary residence for a month or two.
No, such drastic nonpayment events are usually the result of a job loss which exhausts the financial means of the owner of a home. If given a few months respite, the owner isn't magically given a new job, too. Just more time to resolve their delinquency.
All too often, i.e., more than half of the time, the owner re-enters a delinquent state and, then, foreclosure.
This is why cramdowns are a bad idea. It simply allows someone who can no longer afford their home to enjoy a court-ordered, unilateral rescission of the mortgage contract, effectively cutting the price of the home by forgiving some of the principal, and lowering the interest rate, too.
But, as my realtor friend noted, all this does is make taxpayers subsidize the current owner while they enjoy a price cut on their home, while anyone who was waiting to buy the home out of foreclosure at a lower price is denied that opportunity.
When normal housing markets are allowed to function, then people who can no longer afford their home due to having bought what they cannot now afford, the homes are sold out of foreclosure at lower, market-clearing prices, to new buyers who can now afford those homes.
The current foreclosure experiences across the US are not, at root, housing problems, but merely the consequences of employment problems.
You fix the latter with unemployment insurance, not mortgage relief via local court cramdowns.
Because of the looming Congressional mortgage relief, Elaine told me that delinquent homeowners and/or others wishing to sell are maintaining artificially high prices, or simply not listing yet. The result is a clogged and frozen local residential real estate market in which willing, qualified buyers are being denied the opportunity to gain access to homes that should be sold at market-clearing prices.
The mere hint of federal mortgage relief has frozen prices and is keeping the supply of homes tighter than it would be, were normal lending and market forces acting. Banks would be foreclosing, instead of halting those procedures, under TARP-related threats of Congressional penalties.
Since brokers aren't paid until homes sell, Elaine told me that she and her colleagues aren't even participating in workouts of delinquent mortgages anymore, because the owners' expectations of prices are too high to promise a sale anytime soon.
In short, the simple expression of Congressional action and interest in doing other than allowing normal market forces and the legal system operate in the instance of current residential mortgage finance, i.e., allowing lenders to handle delinquencies and foreclosures as usual, has seized up the entire residential housing market and caused existing homeowners to expect a taxpayer-financed price and interest rate reduction on their current homes, while waiting buyers are forced to subsidize this situation, while being denied their chance to finally realize their own dreams of home ownership, albeit on better-funded terms.
Things sure are upside down in the American housing market, thanks to boneheaded federal meddling.
Thursday, March 26, 2009
On Geithner's PPIP Plan
Earlier today I published this post with two video clips of economist James Galbraith opining on Treasury Secretary Geithner's PPIP plan. My business partner noted that the accompanying text with the videos, provided by fallen tech brokerage analyst Henry Blodget, is quite good and concise. These two charts, here and here, are very arresting.
Galbraith and his interviewers make the case that there is, and always has been, a perfectly good alternative to all of these bailout and rescue plans. Simply put, place insolvent non-bank institutions into bankruptcy, take the banks into the FDIC and put insured depositors into new institutions, while allowing other institutions to bid on the loans and other assets of the failed financial firms.
However, Geithner, his boss, and even people like NY insurance czar Eric Dinallo, this morning on CNBC, swear that the only way credit markets can be rehabilitated is through the process that Giethner proposes. Which, by the way, as Blodget notes, is very much the same vehicle that Paulson proposed with the TARP. Government organizes a sale of assets to the private sector. You can quibble about whether the government attaches a guarantee of some sort to it, and how much each shares in loss or profit, but the basic idea is the same.
Galbraith and Blodget demolish these arguments, and more, in their respective critiques of Geithner's DOA plan.
Then we come to the recent furor over the AIG retention payments. Holman Jenkins of the Wall Street Journal wrote on Wednesday of this week, in his column entitled "The Real AIG Disgrace,"
"Yet the AIG bonus episode, the administration's one true disgrace so far, will not soon be forgotten.
Galbraith and his interviewers make the case that there is, and always has been, a perfectly good alternative to all of these bailout and rescue plans. Simply put, place insolvent non-bank institutions into bankruptcy, take the banks into the FDIC and put insured depositors into new institutions, while allowing other institutions to bid on the loans and other assets of the failed financial firms.
However, Geithner, his boss, and even people like NY insurance czar Eric Dinallo, this morning on CNBC, swear that the only way credit markets can be rehabilitated is through the process that Giethner proposes. Which, by the way, as Blodget notes, is very much the same vehicle that Paulson proposed with the TARP. Government organizes a sale of assets to the private sector. You can quibble about whether the government attaches a guarantee of some sort to it, and how much each shares in loss or profit, but the basic idea is the same.
Galbraith and Blodget demolish these arguments, and more, in their respective critiques of Geithner's DOA plan.
Then we come to the recent furor over the AIG retention payments. Holman Jenkins of the Wall Street Journal wrote on Wednesday of this week, in his column entitled "The Real AIG Disgrace,"
"Yet the AIG bonus episode, the administration's one true disgrace so far, will not soon be forgotten.
Tim Geithner is rightly on the hot seat for saying he didn't know about the bonuses until just weeks ago -- because he should have quelled this furor before it ever got started. Instead he played dumb and climbed aboard the outrage bandwagon -- and let Mr. Obama do the same.
Whether Mr. Geithner knew the specifics is unimportant. The retention plan was known to his staff. The details had been disclosed over and over in public filings. As far back as October, New York Attorney General Andrew Cuomo had summoned the Treasury-appointed Mr. Liddy to hammer out a deal on AIG's pay practices. Said Mr. Cuomo in a statement afterward: "These actions are not intended to jeopardize the hard-earned compensation of the vast majority of AIG's employees, including retention and severance arrangements, who are essential to rebuilding AIG and the economy of New York."
The voluble Rep. Elijah Cummings had been railing about AIG retention bonuses almost continually, on air, in the print media, and in publicly released letters to Mr. Liddy, since Dec. 1.
On March 3, Mr. Geithner himself was quizzed during a congressional hearing in detail about the AIGFP retention plan by Democratic Rep. Joe Crowley -- a week before Mr. Geithner now says he heard of the plan.
But the biggest lesson here is the old one that the price of freedom is eternal vigilance -- beginning with insistence on the rule of law. Americans clearly cannot trust their elected officials to defend their rights and interests, or care whether justice is served, when the slightest political risk might attach to doing so.
Which brings us back to Mr. Cuomo, whose office has been implicitly threatening to publish names of AIG employees who don't relinquish pay they were contractually entitled to.
Mr. Cuomo is a thug, but at least he reminds us: It can happen here."
First, I think it bears some consideration of what must have transpired for Jenkins to write that last sentence. I would bet that Rupert Murdoch himself cleared it. You don't call the NY AG a thug without steeling yourself for retribution.
But, beyond that, Jenkins' careful recounting of who knew what, when, demonstrates another, more human behavior-based reason why Geithner's PPIP program will fail.
No matter what Geithner swears will be acceptable, including massive private investor profits on these toxic assets, he can't actually guarantee that Congress will not react in the future the same way they reacted to the very reasonable and already known AIG retention payments, i.e., abrogate contracts, pass bills of attainder, and otherwise behave unconstitutionally.
Why will any private investor believe an administration's promises? Remember when Hank Paulson swore that TARP funds would not entail any active interest whatsoever by the federal government in the institutions which agreed, upon request, to accept the money?
Now they have their entire compensation systems subjected to Congressional mandate.
The truth is, nobody knows how today's buyer of a PPIP-offered asset will be treated next quarter, or next year, by Congress, when, in a fit of pique, that branch of government decides that the profits earned by those private buyers are, in fact, unacceptable. That the deal offered by the PPIP was not fair to taxpayers. Or whatever other ex post facto reason Congress may choose to use to unfairly appropriate gains after the fact.
The banks selling the toxic assets at low prices will risk insolvency. The buyers will risk some loss, and, worse, taking of their profits by the government, if they do profit.
On many bases, Geithner's overly-complex, ambitious and naive plan for relieving financial institutions of bad loans and securities won't work. It would be simpler to just force realistic valuations, close the insolvent institutions, transfer any insured deposits, and sell off the assets, thus providing real, market-determined prices. As well as removing inept management and providing room for better managers to provide fresh financing, when and as needed, to the economy.
James Galbraith on Geithner's PPIP Plan
I'm not a big fan of James Galbraith. The Texas-based academic PhD in economics is the son of none-other than America's major water-carrier for John Keynes, the late John K. Galbraith.
However, these two video clips are worthy of your viewing time.
http://finance.yahoo.com/tech-ticker/article/216311/Part-I-Geithner
http://finance.yahoo.com/tech-ticker/article/216480/Part-II-Geithner
I agree with pretty much everything Galbraith says. The banks won't lend more because of this program. They simply want to avoid insolvency. Yes, they may even bid on each other's assets, in order to prop up prices.
Remember when Drexel's high yield debt maven Michael Milken did this with his clients? Each beneficiary of Milken's funding skills was required to buy some of the same paper from another of his clients, thus providing a floor for valuation.
In any case, I think these two videos lay bare some- but only some- of the problems with Geithner's program, which will ultimately lead to its failure to reach its objectives of healing the US economy's financial sector.
However, these two video clips are worthy of your viewing time.
http://finance.yahoo.com/tech-ticker/article/216311/Part-I-Geithner
http://finance.yahoo.com/tech-ticker/article/216480/Part-II-Geithner
I agree with pretty much everything Galbraith says. The banks won't lend more because of this program. They simply want to avoid insolvency. Yes, they may even bid on each other's assets, in order to prop up prices.
Remember when Drexel's high yield debt maven Michael Milken did this with his clients? Each beneficiary of Milken's funding skills was required to buy some of the same paper from another of his clients, thus providing a floor for valuation.
In any case, I think these two videos lay bare some- but only some- of the problems with Geithner's program, which will ultimately lead to its failure to reach its objectives of healing the US economy's financial sector.
Wednesday, March 25, 2009
Jim Chanos On Mark-To-Market
Hedge fund manager James Chanos wrote a wonderful piece in yesterday's Wall Street Journal entitled "We Need Honest Accounting."
The piece dissects, in greater detail than I have been personally aware, the mess that has become commercial bank accounting for CDOs, CMOs and other structured instruments.
Since mid-2007, I have believed that, either by Presidential Executive Order, FASB ruling, or Congressional action, existing mark-to-market rules should have been, and be, modified to allow cash-flow-based expected value to be used for non-trading structured financial instruments, especially those composed of mortgages or mortgage-backed securities. This belief is rooted in the fact that underlying performance, in terms of cash flows, may not necessarily be reflected in the prices of the securities into which such mortgages have been bundled.
Chanos, however, casts a very different light on the matter. In his opinion, banks have long-used market values on these instruments when they were rising, thus abrogating their ability to now declare them to be held for investment purposes,
"Financial institutions had no problem in using MTM to benefit from the drop in prices of their own notes and bonds, since the rule also applies to liabilities. And when the value of the securitized loans they held was soaring, they eagerly embraced MTM. Once committed to that accounting discipline, though, they were obligated to continue doing so for the duration of their holding of securities they've marked to market. And one wonders if they are as equally willing to forego MTM for valuing the same illiquid securities in client accounts for margin loans as they are for their proprietary trading accounts?"
Further, Chanos notes that, in the current environment, you don't really want to trust the executives who mistakenly bought and held these instruments with telling you that their intrinsic economic value is actually much higher than the market thinks they are. He continues by observing,
In this, he echoes Anna Schwartz' views from her interview in the Wall Street Journal last October. That is, the crisis has never been about liquidity, but, rather, solvency and trust that banks are actually solvent, on a market-based valuation.
Until this is accomplished and enforced, once and for all, private capital will not flow to suspect financial institutions holding assets marked by fundamentally dishonest means.
The piece dissects, in greater detail than I have been personally aware, the mess that has become commercial bank accounting for CDOs, CMOs and other structured instruments.
Since mid-2007, I have believed that, either by Presidential Executive Order, FASB ruling, or Congressional action, existing mark-to-market rules should have been, and be, modified to allow cash-flow-based expected value to be used for non-trading structured financial instruments, especially those composed of mortgages or mortgage-backed securities. This belief is rooted in the fact that underlying performance, in terms of cash flows, may not necessarily be reflected in the prices of the securities into which such mortgages have been bundled.
Chanos, however, casts a very different light on the matter. In his opinion, banks have long-used market values on these instruments when they were rising, thus abrogating their ability to now declare them to be held for investment purposes,
"Financial institutions had no problem in using MTM to benefit from the drop in prices of their own notes and bonds, since the rule also applies to liabilities. And when the value of the securitized loans they held was soaring, they eagerly embraced MTM. Once committed to that accounting discipline, though, they were obligated to continue doing so for the duration of their holding of securities they've marked to market. And one wonders if they are as equally willing to forego MTM for valuing the same illiquid securities in client accounts for margin loans as they are for their proprietary trading accounts?"
Further, Chanos notes that, in the current environment, you don't really want to trust the executives who mistakenly bought and held these instruments with telling you that their intrinsic economic value is actually much higher than the market thinks they are. He continues by observing,
"According to J.P. Morgan, approximately $450 billion of collateralized debt obligations (CDOs) of asset-backed securities were issued from late 2005 to mid-2007. Of that amount, roughly $305 billion is now in a formal state of default and $102 billion of this amount has already been liquidated. The latest monthly mortgage reports from investment banks are equally sobering. It is no surprise, then, that the largest underwriters of mortgages and CDOs have been decimated.
Commercial banking regulations generally do not require banks to sell assets to meet capital requirements just because market values decline. But if "impairment" charges under MTM do push banks below regulatory capital requirements and limit their ability to lend when they can't raise more capital, then the solution is to grant temporary regulatory capital "relief," which is itself an arbitrary number.
There is a connection between efforts over the past 12 years to reduce regulatory oversight, weaken capital requirements, and silence the financial detectives who uncovered such scandals as Lehman and Enron. The assault against MTM is just the latest chapter.
Instead of acknowledging mistakes, we are told this is a "once in 100 years" anomaly with the market not functioning correctly. It isn't lost on investors that the MTM criticisms come, too, as private equity firms must now report the value of their investments. The truth is the market is functioning correctly. It's just that MTM critics don't like the prices that investors are willing to pay."
In effect, Chanos contends, correctly, I now think, that the banking executives who mistakenly created, bought and/or held these instruments, and were happy to take advantage of their rising market values, now want to call the whole thing off and claim that they really meant to hold them long term as investments.
In the time since I originally reflected on mark-to-market pricing and its modification, several investment and commercial banks have failed, no publicly-held investment banks of any size now remain, and several hundred billion dollars of financial service company writedowns have occurred, mostly related to the ever-falling values of mortgage-backed assets which were structured from now-suspect subprime home loans.
Chanos' major focus is really the need for those who initially benefited from the first blush of rising values from structured instruments to now be forced to take the pain of their falling values.
Up until a few months ago, I think I would have disagreed with him. Now, I don't.
The recent failures of WaMu and Wachovia have proven that Chapter 11, FDIC seizures, and orderly closures of banks can occur without undue damage to the economic or banking system. Since depositors are protected, and assets will be sold at market prices anyway, I no longer see a downside to Chanos' insistence that financial service firms mark to the tradeable values of instruments which they originally treated as, well, tradeable assets. Not investments.
The piece goes on to detail some of the more hilarious ways in which FASB is about to allow bank CFOs to 'value' assets such that nobody in their right mind will believe balance sheet values anymore.
Chanos ends his persuasive editorial by stating,
In this, he echoes Anna Schwartz' views from her interview in the Wall Street Journal last October. That is, the crisis has never been about liquidity, but, rather, solvency and trust that banks are actually solvent, on a market-based valuation.
Until this is accomplished and enforced, once and for all, private capital will not flow to suspect financial institutions holding assets marked by fundamentally dishonest means.
Tuesday, March 24, 2009
Yesterday's S&P Gains
7.1%! More than 54 points!
That's how much the S&P500 Index rose yesterday, allegedly in response to the Treasury's newly-unveiled TALF plan.
The knee-jerk interpretation has been that equity investors are all better now, just based on the terms of the new plan.
How else to interpret such an impressive and surely near-record S&P single-day gain?
Well, one way is to not interpret it at all, since it's just another one-day S&P performance. Since mid-February of 2008, here are the 10 best and worst single-day percentage performances of the S&P.
The total return of these 10 best days is +70.7%
Worst 10 days since February of 2008-
Total return for these 10 worst days is -69.6%
The total S&P500 return for the days included since last February is -39.4%.
Rather like my findings in this post from September of 2997, you can see that quite a bit of recent S&P return could be accounted for in these 20 days. I wouldn't be surprised if that post receives a lot of hits today.
My point is that there are plenty of examples, even in just the last 13 months, of similarly-extreme daily S&P percentage returns, either positive or negative. Yesterday's was only the third-best daily S&P500 return of the past thirteen months. The two best were both in excess of +10%. And the totals of the 10 best and 10 worst return days for the period were nearly identical.
Why would yesterday represent the end of a bear market and the start of a new bull market, whereas the two higher daily S&P return days in October of last year did not?
Our proprietary volatility measure went up- a lot- yesterday. It's now firmly above 3% for the first time this year.
Granted, the S&P rise since early March has resulted in the month's having roughly an 11% return thus far. But even that does not move our equity-market re-entry signal to anything remotely near indicating a switch from short to long allocations.
The past twelve months of S&P returns have, in total, been so massively negative, in such a dismal pattern, that it would take a lot more than just a good March, in our opinion, to indicate that equities are now poised for a monotonic upward move.
Consider my post yesterday. The Treasury plan for toxic assets has no impact on real economic issues such as consumer credit. Or corporate earnings, for that matter.
While many people are understandably happy about the S&P's dramatic gains yesterday, I don't see it as particularly noteworthy at this time.
Quite a few other performance measures would have to look different than they do now before we will buy calls, instead of puts, and see a long, rather than a short equity allocation.
That's how much the S&P500 Index rose yesterday, allegedly in response to the Treasury's newly-unveiled TALF plan.
The knee-jerk interpretation has been that equity investors are all better now, just based on the terms of the new plan.
How else to interpret such an impressive and surely near-record S&P single-day gain?
Well, one way is to not interpret it at all, since it's just another one-day S&P performance. Since mid-February of 2008, here are the 10 best and worst single-day percentage performances of the S&P.
| 10/13/2008 | 0.116 |
| 10/28/2008 | 0.108 |
| 3/23/2009 | 0.071 |
| 11/13/2008 | 0.069 |
| 11/24/2008 | 0.065 |
| 3/10/2009 | 0.064 |
| 11/21/2008 | 0.063 |
| 9/30/2008 | 0.053 |
| 12/16/2008 | 0.051 |
| 10/20/2008 | 0.048 |
The total return of these 10 best days is +70.7%
Worst 10 days since February of 2008-
| 11/5/2008 | -0.053 |
| 1/20/2009 | -0.053 |
| 10/7/2008 | -0.057 |
| 10/22/2008 | -0.061 |
| 11/19/2008 | -0.061 |
| 11/20/2008 | -0.067 |
| 10/9/2008 | -0.076 |
| 9/29/2008 | -0.088 |
| 12/1/2008 | -0.089 |
| 10/15/2008 | -0.090 |
Total return for these 10 worst days is -69.6%
The total S&P500 return for the days included since last February is -39.4%.
Rather like my findings in this post from September of 2997, you can see that quite a bit of recent S&P return could be accounted for in these 20 days. I wouldn't be surprised if that post receives a lot of hits today.
My point is that there are plenty of examples, even in just the last 13 months, of similarly-extreme daily S&P percentage returns, either positive or negative. Yesterday's was only the third-best daily S&P500 return of the past thirteen months. The two best were both in excess of +10%. And the totals of the 10 best and 10 worst return days for the period were nearly identical.
Why would yesterday represent the end of a bear market and the start of a new bull market, whereas the two higher daily S&P return days in October of last year did not?
Our proprietary volatility measure went up- a lot- yesterday. It's now firmly above 3% for the first time this year.
Granted, the S&P rise since early March has resulted in the month's having roughly an 11% return thus far. But even that does not move our equity-market re-entry signal to anything remotely near indicating a switch from short to long allocations.
The past twelve months of S&P returns have, in total, been so massively negative, in such a dismal pattern, that it would take a lot more than just a good March, in our opinion, to indicate that equities are now poised for a monotonic upward move.
Consider my post yesterday. The Treasury plan for toxic assets has no impact on real economic issues such as consumer credit. Or corporate earnings, for that matter.
While many people are understandably happy about the S&P's dramatic gains yesterday, I don't see it as particularly noteworthy at this time.
Quite a few other performance measures would have to look different than they do now before we will buy calls, instead of puts, and see a long, rather than a short equity allocation.
Monday, March 23, 2009
Meredith Whitney, Credit Card Lending & The Fed's Rumored Solution
Meredith Whitney, once of Oppenheimer, now on her own, wrote an insightful and thought-provoking piece on March 11th in the Wall Street Journal regarding consumer installment credit, i.e., credit card loan limits. She appeared that week on CNBC in support of her article.
As I write this, the S&P500 is up about 3.8% this morning, causing all matter of pundits to declare victory over recession and equity market doldrums. With this as a background, consider Whitney's contentions.
Whitney, who is regarded as a capable and generally accurate sell-side banking analyst, originally forecast credit card loan limit reductions of something like $2T. In her recent Journal piece, she wrote,
"Just six months ago, I estimated that at least $2 trillion of available credit-card lines would be expunged from the system by the end of 2010. However, today, that estimate now looks optimistic, as available lines were reduced by nearly $500 billion in the fourth quarter of 2008 alone. My revised estimates are that over $2 trillion of credit-card lines will be cut inside of 2009, and $2.7 trillion by the end of 2010."
This isn't just an isolated event. And it does seem to be a rather under-reported credit contraction story. But Whitney continues by explaining the implication of her forecast,
"Inevitably, credit lines will continue to be reduced across the system, but the velocity at which it is already occurring and will continue to occur will result in unintended consequences for consumer confidence, spending and the overall economy. Lenders, regulators and politicians need to show thoughtful leadership now on this issue in order to derail what I believe will be at least a 57% contraction in credit-card lines.
As I write this, the S&P500 is up about 3.8% this morning, causing all matter of pundits to declare victory over recession and equity market doldrums. With this as a background, consider Whitney's contentions.
Whitney, who is regarded as a capable and generally accurate sell-side banking analyst, originally forecast credit card loan limit reductions of something like $2T. In her recent Journal piece, she wrote,
"Just six months ago, I estimated that at least $2 trillion of available credit-card lines would be expunged from the system by the end of 2010. However, today, that estimate now looks optimistic, as available lines were reduced by nearly $500 billion in the fourth quarter of 2008 alone. My revised estimates are that over $2 trillion of credit-card lines will be cut inside of 2009, and $2.7 trillion by the end of 2010."
This isn't just an isolated event. And it does seem to be a rather under-reported credit contraction story. But Whitney continues by explaining the implication of her forecast,
"Inevitably, credit lines will continue to be reduced across the system, but the velocity at which it is already occurring and will continue to occur will result in unintended consequences for consumer confidence, spending and the overall economy. Lenders, regulators and politicians need to show thoughtful leadership now on this issue in order to derail what I believe will be at least a 57% contraction in credit-card lines.
There are several factors that are playing into this swift contraction in credit well beyond the scope of the current credit market disruption. First, the very foundation of credit-card lending over the past 15 years has been misguided. In order to facilitate national expansion and vast pools of consumer loans, lenders became overly reliant on FICO scores that have borne out to be simply unreliable. Further, the bulk of credit lines were extended during a time when unemployment averaged well below 6%. Overly optimistic underwriting standards made more borrowers appear creditworthy. As we return to more realistic underwriting standards, certain borrowers will no longer appear worth the risk, and therefore lines will continue to be pulled from those borrowers."
Clearly, this sort of consumer-lending risk management on the part of card issuers will have a dramatic effect on any economic recovery in the years ahead. According to Whitney, the use of credit card loan availability by US consumers is not uniform. She concludes her piece by noting,
"Over the past 20 years, Americans have also grown to use their credit card as a cash-flow management tool. For example, 90% of credit-card users revolve a balance (i.e., don't pay it off in full) at least once a year, and over 45% of credit-card users revolve every month. Undeniably, consumers look at their unused credit balances as a "what if" reserve. "What if" my kid needs braces? "What if" my dog gets sick? "What if" I lose one of my jobs? This unused credit portion has grown to be relied on as a source of liquidity and a liquidity management tool for many U.S. consumers. In fact, a relatively small portion of U.S. consumers have actually maxed out their credit cards, and most currently have ample room to spare on their unused credit lines. For example, the industry credit line utilization rate (or percentage of total credit lines outstanding drawn upon) was just 17% at the end of 2008. However, this is in the process of changing dramatically.
Without doubt, credit was extended too freely over the past 15 years, and a rationalization of lending is unavoidable. What is avoidable, however, is taking credit away from people who have the ability to pay their bills. If credit is taken away from what otherwise is an able borrower, that borrower's financial position weakens considerably. With two-thirds of the U.S. economy dependent upon consumer spending, we should tread carefully and act collectively."
I haven't read or heard of analysis similar to Whitney's elsewhere recently. I suspect it means that governmental economists are going to be seriously blindsided by this aspect of the banking system's reaction to recent events.
Of course, given Washington's actions and reactions over the past twelve months, beginning with the handling of Bear, Stearns' collapse, you can probably count on the following solution to this forecasted dramatic contraction of consumer credit card lending capacity.
Look for the current administration to step into frozen, shrunken consumer installment lending with Fed-issued credit cards.
I understand that, even now, prototypical card designs are being circulated, much like a Capital One card customization package. Available designs from which a Fed credit card holder could choose would include: the current President, Fed Chairman Ben Bernanke, and Treasury Secretary Tim Geithner behind a motif of jail bars.
It wouldn't surprise anyone, would it? A Fed-backed credit card for otherwise-cardless consumers would seem to be the last, logical extension of Federal credit guarantees which began with Bear Stearns, led to AIG, the TARP, GM and Chrysler/Cerebrus bailouts, mortgage forgiveness, cramdowns, and, now, this week, the TALF.
Everyone, it appears, will receive their bailout, including ordinary consumers whose credit lines have been cancelled by prudent private lenders.
Friday, March 20, 2009
Steinhardt, Cooperman, Dachille & Gabelli On CNBC This Morning
This morning's CNBC programming featured an hour with hedge fund managers Michael Steinhardt, Lee Cooperman, and Mario Gabelli. After 8AM, Gabelli was replaced by Doug Dachille, the always-interesting, outspoken fixed income maven.
CNBC billed the first hour as one of 'hedge fund legends' opining on the current state of financial markets and the economy.
It was, to be sure, an interesting hour. But not necessarily for the reasons CNBC expected.
First, there wasn't really anything special about these three particular managers. One might even suggest that CNBC couldn't get the "real" legends- Steve Cohen, Eddie Lampert, or one of the founders of Brahmin or Fortress.
What was on offer was surprisingly transparent, in the cases of Gabelli and Cooperman.
First, Gabelli is really the only large-scale, active manger of the three. And he was recently in danger of doing jail time for abetting a woman who either was his employee, or the wife of an employee, in fronting for Gabelli to acquire a federal spectrum license. The case got a lot of attention, and Gabelli was severely tarnished for having obviously, if not at the level of proof of criminality, played games to get the value of such a license on the cheap by exploiting minority set-asides.
As such, Gabelli presented himself as fast-talking, on the make, and generally shallow. Very marketing-oriented, as if his appearance constituted a great, free sales opportunity.
Cooperman was a bit more interesting. While I have not ever met Cooperman, I have had a fairly close acquaintance and a business partner who know him well. Cooperman was, years ago, the Abbey Joseph Cohen of Goldman Sachs before it was such a prominent post. Since his departure from the investment bank, Cooperman's track record with Omega Partners, his hedge fund group, has apparently been uneven, to say the least.
Looking at him on the CNBC set, one saw, as with Gabelli, a bit of delight at the free marketing opportunity for his fund. Cooperman's Omega is an active fund, but I don't believe he has the assets under management of Gabelli's fund complex.
From my personal contacts, I gather that Cooperman is very tempermental and prone to weight gain when under stress and performing poorly in the markets. It looks like last year wasn't good. He also is sporting what can only be described as a colossal comb-over.
Alone, it might have been less noticeable. Flanked by the snow-haired Gabelli, and the purposely-bald Steinhardt, Cooperman appeared much less natural.
While Cooperman made some decent points about recent market performance and government intervention, he was, on the whole, predictable and safe in his remarks.
Then we come to Michael Steinhardt. I had not seen much of Mr. Steinhardt prior to this appearance. Other than reading about him in years past as a prominent and highly-successful short investor, art collector, and founder of WisdomTree, he was pretty much a mystery.
But, by a country mile, he was the most interesting and compelling of the three "legends" on CNBC this morning.
What impressed me most about Steinhardt was his laser-like focus on what he termed the 'change in morality' in the US during this period of economic uncertainty and deleveraging. His slow, careful, richly-structured comments reflected a very intelligent, philosophical and wide-ranging mind.
Of all his comments, the three which impressed me most were these:
-The recent and ongoing shift in morals and sentiments of US citizens are of paramount importance with respect to our economy and financial sector and markets in the foreseeable future.
-The current administration seems to be attempting to skip the 'restructuring of debt' step necessary to any economic recovery, and moving directly to flooding markets with liquidity, while leaving inept managements, such as auto makers and commercial banks, intact, rather than force them through bankruptcy. Steindhardt clearly indicated a disbelief that this will work or be productive.
-What is meant by a "depression" in our current environment? Due to automatic stabilizers, i.e., transfer payment mechanisms, Steinhardt believes that an unemployment rate as low as 12% will trigger consumer behaviors and public sentiment generally associated with much higher 'depression' unemployment levels.
-With respect to the next six-twelve months, he prefers to not lose any more money and sit tight, rather than allocating assets to the market in long positions.
Overall, Mr. Steinhardt projected an intensely astute, contemplative and really, really intelligent persona. I'd love to spend a long, non-alcoholic lunch with him. It would be a fascinating discussion. His calm demeanor and self-assured Socratic approach to his own thoughts and the comments of his fellow guests marked him as an unusually open-minded, insightful and candid observer of the US economy, its financial markets and citizens.
Doug Dachille joined Steinhardt and Cooperman for part of the next hour, providing an electric and fast-paced disgorgement of opinions. Dachille expressed some very blunt opinions casting doubt on the current government handling of the financial crisis, but also made some fairly silly comments contending that the holding of index funds has been the cause of poor corporate governance.
While it's difficult to recall every exchange among Gabelli, Cooperman and Steinhardt, the lasting impression I have is that it was somewhat less of an "event" than the CNBC producers had hoped. They would have been more successful by simply having Steinhardt on alone, or perhaps with Bob McTeer, Richard Armey or Michael Holland.
CNBC billed the first hour as one of 'hedge fund legends' opining on the current state of financial markets and the economy.
It was, to be sure, an interesting hour. But not necessarily for the reasons CNBC expected.
First, there wasn't really anything special about these three particular managers. One might even suggest that CNBC couldn't get the "real" legends- Steve Cohen, Eddie Lampert, or one of the founders of Brahmin or Fortress.
What was on offer was surprisingly transparent, in the cases of Gabelli and Cooperman.
First, Gabelli is really the only large-scale, active manger of the three. And he was recently in danger of doing jail time for abetting a woman who either was his employee, or the wife of an employee, in fronting for Gabelli to acquire a federal spectrum license. The case got a lot of attention, and Gabelli was severely tarnished for having obviously, if not at the level of proof of criminality, played games to get the value of such a license on the cheap by exploiting minority set-asides.
As such, Gabelli presented himself as fast-talking, on the make, and generally shallow. Very marketing-oriented, as if his appearance constituted a great, free sales opportunity.
Cooperman was a bit more interesting. While I have not ever met Cooperman, I have had a fairly close acquaintance and a business partner who know him well. Cooperman was, years ago, the Abbey Joseph Cohen of Goldman Sachs before it was such a prominent post. Since his departure from the investment bank, Cooperman's track record with Omega Partners, his hedge fund group, has apparently been uneven, to say the least.
Looking at him on the CNBC set, one saw, as with Gabelli, a bit of delight at the free marketing opportunity for his fund. Cooperman's Omega is an active fund, but I don't believe he has the assets under management of Gabelli's fund complex.
From my personal contacts, I gather that Cooperman is very tempermental and prone to weight gain when under stress and performing poorly in the markets. It looks like last year wasn't good. He also is sporting what can only be described as a colossal comb-over.
Alone, it might have been less noticeable. Flanked by the snow-haired Gabelli, and the purposely-bald Steinhardt, Cooperman appeared much less natural.
While Cooperman made some decent points about recent market performance and government intervention, he was, on the whole, predictable and safe in his remarks.
Then we come to Michael Steinhardt. I had not seen much of Mr. Steinhardt prior to this appearance. Other than reading about him in years past as a prominent and highly-successful short investor, art collector, and founder of WisdomTree, he was pretty much a mystery.
But, by a country mile, he was the most interesting and compelling of the three "legends" on CNBC this morning.
What impressed me most about Steinhardt was his laser-like focus on what he termed the 'change in morality' in the US during this period of economic uncertainty and deleveraging. His slow, careful, richly-structured comments reflected a very intelligent, philosophical and wide-ranging mind.
Of all his comments, the three which impressed me most were these:
-The recent and ongoing shift in morals and sentiments of US citizens are of paramount importance with respect to our economy and financial sector and markets in the foreseeable future.
-The current administration seems to be attempting to skip the 'restructuring of debt' step necessary to any economic recovery, and moving directly to flooding markets with liquidity, while leaving inept managements, such as auto makers and commercial banks, intact, rather than force them through bankruptcy. Steindhardt clearly indicated a disbelief that this will work or be productive.
-What is meant by a "depression" in our current environment? Due to automatic stabilizers, i.e., transfer payment mechanisms, Steinhardt believes that an unemployment rate as low as 12% will trigger consumer behaviors and public sentiment generally associated with much higher 'depression' unemployment levels.
-With respect to the next six-twelve months, he prefers to not lose any more money and sit tight, rather than allocating assets to the market in long positions.
Overall, Mr. Steinhardt projected an intensely astute, contemplative and really, really intelligent persona. I'd love to spend a long, non-alcoholic lunch with him. It would be a fascinating discussion. His calm demeanor and self-assured Socratic approach to his own thoughts and the comments of his fellow guests marked him as an unusually open-minded, insightful and candid observer of the US economy, its financial markets and citizens.
Doug Dachille joined Steinhardt and Cooperman for part of the next hour, providing an electric and fast-paced disgorgement of opinions. Dachille expressed some very blunt opinions casting doubt on the current government handling of the financial crisis, but also made some fairly silly comments contending that the holding of index funds has been the cause of poor corporate governance.
While it's difficult to recall every exchange among Gabelli, Cooperman and Steinhardt, the lasting impression I have is that it was somewhat less of an "event" than the CNBC producers had hoped. They would have been more successful by simply having Steinhardt on alone, or perhaps with Bob McTeer, Richard Armey or Michael Holland.
Thursday, March 19, 2009
Color Me Confused: The Fed & The Economy
Color me confused.
This morning's Wall Street Journal noted,
"But the Fed's statement Wednesday dropped any reference to the economy recovering "later this year," hinting at the reasons for its drastic move and a warning sign for anyone piling into stocks."
But, didn't Bernanke just appear on CBS' 60 Minutes last Sunday to spread the word that the US recession would be over later this year?
Am I to believe that, in only two days, the US economic picture has deteriorated so much? Or was Bernanke just lying, to spread confidence? Or, did he simply not really have a well-informed view on the economy?
Here's what else confuses me.
Essentially, beginning in the summer of 2007, with the collapse of two Bear Stearns mortgage-backed instrument mutual funds, there has been a global reduction in leverage. That is, the creation of debt capital by many parties began to be reversed, first by the reduction in the market values of such debt, and, subsequently, the failure of lenders to provide new cash in exchange for maturing debt of various types, especially short term notes financing entities such as mutual funds holding structured finance instruments of dubious value.
As such, we are in the midst of a rare, but clear global contraction of leverage.
Simultaneously, the US began to enter a naturally-occurring recession. Recessions occur periodically as a natural part of economic cycles. They cannot be avoided, but sometimes can be softened.
In this case, however, the combination of the global contraction of credit and the US recession have resulted in GDP and employment declines on an order similar to that of the 1981-82 US recession.
We didn't see an FDR-style New Deal in response to the Carter-induced 1981-82 recession. Spending didn't skyrocket.
In fact, President Reagan quickly moved to cut spending and tax rates. And that worked. Those actions laid the foundation for twenty years of healthy, productive US economic growth, during which the several recessions were relatively mild and short-lived.
What am I missing?
What has changed, besides the tendency of Americans to now believe panicky calls that the economic sky is falling?
Whether you believe Alan Greenspan's recent, continuing self-defense in the Wall Street Journal, that he was right, and Stanford's estimable economist, John Taylor, was and is wrong, or not, it's a fact that too-cheap money in the US, in the wake of the technology equity bubble collapse, led to irresponsible debt financing of risky mortgages.
I wrote recently, here and here, of the phenomenon which we are currently experiencing: the combination of global deleveraging and recession. In the second post, I noted,
"On one hand, there is, based upon the NBER's December statement based upon job losses, a US recession which began in late 2007.
However, within this recession is a secular trend of economic shrinkage that will not be reversed by anything but a return to higher leverage. Thus, no amount of unleveraged economic 'help' will reverse these losses and the accompanying fall in GDP growth.
Seen from this perspective, the only way in which a new, massive Federal stimulus package can provide 'recovery' is to substitute government-issued obligations to return US societal economic leverage back to the dangerous, unsustainable levels at which it was before the current crisis.
How is it that leverage undertaken by the private sector, and judged imprudent, can now be replaced with government-sourced leverage, in the form of either: 1) more printed money, or 2) increased sale of government debt, without creating even more risk by spending the money in less accountable, measurable ways through political channels?
The simple fact is that, for the US economy to lower its capital leverage, and adjust to that lower leverage level, some jobs and business activity will have to simply vanish and not return. Whatever economic level we enjoyed, from which our current recession guideposts are measured, it logically follows that we cannot return there anytime soon unless we collectively decide, as a society, to try to raise financial leverage back to what it was.
If we decide this is unwise, then we have to accept that unemployment will be higher, and business activity levels lower, as the marginal, leveraged activities have been eliminated with the fall in financial leverage.
There is no other way around this fact."
This week's indication by the Fed that it will use newly-printed money to buy Treasuries, and other, less-highly rated assets, in order to effectively provide leverage to the US economy, would seem to be returning us to exactly where we just came in mid-2007.
Why is it so hard for people to simply accept that the economy, and our level of economic activity, will be smaller and lower, until such time that lower-leveraged business activity grows back to GDP and employment levels earlier seen with higher leverage?
Anything done in the meantime to simply "create jobs" or "provide credit" when these are not truly market-driven activities, will be, of necessity, temporary and market-distorting. What deserving business activity is awaiting credit?
Isn't the situation of our commercial banks one of having money for which there are few attractive opportunities to lend?
Isn't this week's Fed statement simply delaying the inevitable? That is, the return of economic activity, leverage, employment, and other related variables back to their deleveraged levels, until such time as genuine private capital investment underpins real economic growth, rather than false, government-stoked temporary inflation, job- and money-creation?
If our government institutions replicated their actions of 1981-82, rather than those of 1932-38, perhaps we would see a faster, healthier and more reliable end to the current recession, rather than the creation of an atmosphere of panic and deep crisis, where none exist.
By claiming that banking, economic activity, and housing are all in a deep crisis, our various governmental entities seem to be prolonging our economic difficulties. Why treat a recession as worse than it is, and ignore conventional, previously successful tools, like tax and spending cuts?
I think what we need is properly-scaled, fairly routine actions like those of 1981-82, which led the US out of that recession, rather than unusual, crisis-oriented actions like those of the 1930s, which we now know prolonged and deepened that depression, without ever actually ending it.
This morning's Wall Street Journal noted,
"But the Fed's statement Wednesday dropped any reference to the economy recovering "later this year," hinting at the reasons for its drastic move and a warning sign for anyone piling into stocks."
But, didn't Bernanke just appear on CBS' 60 Minutes last Sunday to spread the word that the US recession would be over later this year?
Am I to believe that, in only two days, the US economic picture has deteriorated so much? Or was Bernanke just lying, to spread confidence? Or, did he simply not really have a well-informed view on the economy?
Here's what else confuses me.
Essentially, beginning in the summer of 2007, with the collapse of two Bear Stearns mortgage-backed instrument mutual funds, there has been a global reduction in leverage. That is, the creation of debt capital by many parties began to be reversed, first by the reduction in the market values of such debt, and, subsequently, the failure of lenders to provide new cash in exchange for maturing debt of various types, especially short term notes financing entities such as mutual funds holding structured finance instruments of dubious value.
As such, we are in the midst of a rare, but clear global contraction of leverage.
Simultaneously, the US began to enter a naturally-occurring recession. Recessions occur periodically as a natural part of economic cycles. They cannot be avoided, but sometimes can be softened.
In this case, however, the combination of the global contraction of credit and the US recession have resulted in GDP and employment declines on an order similar to that of the 1981-82 US recession.
We didn't see an FDR-style New Deal in response to the Carter-induced 1981-82 recession. Spending didn't skyrocket.
In fact, President Reagan quickly moved to cut spending and tax rates. And that worked. Those actions laid the foundation for twenty years of healthy, productive US economic growth, during which the several recessions were relatively mild and short-lived.
What am I missing?
What has changed, besides the tendency of Americans to now believe panicky calls that the economic sky is falling?
Whether you believe Alan Greenspan's recent, continuing self-defense in the Wall Street Journal, that he was right, and Stanford's estimable economist, John Taylor, was and is wrong, or not, it's a fact that too-cheap money in the US, in the wake of the technology equity bubble collapse, led to irresponsible debt financing of risky mortgages.
I wrote recently, here and here, of the phenomenon which we are currently experiencing: the combination of global deleveraging and recession. In the second post, I noted,
"On one hand, there is, based upon the NBER's December statement based upon job losses, a US recession which began in late 2007.
However, within this recession is a secular trend of economic shrinkage that will not be reversed by anything but a return to higher leverage. Thus, no amount of unleveraged economic 'help' will reverse these losses and the accompanying fall in GDP growth.
Seen from this perspective, the only way in which a new, massive Federal stimulus package can provide 'recovery' is to substitute government-issued obligations to return US societal economic leverage back to the dangerous, unsustainable levels at which it was before the current crisis.
How is it that leverage undertaken by the private sector, and judged imprudent, can now be replaced with government-sourced leverage, in the form of either: 1) more printed money, or 2) increased sale of government debt, without creating even more risk by spending the money in less accountable, measurable ways through political channels?
The simple fact is that, for the US economy to lower its capital leverage, and adjust to that lower leverage level, some jobs and business activity will have to simply vanish and not return. Whatever economic level we enjoyed, from which our current recession guideposts are measured, it logically follows that we cannot return there anytime soon unless we collectively decide, as a society, to try to raise financial leverage back to what it was.
If we decide this is unwise, then we have to accept that unemployment will be higher, and business activity levels lower, as the marginal, leveraged activities have been eliminated with the fall in financial leverage.
There is no other way around this fact."
This week's indication by the Fed that it will use newly-printed money to buy Treasuries, and other, less-highly rated assets, in order to effectively provide leverage to the US economy, would seem to be returning us to exactly where we just came in mid-2007.
Why is it so hard for people to simply accept that the economy, and our level of economic activity, will be smaller and lower, until such time that lower-leveraged business activity grows back to GDP and employment levels earlier seen with higher leverage?
Anything done in the meantime to simply "create jobs" or "provide credit" when these are not truly market-driven activities, will be, of necessity, temporary and market-distorting. What deserving business activity is awaiting credit?
Isn't the situation of our commercial banks one of having money for which there are few attractive opportunities to lend?
Isn't this week's Fed statement simply delaying the inevitable? That is, the return of economic activity, leverage, employment, and other related variables back to their deleveraged levels, until such time as genuine private capital investment underpins real economic growth, rather than false, government-stoked temporary inflation, job- and money-creation?
If our government institutions replicated their actions of 1981-82, rather than those of 1932-38, perhaps we would see a faster, healthier and more reliable end to the current recession, rather than the creation of an atmosphere of panic and deep crisis, where none exist.
By claiming that banking, economic activity, and housing are all in a deep crisis, our various governmental entities seem to be prolonging our economic difficulties. Why treat a recession as worse than it is, and ignore conventional, previously successful tools, like tax and spending cuts?
I think what we need is properly-scaled, fairly routine actions like those of 1981-82, which led the US out of that recession, rather than unusual, crisis-oriented actions like those of the 1930s, which we now know prolonged and deepened that depression, without ever actually ending it.
Helicopter Ben's Latest Trillion
Yesterday's 2.1% rise in the S&P500 Index was mostly fueled by Fed chairman Ben Bernanke's promise to add a trillion dollars to the Fed's balance sheet via quantitative easing.
Faced with a 0% interest rate, all the Fed can now do is to pump money into the US and global financial markets by purchasing financial instruments.
But, as I wrote in this post earlier this month, where is the money coming from? By what means will investors continue to value US dollar obligations as the Federal Reserve either prints more money or borrows more money with which to buy more questionable assets from US financial institutions.
This approach may have led to a one-day equity market rally, but, longer term, it has to have inflationary implications. And that, of course, is bad for equities.
In a healthy US economy, or one in a normal recession, the Fed can command sufficient confidence to add liquidity to the economy without necessarily causing long term economic damage via inflation.
But the US economy is currently deleveraging in the midst of a recession. What Bernanke is proposing, in conjunction with the federal government's many spending plans in excess of several trillion dollars, is to essentially releverage our economy.
But isn't that what we now believe was a mistake? Private over-leveraging of our economy led to unsustainably low interest rates which fueled bad lending and overconsumption of housing.
Isn't Bernanke's solution of adding a trillion dollars to global capital markets just repeating, with government money, what was viewed as a mistake by private markets only last year?
Faced with a 0% interest rate, all the Fed can now do is to pump money into the US and global financial markets by purchasing financial instruments.
But, as I wrote in this post earlier this month, where is the money coming from? By what means will investors continue to value US dollar obligations as the Federal Reserve either prints more money or borrows more money with which to buy more questionable assets from US financial institutions.
This approach may have led to a one-day equity market rally, but, longer term, it has to have inflationary implications. And that, of course, is bad for equities.
In a healthy US economy, or one in a normal recession, the Fed can command sufficient confidence to add liquidity to the economy without necessarily causing long term economic damage via inflation.
But the US economy is currently deleveraging in the midst of a recession. What Bernanke is proposing, in conjunction with the federal government's many spending plans in excess of several trillion dollars, is to essentially releverage our economy.
But isn't that what we now believe was a mistake? Private over-leveraging of our economy led to unsustainably low interest rates which fueled bad lending and overconsumption of housing.
Isn't Bernanke's solution of adding a trillion dollars to global capital markets just repeating, with government money, what was viewed as a mistake by private markets only last year?
Wednesday, March 18, 2009
A Reader's Comment On My AFSCME & Pensions Post
My recent post concerning government employee and related unions and their inflated pensions drew a record number of visitors in the past few days. Thanks to the post being linked and/or copied on several other websites, there were 772 direct visits yesterday, with an unknown additional number of readers viewing the post by email or pasted copies on the other sites.
One reader left a comment that merits being reproduced here, for direct rebuttal. It's typical of the sort of rant one hears from uninformed, narrow-minded union members who tend to reject reality and view the situation through the lens of their own denials. The capitalization has been left as it appeared in the reader's original comment.
"AHEM...TRY GETTING YOUR FACTS STRAIGHT ABOUT THE MAJORITY OF IL. PENSIONERS AND the il pension sytem......know what you're talking about...
HERE'S THE TRUTH....... JUST DON'T BLAME THE ILLINOIS BUDGET CRISES ON THE PENSIONERS...OR THE PENSION SYSTEM...!
Debunking Illinois Pension Myths!.
Myth: Illinois has too many public employees.
Reality: Illinois actually ranks 49th among the states, next to last in the nation, in number of state employees per capita.Historically, Illinois has not been a high public employee head count state. Instead, Illinois is mostly a grant making state– that is, rather than hire state employees to provide services; Illinois disburses grants to independent providers such asLutheran Social Services or Catholic Charities, which in turn deliver the service to the public
Myth: Public employee benefits are too generous.
Reality: For most Illinois public employees, their pension is all they receive upon retirement – fully 78% are notcovered by and do not receive Social Security. This is unlike workers in the private sector, who receive both SocialSecurity and private retirement benefits.
4. Myth: Illinois’ current defined benefit system is too expensive.
Reality: The ‘normal cost’ of a pension system is the contribution required from an employer to fund the plan’s benefits.The weighted average ‘normal cost’ across all five Illinois pension systems, as a percentage of active members’ payroll,averages 9.13 percent. The national average for state and local government is 12.5 percent, placing the normal cost ofIllinois’ current defined benefit program far below the national average.IL PENSION SYSTEM BENEFITS ARE ONLY ABOUT 49TH AS GOOD AS OTHER STATE PENSIONSSTATE HAS A NUMBER OF EMPLOYEES FAR FAR BELOW OTHER STATESPENSIONS ARE ONLY 18K A YEAR AVERAGE AND BECAUSE OF PENSION SYSTEM RULES... 78 % HAVE NO SOCIAL SECURITY EITHER....!y
J. Allaman, "
M. Allaman makes a number of errors of logic.
First, simply to allege that because a group of people don't qualify for Social Security says nothing about their other pension arrangements.
Neither does the number of a state's employees deal with the richness of their pensions, or the timeframe within which such pensions may be vested and become payable.
Without knowledge of the full distribution of pension costs, as a percentage of active governmental employee costs, we can't know whether any single state is "FAR BELOW" the costs of mean or median cost of state or local employee pensions.
Of course, discussing only costs of pension systems avoids, as you would expect, the discussion of the tax base available to service said pensions. The reader omits any comparison of Illinois' ability to actually pay its AFSCME- and related union employees. This, however, would seem to be of great import.
States with fewer resources would seem to be less able to afford rich public employee pensions.
Finally, merely referencing a mean point of a distribution of mostly poorly-managed states proves nothing.
I would venture to guess that the majority of readers of this blog who reside in the US are unhappy with their state governments, as well as the federal government.
To cite statistics of a group of mismanaged states hardly justifies lush pensions for public employees, especially when most of the private sector long ago moved to defined-contribution plans.
One reader left a comment that merits being reproduced here, for direct rebuttal. It's typical of the sort of rant one hears from uninformed, narrow-minded union members who tend to reject reality and view the situation through the lens of their own denials. The capitalization has been left as it appeared in the reader's original comment.
"AHEM...TRY GETTING YOUR FACTS STRAIGHT ABOUT THE MAJORITY OF IL. PENSIONERS AND the il pension sytem......know what you're talking about...
HERE'S THE TRUTH....... JUST DON'T BLAME THE ILLINOIS BUDGET CRISES ON THE PENSIONERS...OR THE PENSION SYSTEM...!
Debunking Illinois Pension Myths!.
Myth: Illinois has too many public employees.
Reality: Illinois actually ranks 49th among the states, next to last in the nation, in number of state employees per capita.Historically, Illinois has not been a high public employee head count state. Instead, Illinois is mostly a grant making state– that is, rather than hire state employees to provide services; Illinois disburses grants to independent providers such asLutheran Social Services or Catholic Charities, which in turn deliver the service to the public
Myth: Public employee benefits are too generous.
Reality: For most Illinois public employees, their pension is all they receive upon retirement – fully 78% are notcovered by and do not receive Social Security. This is unlike workers in the private sector, who receive both SocialSecurity and private retirement benefits.
4. Myth: Illinois’ current defined benefit system is too expensive.
Reality: The ‘normal cost’ of a pension system is the contribution required from an employer to fund the plan’s benefits.The weighted average ‘normal cost’ across all five Illinois pension systems, as a percentage of active members’ payroll,averages 9.13 percent. The national average for state and local government is 12.5 percent, placing the normal cost ofIllinois’ current defined benefit program far below the national average.IL PENSION SYSTEM BENEFITS ARE ONLY ABOUT 49TH AS GOOD AS OTHER STATE PENSIONSSTATE HAS A NUMBER OF EMPLOYEES FAR FAR BELOW OTHER STATESPENSIONS ARE ONLY 18K A YEAR AVERAGE AND BECAUSE OF PENSION SYSTEM RULES... 78 % HAVE NO SOCIAL SECURITY EITHER....!y
J. Allaman, "
M. Allaman makes a number of errors of logic.
First, simply to allege that because a group of people don't qualify for Social Security says nothing about their other pension arrangements.
Neither does the number of a state's employees deal with the richness of their pensions, or the timeframe within which such pensions may be vested and become payable.
Without knowledge of the full distribution of pension costs, as a percentage of active governmental employee costs, we can't know whether any single state is "FAR BELOW" the costs of mean or median cost of state or local employee pensions.
Of course, discussing only costs of pension systems avoids, as you would expect, the discussion of the tax base available to service said pensions. The reader omits any comparison of Illinois' ability to actually pay its AFSCME- and related union employees. This, however, would seem to be of great import.
States with fewer resources would seem to be less able to afford rich public employee pensions.
Finally, merely referencing a mean point of a distribution of mostly poorly-managed states proves nothing.
I would venture to guess that the majority of readers of this blog who reside in the US are unhappy with their state governments, as well as the federal government.
To cite statistics of a group of mismanaged states hardly justifies lush pensions for public employees, especially when most of the private sector long ago moved to defined-contribution plans.
Tuesday, March 17, 2009
On The AIG Bonuses
Yesterday's Wall Street Journal's headline article focused on the apparent fury caused by the payment of contractually-required bonuses to AIG personnel in the unit which triggered its near-insolvency and subsequent purchase by the Federal government.
Everybody from US Senators and Representatives of both parties, to talk show hosts such as Bill O'Reilly and Sean Hannity decried the payment of these bonuses. Iowa Republican Senator Chuck Grassley, in perhaps the worst excess, called for Ed Liddy and his executive team to publicly apologize, then either resign or "commit suicide."
This sort of demagoguery is precisely why government intrusion into private companies, whether they be publicly- or privately-held, is to be avoided at all costs.
The clearest, most illuminating explanation of the situation was provided yesterday by former federal judge Andrew Napolitano on Fox News. The judge, a Fox News contributor, laid the blame on the very same federal government whose senior members are now outraged at what they have wrought.
Napolitano noted that the Fed, in its rush to save AIG, twice, simply took over the firm, fired its CEO and board, asked Ed Liddy to head the firm, filled the board with its own slate of directors, and put no effective constraints on the arrangement. In short, as Napolitano explained, the government did no due diligence, did not become aware of the contractually-required bonus payments, and, therefore, did not take necessary steps to void them.
By the way, this is yet another instance in which a proper Chapter 11 filing would have allowed AIG to continue operating, but given a court-appointed referee the power to void or alter contracts such as the ones requiring the recent payments of several hundred million dollars of bonuses.
It's all well and good for various pundits to declare that without the federal intervention, these bonuses wouldn't even be payable. But that is precisely the point. Bankruptcy would have precluded this embarrassing example of federal ineptitude.
Now that taxpayers own AIG, we are being subjected to the rantings of the third-rate, relatively-unintelligent people we elected to Congress and the executive branch. Having just spent more than a trillion dollars of our money, between the so-called stimulus bill and the 'regular' budget, these public trough-feeders now express outrage- outrage!- at the requirement that their hasty actions have necessitated, i.e., paying a few comparatively measly hundred million dollars to employees of AIG.
But, if spending a trillion dollars on largely pork barrel projects is a good thing, isn't putting a few hundred million dollars into the pockets of AIG employees good, too?
Where's the consistency in the logic that certain spending waste is okay, but other spending that goes directly to consumers is not?
But, as judge Napolitano noted, the feds have only themselves to blame. They rushed in and unwisely seized AIG. Now, their hasty and ill-conceived action is generating unwanted consequences.
Is it too much to hope that maybe government officials will use existing means for processing insolvent companies in the future, i.e., Chapter 11, and refrain from ham-handedly seizing private property without due process?
Everybody from US Senators and Representatives of both parties, to talk show hosts such as Bill O'Reilly and Sean Hannity decried the payment of these bonuses. Iowa Republican Senator Chuck Grassley, in perhaps the worst excess, called for Ed Liddy and his executive team to publicly apologize, then either resign or "commit suicide."
This sort of demagoguery is precisely why government intrusion into private companies, whether they be publicly- or privately-held, is to be avoided at all costs.
The clearest, most illuminating explanation of the situation was provided yesterday by former federal judge Andrew Napolitano on Fox News. The judge, a Fox News contributor, laid the blame on the very same federal government whose senior members are now outraged at what they have wrought.
Napolitano noted that the Fed, in its rush to save AIG, twice, simply took over the firm, fired its CEO and board, asked Ed Liddy to head the firm, filled the board with its own slate of directors, and put no effective constraints on the arrangement. In short, as Napolitano explained, the government did no due diligence, did not become aware of the contractually-required bonus payments, and, therefore, did not take necessary steps to void them.
By the way, this is yet another instance in which a proper Chapter 11 filing would have allowed AIG to continue operating, but given a court-appointed referee the power to void or alter contracts such as the ones requiring the recent payments of several hundred million dollars of bonuses.
It's all well and good for various pundits to declare that without the federal intervention, these bonuses wouldn't even be payable. But that is precisely the point. Bankruptcy would have precluded this embarrassing example of federal ineptitude.
Now that taxpayers own AIG, we are being subjected to the rantings of the third-rate, relatively-unintelligent people we elected to Congress and the executive branch. Having just spent more than a trillion dollars of our money, between the so-called stimulus bill and the 'regular' budget, these public trough-feeders now express outrage- outrage!- at the requirement that their hasty actions have necessitated, i.e., paying a few comparatively measly hundred million dollars to employees of AIG.
But, if spending a trillion dollars on largely pork barrel projects is a good thing, isn't putting a few hundred million dollars into the pockets of AIG employees good, too?
Where's the consistency in the logic that certain spending waste is okay, but other spending that goes directly to consumers is not?
But, as judge Napolitano noted, the feds have only themselves to blame. They rushed in and unwisely seized AIG. Now, their hasty and ill-conceived action is generating unwanted consequences.
Is it too much to hope that maybe government officials will use existing means for processing insolvent companies in the future, i.e., Chapter 11, and refrain from ham-handedly seizing private property without due process?
Andrew Cuomo, Merrill Lynch, AIG & The Martin Act: So What?
It seems that New York Attorney General Andrew Cuomo has kept himself in the headlines since December, what with his tantrums over Merrill Lynch's early bonuses and, now, AIG's recent contractual bonus payments.
Aside from keeping his own name in the headlines, and bullying CEOs, I doubt Cuomo's antics materially improve anything about financial markets.
As I noted earlier in this post, Spitzer's sound and fury directed at the research practices of brokerages and investment banks almost a decade ago did nothing to prevent the structured-financial instrument-sourced problems we face today.
Other than lending the current New York AG a bully pulpit with which to make his name recognizable nationally, I don't think the Martin Act does anything relevant nor material. In fact, if anything, its enabling the AG to drag anyone in for questioning, without promise of charges to be filed, pretty much makes it a poster child for the worst in legislative excess and untrammeled exercise of government power in a truly horrific and improper manner.
I don't know if Cuomo is married and, if he is, he cheats on his wife. But in every other respect, he sure does resemble his predecessor, Eliot Spitzer, in grandstanding over financial sector activities taking place in his state.
We all know about New York's Martin Act. Well, perhaps I should write that we have all heard about it- til we're sick enough to vomit- but may not know its details. The link to the New York Observer article provides sufficient shorthand explanation for my purposes.
Back in 2001, Spitzer trained his Martin Act guns on various brokerage analysts, including, if memory serves, Mary Meeker and Henry Blodget, resulting in the "settlement" which created a few so-called independent research houses. And required then-existing investment banks to buy some research from these allegedly independent research sources, thus supposedly ending biased research, which was, in reality, marketing by another name, in their own departments.
But if the Martin Act, thanks to Spitzer, and, according to the Observer, Dinallo, had been effectively used in the early 2000s, why did we have the recent mortgage-securities financial meltdown?
What was the point of all that Martin Act-driven investment banking and research restructuring?
Nada.
Now we have Andy Cuomo going after John Thain, Ken Lewis, and AIG, all over bonus payments. The theory being, I guess, that companies which took federal money, either at the request of the feds, or as part of a shotgun-bailout, as at AIG, should not comply with pre-existing contractual obligations to pay promised bonuses.
What exactly does Cuomo do for anyone by tilting at windmills like the already-purchased Merrill Lynch, or the federal government-owned AIG?Aside from keeping his own name in the headlines, and bullying CEOs, I doubt Cuomo's antics materially improve anything about financial markets.
As I noted earlier in this post, Spitzer's sound and fury directed at the research practices of brokerages and investment banks almost a decade ago did nothing to prevent the structured-financial instrument-sourced problems we face today.
Other than lending the current New York AG a bully pulpit with which to make his name recognizable nationally, I don't think the Martin Act does anything relevant nor material. In fact, if anything, its enabling the AG to drag anyone in for questioning, without promise of charges to be filed, pretty much makes it a poster child for the worst in legislative excess and untrammeled exercise of government power in a truly horrific and improper manner.
Monday, March 16, 2009
The Coming AFSCME & Teacher Pension Storm
Today's Wall Street Journal featured an article in the Money & Investing section regarding US state and municipality pension-funding woes.
It is a topic for which I've been waiting to see become a mainstream media coverage.
Right after recounting some of the troubles various localities are having complying with pension funding for government and related workers, the article made a reference to voter outrage,
""It's going to be huge showdown" between taxpayers and public employees, said Susan Mangiero, president of Pension Governance Inc., a consulting and research firm in Trumbull, Conn. "The anger is more acute today when people are feeling economic hardship."
The specter of higher pension bills comes as many states and cities are struggling to balance their budgets or, in some cases, avoid drastic measures, such as filing for bankruptcy protection, amid falling tax revenue, foreclosures and rising unemployment costs."
I was discussing exactly this point with my business partner this weekend. I have friends who are teachers, and I firmly believe they are going to be in for a major disappointment by the end of twenty years. Especially the ones who are public school employees.
It won't be too long before a growing number of states' voters realize how much their governments have given away in unsustainable "30-and-out" or less packages to various governmental employees over the decades since WWII.
Side by side with unions such as the UAW, Teamsters and Steelworkers, AFSCME members reaped huge pension promises from governments during an era from the 1950s-1970s when the US experienced a temporary growth bubble resulting from the absence of competition from WWII losers Japan and Germany. Beginning in the early 1970s, American industry began to suffer from these competitors, but the prior decades' pension promises, made by dimwitted, myopic CEOs, governors and legislators, remained.
Now that global competition is a major force influencing the movement of industries among countries and the compensation of employees in many industries, many pension promises made long ago are simply unrealizable.
Some of the solutions being advocated by panicked governments are seen by AFSCME as extreme. To wit, from the Journal piece,
"Proposals pending elsewhere would move new public employees to a 401(k) plan. Some state lawmakers believe they would save money with a 401(k), which requires employees to pay a higher percentage of the contribution rate than they do under defined-benefit plans, said Alicia Munnell, director of the Center for Retirement Research at Boston College.
Municipal unions said they would oppose such a shift, and note that such efforts have failed in the past, including four years ago in California. "It's not a program that is attractive to state employees," said Richard Ferlauto, director of corporate governance at the American Federation of State, County and Municipal Employees. "It's doesn't work because you wouldn't be able to hire people."
But soaring pension costs are emboldening critics of public plans. They said local governments cannot afford to pay what are often perceived as generous benefits to government employees when the 401(k) plans held by others have shrunk, and as taxpayers already are looking at higher taxes and fewer services.
The pain is about to start in Wisconsin. The state has an unusual policy of adjusting the amount of benefits paid based on the pension fund's performance. Now, for the first time in 25 years, the majority of retirees will receive a benefit reduction.
Some states may decide it is easier to cut public employee benefits than it is to raise taxes, especially during hard economic times. In the Virginia General Assembly, a bill would freeze the current pension plan starting in July and replace it with a 401(k) plan for all future hires.
A state senator in Pennsylvania introduced a similar bill in 2007, and it went nowhere. But this year it is attracting attention.
If employer contribution rates in Pennsylvania jump as high as 28%, "the pension system is just not manageable," said Pat Browne, the Republican state senator who sponsored the bill. He said he expects it to be voted on this year.
"We need to get it passed quickly if we are to phase out the existing plan in time to make an impact.""
As long ago as the summer of 2006, my father, then residing in Illinois, told me that the state was already effectively bankrupt, if you put its total pension-related obligations up against the state's earning power for the foreseeable future.
My partner and I have debated for months what the implication of a California or Illinois bankruptcy would be. What happens when citizens leave a state in droves, while the state's obligations remain?
In one of the larger unintended consequences of federal mortgage policy mistakes of the past decade, the looming pension shortfalls at the state, county and municipal levels across America are going to pit voters against government employees.
Why should AFSCME members remain unaffected, while their private-sector union brethren have taken haircuts, both in and out of bankruptcy? They won't.
Do you think government union members will seriously risk striking, only to see their jobs given to new applicants during this recession, as state and local legislators move to either file bankruptcy and tear up the old contracts and pensions, or simply hire new replacements on the condition that they accept 401Ks in lieu of defined benefit pension plans?
That's really the rub, isn't it? With most of the US workforce losing defined benefit pensions, why should a select, privileged few enjoy such perks, amidst a nationwide asset-value meltdown?
Look for a struggle between state and local governments and AFSCME of epic proportions, beginning.....now.
It is a topic for which I've been waiting to see become a mainstream media coverage.
Right after recounting some of the troubles various localities are having complying with pension funding for government and related workers, the article made a reference to voter outrage,
""It's going to be huge showdown" between taxpayers and public employees, said Susan Mangiero, president of Pension Governance Inc., a consulting and research firm in Trumbull, Conn. "The anger is more acute today when people are feeling economic hardship."
The specter of higher pension bills comes as many states and cities are struggling to balance their budgets or, in some cases, avoid drastic measures, such as filing for bankruptcy protection, amid falling tax revenue, foreclosures and rising unemployment costs."
I was discussing exactly this point with my business partner this weekend. I have friends who are teachers, and I firmly believe they are going to be in for a major disappointment by the end of twenty years. Especially the ones who are public school employees.
It won't be too long before a growing number of states' voters realize how much their governments have given away in unsustainable "30-and-out" or less packages to various governmental employees over the decades since WWII.
Side by side with unions such as the UAW, Teamsters and Steelworkers, AFSCME members reaped huge pension promises from governments during an era from the 1950s-1970s when the US experienced a temporary growth bubble resulting from the absence of competition from WWII losers Japan and Germany. Beginning in the early 1970s, American industry began to suffer from these competitors, but the prior decades' pension promises, made by dimwitted, myopic CEOs, governors and legislators, remained.
Now that global competition is a major force influencing the movement of industries among countries and the compensation of employees in many industries, many pension promises made long ago are simply unrealizable.
Some of the solutions being advocated by panicked governments are seen by AFSCME as extreme. To wit, from the Journal piece,
"Proposals pending elsewhere would move new public employees to a 401(k) plan. Some state lawmakers believe they would save money with a 401(k), which requires employees to pay a higher percentage of the contribution rate than they do under defined-benefit plans, said Alicia Munnell, director of the Center for Retirement Research at Boston College.
Municipal unions said they would oppose such a shift, and note that such efforts have failed in the past, including four years ago in California. "It's not a program that is attractive to state employees," said Richard Ferlauto, director of corporate governance at the American Federation of State, County and Municipal Employees. "It's doesn't work because you wouldn't be able to hire people."
But soaring pension costs are emboldening critics of public plans. They said local governments cannot afford to pay what are often perceived as generous benefits to government employees when the 401(k) plans held by others have shrunk, and as taxpayers already are looking at higher taxes and fewer services.
The pain is about to start in Wisconsin. The state has an unusual policy of adjusting the amount of benefits paid based on the pension fund's performance. Now, for the first time in 25 years, the majority of retirees will receive a benefit reduction.
Some states may decide it is easier to cut public employee benefits than it is to raise taxes, especially during hard economic times. In the Virginia General Assembly, a bill would freeze the current pension plan starting in July and replace it with a 401(k) plan for all future hires.
A state senator in Pennsylvania introduced a similar bill in 2007, and it went nowhere. But this year it is attracting attention.
If employer contribution rates in Pennsylvania jump as high as 28%, "the pension system is just not manageable," said Pat Browne, the Republican state senator who sponsored the bill. He said he expects it to be voted on this year.
"We need to get it passed quickly if we are to phase out the existing plan in time to make an impact.""
As long ago as the summer of 2006, my father, then residing in Illinois, told me that the state was already effectively bankrupt, if you put its total pension-related obligations up against the state's earning power for the foreseeable future.
My partner and I have debated for months what the implication of a California or Illinois bankruptcy would be. What happens when citizens leave a state in droves, while the state's obligations remain?
In one of the larger unintended consequences of federal mortgage policy mistakes of the past decade, the looming pension shortfalls at the state, county and municipal levels across America are going to pit voters against government employees.
Why should AFSCME members remain unaffected, while their private-sector union brethren have taken haircuts, both in and out of bankruptcy? They won't.
Do you think government union members will seriously risk striking, only to see their jobs given to new applicants during this recession, as state and local legislators move to either file bankruptcy and tear up the old contracts and pensions, or simply hire new replacements on the condition that they accept 401Ks in lieu of defined benefit pension plans?
That's really the rub, isn't it? With most of the US workforce losing defined benefit pensions, why should a select, privileged few enjoy such perks, amidst a nationwide asset-value meltdown?
Look for a struggle between state and local governments and AFSCME of epic proportions, beginning.....now.
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