Worth reading

[oldguy]

[url=http://www.bloomberg.com/apps/news?pid=20601109&sid=aaQDUAN2hm5Q&] No Sign of `Sell' on Wall Street as Analysts Say: `Buy,' `Hold'
[/url]

Anybody who followed the advice of Wall Street's top-ranked analysts, none of whom would say ``sell'' for a single company in the securities industry this year, is reckoning with subprime-like losses.

[skepticus]

William Safire, New York Times

Subprime used to be called below-prime, but that sounded too understandable for bankers,

Safire skewers the above expression, credit that "crunches", and others.

http://www.iht.com/articles/2007/12/09/ ... safire.php

[Icarus]

But there is a decisive difference between the loans supplied by private lenders and the loans supplied by a government agency. Each private lender risks his own funds. (A banker, it is true, risks the funds of others that have been entrusted to him; but if money is lost he must either make good out of his own funds or be forced out of business.) When people risk their own funds they are usually careful in their investigations to determine the adequacy of the assets pledged and the business acumen and honesty of the borrower.

If the government operated by the same strict standards, there would be no good argument for its entering the field at all. Why do precisely what private agencies already do? But the government almost invariably operates by different standards.

Not sure that this insight has stood the test of time

[Bylo Selhi]

How to Beat the Next Bubble [my bold]

Fool me once, shame on you. Fool me twice, shame on me. As stocks collapsed earlier this decade, investors vowed never again to be so reckless. Yet, within a few short years, folks were rolling the dice once more, this time flipping condominiums and making massive bets on rental real estate. You've got to wonder: How could this possibly happen?...

It is easy to decry the foolishness of those who chased the hot returns of Internet stocks and Florida condos. Yet, at the time, there was a heap of uncertainty about the direction of these markets. Some pundits declared that stocks and real estate were in a bubble years before these markets collapsed. Other experts remained full-throated bulls to the bitter end.

"Yes, bubbles happen," says Meir Statman, a finance professor at Santa Clara University in California. "No, you can't tell when to get in and get out. You're better off just staying on the rollercoaster." If you stay on the rollercoaster, however, you want to stay on with a well-diversified portfolio that includes stocks, bonds and real estate. "If you concentrate all your investments in energy stocks, or technology, or initial public offerings, you will be a big winner -- or a big loser," Prof. Statman warns. "It's true that diversification ensures mediocrity. But mediocrity is better than being a big loser."

[randomwalker]

A Lurid Aftermath to a Hedge Fund Manager’s Life
By ANDREW ROSS SORKIN
Published: December 4, 2007

"JUPITER, Fla. — A life of private jets and black-tie balls ended with Seth Tobias, a wealthy investment manager and a familiar presence on CNBC, floating face down in the swimming pool of his mansion here."

http://www.nytimes.com/2007/12/04/busin ... eth_tobias

[Nemo2]

A Lurid Aftermath to a Hedge Fund Manager’s Life
By ANDREW ROSS SORKIN
Published: December 4, 2007

"JUPITER, Fla. — A life of private jets and black-tie balls ended with Seth Tobias, a wealthy investment manager and a familiar presence on CNBC, floating face down in the swimming pool of his mansion here."

http://www.nytimes.com/2007/12/04/busin ... eth_tobias

$9,628 to drain a pool? That's outrageous!

[parvus]

A Lurid Aftermath to a Hedge Fund Manager’s Life
By ANDREW ROSS SORKIN
Published: December 4, 2007

"JUPITER, Fla. — A life of private jets and black-tie balls ended with Seth Tobias, a wealthy investment manager and a familiar presence on CNBC, floating face down in the swimming pool of his mansion here."

http://www.nytimes.com/2007/12/04/busin ... eth_tobias

$9,628 to drain a pool? That's outrageous!

I'd say. After $46,000 a month in living expenses for the spousal unit, the $9,628 sounds like the standard 2% annual asset maintenance fee for draining and resurfacing. Where's the 20% bonus for outperformance in trying circumstances? ...

[Bylo Selhi]

Bring Fresh Eyes to Your Portfolio in 2008

Think differently in 2008. Looking for a New Year's resolution for tomorrow evening? Forget exercising or dieting. Instead, next year, throw out the conventional financial wisdom and commit to looking at your portfolio with fresh eyes. On that score, here are nine suggestions...

[Norbert Schlenker]

Theoretically regarding politics but one can hardly argue it doesn't apply in finance.

...people who make prediction their business—people who appear as experts on television, get quoted in newspaper articles, advise governments and businesses, and participate in punditry roundtables—are no better than the rest of us. When they’re wrong, they’re rarely held accountable, and they rarely admit it, either. They insist that they were just off on timing, or blindsided by an improbable event, or almost right, or wrong for the right reasons. They have the same repertoire of self-justifications that everyone has, and are no more inclined than anyone else to revise their beliefs about the way the world works, or ought to work, just because they made a mistake. No one is paying you for your gratuitous opinions about other people, but the experts are being paid, and Tetlock claims that the better known and more frequently quoted they are, the less reliable their guesses about the future are likely to be. The accuracy of an expert’s predictions actually has an inverse relationship to his or her self-confidence, renown, and, beyond a certain point, depth of knowledge. People who follow current events by reading the papers and newsmagazines regularly can guess what is likely to happen about as accurately as the specialists whom the papers quote. Our system of expertise is completely inside out: it rewards bad judgments over good ones...

http://www.newyorker.com/archive/2005/1 ... rbo_books1

[NormR]

Theoretically regarding politics but one can hardly argue it doesn't apply in finance.

...people who make prediction their business—people who appear as experts on television, get quoted in newspaper articles, advise governments and businesses, and participate in punditry roundtables—are no better than the rest of us. When they’re wrong, they’re rarely held accountable, and they rarely admit it, either. They insist that they were just off on timing, or blindsided by an improbable event, or almost right, or wrong for the right reasons. They have the same repertoire of self-justifications that everyone has, and are no more inclined than anyone else to revise their beliefs about the way the world works, or ought to work, just because they made a mistake. No one is paying you for your gratuitous opinions about other people, but the experts are being paid, and Tetlock claims that the better known and more frequently quoted they are, the less reliable their guesses about the future are likely to be. The accuracy of an expert’s predictions actually has an inverse relationship to his or her self-confidence, renown, and, beyond a certain point, depth of knowledge. People who follow current events by reading the papers and newsmagazines regularly can guess what is likely to happen about as accurately as the specialists whom the papers quote. Our system of expertise is completely inside out: it rewards bad judgments over good ones...

http://www.newyorker.com/archive/2005/1 ... rbo_books1

Tetlock’s book, “Expert Political Judgment", is very good.

[izzy]

Theoretically regarding politics but one can hardly argue it doesn't apply in finance.

...people who make prediction their business—people who appear as experts on television, get quoted in newspaper articles, advise governments and businesses, and participate in punditry roundtables—are no better than the rest of us. When they’re wrong, they’re rarely held accountable, and they rarely admit it, either. They insist that they were just off on timing, or blindsided by an improbable event, or almost right, or wrong for the right reasons. They have the same repertoire of self-justifications that everyone has, and are no more inclined than anyone else to revise their beliefs about the way the world works, or ought to work, just because they made a mistake. No one is paying you for your gratuitous opinions about other people, but the experts are being paid, and Tetlock claims that the better known and more frequently quoted they are, the less reliable their guesses about the future are likely to be. The accuracy of an expert’s predictions actually has an inverse relationship to his or her self-confidence, renown, and, beyond a certain point, depth of knowledge. People who follow current events by reading the papers and newsmagazines regularly can guess what is likely to happen about as accurately as the specialists whom the papers quote. Our system of expertise is completely inside out: it rewards bad judgments over good ones...

http://www.newyorker.com/archive/2005/1 ... rbo_books1

Actually this applies in all fields of endeavour.These "experts" are usually Academics who are readily available to provide an opinion on short notice.In fact of course the less occupied they are with matters of substance the more they are available.Usually they hold some form of University position which provides lots of free time..but endows them with a spurious aura of expertise.

In connection with this topic two sayings come to mind

1."Them that can do ,them that can't teach(or pontificate)--"

2."Bullshit baffles brains"

[parvus]

What the Pros Are Saying

ROBERT ARNOTT, CHAIRMAN, RESEARCH AFFILIATES
Widely followed on both Wall Street and in academia, Arnott has a reputation for thinking outside the box. While most prognosticators expect stock prices, corporate earnings, and economic growth to post small gains in 2008, Arnott, whose money management firm is in Pasadena, Calif., thinks all three have nowhere to go but down. Why? He expects sliding home prices and rising mortgage defaults to prompt consumers to curtail spending sharply in 2008, pushing the economy into a mild recession. Moreover, he adds, with "wages at their lowest percent of GDP ever" and corporate profits at their highest level in 40 years, "how likely is it that we will see earnings surge from current levels without a political backlash?"

Arnott advises riding out the storm in a portfolio that's 50% in bonds and 20% in cash. While most on Wall Street dismiss the threat of inflation, he recommends TIPS and commodities, in part to guard against the inflationary impact of a declining dollar.

He recommends putting just 20% into U.S. and international stocks. For now, he favors one of the most defensive sectors, utilities. But he predicts a "marvelous recovery" in financial stocks in the second half of 2008. Although Arnott likes emerging markets, he prefers the debt to the equity, since he believes the former is more reasonably valued. "A lot of these countries are in better fiscal condition than the U.S.," he says.

Ah, to be an Arnott-naut, but absent those kinds of funds, I guess I'm a not-naut, net-net.

[Shakespeare]

I just finished Lowenstein's When Genius Failed, on the LTCM collapse. A fascinating read, with some relevance to the current sub-prime crisis.

The hubris of the firm was the belief that their models would always succeed. When liquidity dried up and the valuations were off more than the theory predicted, the leverage killed them.

[parvus]

Lowenstein has to be one of the finest (and most accessible) financial books I've ever read because he doesn't rely on overheated adjectives but explains the math behind the blow up.

What is alarming is that, IIRC, the prime brokers for LTCM didn't know who was holding what, who the other counterparties were, and what the consequences of immediately unwinding an OTC derivative portfolio would be. Sorta like ABCP and SIVs.

[George$]

I just finished Lowenstein's When Genius Failed, on the LTCM collapse. A fascinating read, with some relevance to the current sub-prime crisis.

The hubris of the firm was the belief that their models would always succeed. When liquidity dried up and the valuations were off more than the theory predicted, the leverage killed them.

Great book.

As I recall there was real poetic justice in the demise - because their greed played such a big part in the downfall.
A while before the black swan hit them they kicked out half of their money partners - figuring they did NOT need their funds as a backstop to a downturn and their % returns would be bigger on half the capital.

As I recall if they had not downsized they might have withstood the downturn and survived.

[parvus]

Speaking of the hubris of models, I've posted this before, but it repays rereading — if only for the dark irony: A Tax Shelter, Deconstructed

TAX sheltering is one of those activities that people normally carry on behind closed doors. But in a federal courthouse in New Haven, the doors have been thrown wide open and bright lights have been trained on one room in the house of Mammon that is tax avoidance in America today.

Being revealed is a plan arranged by a great economic mind, Myron S. Scholes, winner of a Nobel in economics, while a partner in the giant hedge fund, Long-Term Capital Management. The partners hoped to recycle a tax shelter that had already enabled Rhône-Poulenc Rorer, Electronic Data Systems and a half-dozen other major corporations escape taxes on a total of $375 million in earnings. Dr. Scholes sought to duplicate the maneuver for his investment group, on profits that also totaled $375 million.

Long-Term Capital, of course, would collapse in 1998 -- a fall so spectacular that the Federal Reserve established a bailout to avert what it feared would become a worldwide financial panic. (The short, expensive life of Long-Term Capital and the story of its famous founders were captured in the title of a best-selling book by Roger Lowenstein, ''When Genius Failed.'')

For Dr. Scholes, Long-Term Capital Holdings v. United States is a test of whether his mastery of economics and tax law led him along a slippery slope toward an embarrassing and costly confrontation with the government. The trial will determine whether he and his partners must pay $40 million in taxes and $16 million in penalties and interest.

<snip>
Despite its name, Long-Term Capital engaged mostly in rapid-fire trading in and out of stocks, bonds and synthetic forms of ownership like futures contracts and sometimes-exotic derivatives. The firm's traders, in Greenwich, Conn., produced phenomenal returns -- 28.1 percent in 1994, 58.8 percent in 1995 and 57.5 percent in 1996.

But that very success also created what Dr. Scholes saw as a problem: a huge income tax bill. Short-term trading profits were taxed at the time at 39.6 percent, the highest income tax rate. The prospect of losing such a big part of their windfall did not please Long-Term Capital investors.

One day in March 1996, a possible solution came into view. From the moment that Dr. Scholes learned of it, he understood its potential to defer, even eliminate, taxes on more than one-third of a billion dollars of profits.

The tax shelter did not come to his firm by way of strangers, but from Babcock & Brown, an investment bank in San Francisco whose general counsel, Jan Blaustein, had been the girlfriend of Dr. Scholes for more than two years. They would marry in 1998.

The shelter was in the form of stock, in companies like Electronic Data Systems, Rhône Poulenc and Qwest, that had a combined market value of about $4 million but that also had a potential worth of more than 90 times that to Long-Term Capital's partners.

The stock had been assigned by Babcock & Brown to three London investors, who did not have to pay American taxes, through a series of multilayered leasing arrangements that gave them tax deductions worth $375 million. The Londoners could not use the deductions themselves, but they could sell the stock, and the deductions that went with them, to American investors.

The Londoners would make money on the transaction, the American investors would eliminate their tax liability on up to $371 million in stock-trading profit. And Babcock & Brown and its network of lawyers, banks and other associates would earn big fees. Everybody would be happy -- everybody, that is, except the federal government.

<snip>
Then came the coup de grâce. Mr. Hurley slipped in a question about whether Dr. Scholes had sought, and received, a bonus for himself of several million dollars for his role in strengthening the tax shelter. Dr. Scholes confirmed that he had, but that it had been paid in extra partnership shares, not cash.

Counting his bonus, the tax shelter cost far more than its economic value of $900,000 in fees, making it hard to prove it met the economic-substance requirement.

On the witness stand, Dr. Scholes appeared to realize how Mr. Hurley's questioning had shown that apart from the tax benefits, the deal could not have come to close to turning a profit, in large part because he took that bonus.

''I'm being trapped here,'' he blurted out.

[Mike Schimek]

From the Arnott post;

"He recommends putting just 20% into U.S. and international stocks. For now, he favors one of the most defensive sectors, utilities. But he predicts a "marvelous recovery" in financial stocks in the second half of 2008. Although Arnott likes emerging markets, he prefers the debt to the equity, since he believes the former is more reasonably valued. "A lot of these countries are in better fiscal condition than the U.S.," he says."

It's stuff like this that I just dont get. He basically says:
1. Stay out of the U.S.
2. Buy a bunch of bonds (probably 6% yield or less)
3. Keep lots of cash

Then he says...financials are going to have a "marvelous recovery" in just 6 months.

??? Duh ??? So he recommends buying bonds at 6% and staying out of the U.S. and holding cash (presumably at 4%ish)?

I'd have to assume a "marvelous recovery" exceeds the 6% he's getting on his bonds. So in essence, he says dont buy the financials that I believe are going to recover marvelously, but buy a bunch of 6% bonds, 4% money market and international stocks.

[parvus]

I quite like reading Arnott (along with Sprott and Bill Gross at Pimco). It satisfies my dour streak. But what I suspect Arnott is getting at is that there are a lot more writedowns in the financials ahead, before the books get cleared of non-performing loans and busted securitizations. (Let's hope the U.S. banks employ better accountants than Nortel did; I've forgotten, has Nortel finally gotten all of its books in order?)

For more on how Arnott thinks, and why stocks in aggregate behave as they do, I always go back to this piece: What Risk Premium is 'Normal'?

To the three points you enumerate, I think he's saying the U.S. is not cheap, if only because corporate earnings can't increase at the rate they have been; bond investors have been doing better than equity investors (the S&P 500 returned roughly 3.5% this year while 10-year Treasuries earned 8.67%); finally, keep lots of cash for when P/Es are truly beaten down ... which may be later than the six months he predicts, depending on whether a recession happens and how severe it is.

[scomac]

5 Stages of Market Grief

I found this op-ed to be particularly timely and a pretty good summation of what we are currnetly working through (I believe).

[tidal]

I just finished Lowenstein's When Genius Failed, on the LTCM collapse. A fascinating read, with some relevance to the current sub-prime crisis.

The hubris of the firm was the belief that their models would always succeed. When liquidity dried up and the valuations were off more than the theory predicted, the leverage killed them.

I enjoyed Lowenstein as well. If you liked that, I would recommend Frank Portnoy's Infectious Greed: How Deceit and Risk Corrupted the Financial Markets (now in paperback... also, make sure it is Portnoy's book, not Nofsinger's of the same name and publication vintage)...

[randomwalker]

Inside a stock fraud
Jan 13, 2008 04:30 AM
Tony Van Alphen
Business Reporter
thestar.com

"Michael Lee Mitton... For years, he had prospered on the then-Vancouver Stock Exchange, a noted playpen for stock hustlers, of which Mitton was one of the most notorious. By the end of 2000, he had already piled up 103 convictions in Canada, primarily related to his specialty – stock fraud."

http://www.thestar.com/Business/article/293522

[skepticus]

Regulators should intervene in bankers’ pay

says Martin Wolf, Financial Times

Published: January 15 2008

http://www.ft.com/cms/s/0/73a891b4-c38d ... fd2ac.html

[j45]

Jarislowsky says.....

[Bylo Selhi]

How do you keep your head, when all about you are losing theirs?... My advice: Calculate what portion of your portfolio is in stocks and stock funds. After the recent market carnage, you likely have far less in stocks than your original allocation called for -- which means it's time to start buying. What if stocks keep falling? You keep buying, so you maintain a full stock-market weighting. That's what I plan to do.

(I think it's a bit too early to start buying stocks but then again I haven't attended any Timer's Anonymous meetings today.)

[ukridge]

Don''t know anything about this Nancy lady, but here is her recommended reading list:

http://ca.pfinance.yahoo.com/ca_finance_general/503/the-investors-bookshelf

- ukridge.