Tuesday, March 31, 2009

"My Manhattan Project"

In New York Magazine, Michael Osinsky, the creator of a software program that facilitated mortgage securitization, looks back on his career, "My Manhattan Project: How I helped build the bomb that blew up Wall Street." (Hat Tip: Real Clear Markets). An interesting read, though the title overstates the case. This excerpt from the piece is closer to the mark:

The packaging of heterogeneous home mortgages into uniform securities that can be accurately priced and exchanged has been singled out by many critics as one of the root causes of the mess we’re in. I don’t completely disagree. But in my view, and of course I’m inescapably biased, there’s nothing inherently flawed about securitization. Done correctly and conservatively, it increases the efficiency with which banks can loan money and tailor risks to the needs of investors. Once upon a time, this seemed like a very good idea, and it might well again, provided banks don’t resume writing mortgages to people who can’t afford them.

Osinksy is right that there's nothing inherently wrong with securitization, and critics of the packaging of heterogeneous mortgages are right too. A security created from a pool of homogeneous mortgages -- say, $200k 30 year fixed rate mortgages with loan-to-value ratios of 80% and borrower credit scores of 720+ -- wouldn't be inherently flawed. It would also be a lot easier for investors to price.

The image above is from the New York Magazine article.

South Park's Take on the Financial Crisis

Hat tip to the Atlantic's Business Channel. This is pretty funny -- pay close attention to the choices on the chart at the end.

Monday, March 30, 2009

Hussman Ties It All Together

In his latest market commentary ("On the Urgency of Restructuring Bank and Mortgage Debt, and of Abandoning Toxic Asset Purchases"), Dr. Hussman lucidly recaps his previous objections to the government's responses to the financial crisis and offers alternative solutions. On the issue of credit default swaps, Hussman writes that the government ought to,

[L]egislate a restriction on the use of credit default swaps (essentially insurance contracts against the failure of a company's bonds), requiring that such swaps may be used for bona-fide hedging purposes only. That is, a credit default swap could not be entered for purely speculative purposes, but only to offset the default risk of the same or similar bonds held by the investor.

This is similar to George Soros's recent comments on credit default swaps (e.g., in this Wall Street Journal op/ed last week, "One Way to Stop Bear Raids"), and it's consistent with the long-standing doctrine in the insurance business that only those with an "insurable interest" (i.e., something to lose if something bad happens to the insured) are allowed to take out insurance policies1. This reduces the chance that a policy holder will try to deliberately damage the insured in order to collect on the insurance policy.

Hussman covers a lot more ground in this week's commentary, and his essay is worth reading in full.

1In the early days of the insurance business, this doctrine wasn't in force, and it was possible to, for example, take out a life insurance policy on a complete stranger, despite the perverse incentives that would create.

Saturday, March 28, 2009

Freeman Dyson in Tomorrow's NY Times Magazine

Tomorrow's New York Times Magazine features a cover article on the physicist Freeman Dyson, by Nicholas Dawidoff, "The Civil Heretic". The eighty five year old Dyson has led an eventful life so far, and the article covers a lot of its interesting parts. Below are a few brief excerpts of Dyson on Al Gore, James Hansen, and coal, followed by a brief note about Dyson's artistic sensibilities.

Among those he considers true believers, Dyson has been particularly dismissive of Al Gore, whom Dyson calls climate change’s “chief propagandist,” and James Hansen, the head of the NASA Goddard Institute for Space Studies in New York and an adviser to Gore’s film, “An Inconvenient Truth.” Dyson accuses them of relying too heavily on computer-generated climate models that foresee a Grand Guignol of imminent world devastation as icecaps melt, oceans rise and storms and plagues sweep the earth, and he blames the pair’s “lousy science” for “distracting public attention” from “more serious and more immediate dangers to the planet.”


For Hansen, the dark agent of the looming environmental apocalypse is carbon dioxide contained in coal smoke. Coal, he has written, “is the single greatest threat to civilization and all life on our planet.” Hansen has referred to railroad cars transporting coal as “death trains.” Dyson, on the other hand, told me in conversations and e-mail messages that “Jim Hansen’s crusade against coal overstates the harm carbon dioxide can do.” Dyson well remembers the lethal black London coal fog of his youth when, after a day of visiting the city, he would return to his hometown of Winchester with his white shirt collar turned black. Coal, Dyson says, contains “real pollutants” like soot, sulphur and nitrogen oxides, “really nasty stuff that makes people sick and looks ugly.” These are “rightly considered a moral evil,” he says, but they “can be reduced to low levels by scrubbers at an affordable cost.” He says Hansen “exploits” the toxic elements of burning coal as a way of condemning the carbon dioxide it releases, “which cannot be reduced at an affordable cost, but does not do any substantial harm.”


Dyson has great affection for coal and for one big reason: It is so inexpensive that most of the world can afford it. “There’s a lot of truth to the statement Greens are people who never had to worry about their grocery bills,” he says. (“Many of these people are my friends,” he will also tell you.) To Dyson, “the move of the populations of China and India from poverty to middle-class prosperity should be the great historic achievement of the century. Without coal it cannot happen.” That said, Dyson sees coal as the interim kindling of progress. In “roughly 50 years,” he predicts, solar energy will become cheap and abundant, and “there are many good reasons for preferring it to coal.”

The article notes in passing that Freeman Dyson disliked John Adams's opera "Dr. Atomic". That puts me in good company, I guess: I turned the PBS simulcast of this opera off after a half hour. Below is the trailer for the Metropolitan Opera's production of Dr. Atomic.

British PM Brown Getting Excoriated by Daniel Hannan

For those who haven't seen this yet, below is a brief video of Daniel Hannan, a British Member of the European Parliament, tearing into British Prime Minister Gordon Brown earlier this week at European Parliament in Strasbourg.

Friday, March 27, 2009

Lula: "White People with Blue Eyes" Caused Financial Crisis

From today's Financial Times ("Brazil president blames white people for crisis"):

Brazil's President Luiz Inácio Lula da Silva yesterday blamed the global economic crisis on "white people with blue eyes" and said it was wrong that black and indigenous people should pay for white people's mistakes, writes Jonathan Wheatley .

Speaking in Brasília at a joint press conference with Gordon Brown, the UK prime minister, Mr Lula da Silva told reporters: "This crisis was caused by the irrational behaviour of white people with blue eyes, who before the crisis appeared to know everything and now demonstrate that they know nothing."

He added: "I do not know any black or indigenous bankers so I can only say [it is wrong] that this part of mankind which is victimised more than any other should pay for the crisis."

Lula ought to know about the victimization of black and indigenous people. After all, Brazil was the last country in the Western Hemisphere to abolish black slavery, and as recently as five years ago, Brazil acknowledged that tens of thousands of its indigenous citizens were working as slave laborers. It's interesting that Lula says he doesn't know of any black or indigenous bankers though. Perhaps all the bankers in Brazil are white, but this isn't the case in the United States. We've had African Americans at the highest levels of the financial industry -- for example, Stan O'Neal as CEO of Merrill Lynch, and Don Parsons as a director (and soon to be chairman) of Citigroup. We've also had people of all races and backgrounds involved in originating toxic mortgages -- including Brazilians. In fact, two years ago, the Wall Street Journal reported on a "mostly Brazilian ring that allegedly conspired to defraud people by persuading them to buy homes they couldn't afford" ("How the Subprime Mess Hit Poor Immigrant Groups"). Here's an excerpt from that article:

SOUTH SAN FRANCISCO, Calif. -- Naira Costa, a 27-year-old housekeeper, met her husband at Message of Peace, an evangelical church that is a spiritual and social haven for Brazilians in the Bay Area. When the couple considered buying a house a few years ago, the church's head deacon, Soario Santos, ministered to that need, too.

Mr. Santos, a fellow Brazilian, served the Pentecostal church on nights and weekends. During the day, he worked as a loan officer at a mortgage brokerage owned by a Brazilian immigrant. Mr. Santos and other church officers also working at the same real-estate business routinely approached churchgoers to encourage them to buy homes.

Weak credit and low wages weren't barriers, Ms. Costa recalls. "He told us that a house easily would appreciate $100,000 in a year," enabling the owner to refinance, says Ms. Costa. "We trusted him implicitly. Everyone at the church was buying houses from him."

Today, Ms. Costa and other former Message of Peace parishioners claim that Mr. Santos was a key part of a mostly Brazilian ring that allegedly conspired to defraud people by persuading them to buy homes they couldn't afford. Ms. Costa, the housekeeper, secured a $713,000 sub-prime mortgage. In another instance, a Brazilian baby sitter borrowed $495,000. Now, the home buyers are beset by foreclosures and additional stains on their already-tainted credit.

The graphic above, from a Knight-Ridder article on modern slavery in Brazil, comes from a website called Mongabay.com

New GOP Tack: Running Against Wall Street?

That's the tack New York State Assemblyman Jim Tedisco is taking in his campaign against Democratic venture capitalist Scott Murphy to win the seat in New York's 20th Congressional District vacated by Kirsten Gillibrand, who was appointed to replace Hillary Clinton in the U.S. Senate. From Tedisco's campaign website ("Tedisco Holds Main Street Walk, Blasts Wall Street AIG Values Of Scott Murphy"):

“Today, I am listening to the people on Main Street about what their needs are and how together, we can create jobs and put our economy on the Road to Recovery. Unfortunately, Main Street is hurting because of the unchecked greed on Wall Street and incompetence in Washington that has allowed companies like AIG to receive millions of dollars in executive bonuses,” Tedisco said.

“My opponent continues to evade answering the question of whether he supported AIG handing out $165 million bonuses or just rubber-stamped a bill he didn’t read,” Tedisco said. “The choice in this race is clear between Main Street jobs and Wall Street greed.”

Even though the race is for an upstate district, New York City-area talk radio station WABC has been airing ads for Tedisco hammering that point about the AIG bonuses. According to MSNBC, RNC Chairman Michael Steele has been pouring a lot of resources into Tedisco's campaign.

The photo above comes from Tedisco's website.

KSW Update

I spoke with Jim Oliviero today, the corporate counsel for KSW, Inc. (Nasdaq: KSW), to get some clarification on a couple of items in the 10-K the company filed earlier this week. The first item was the company's backlog. The company had a backlog of $62.5 million as of December 31st, but between then and March 6th, $8.5 million of it was terminated by a developer. Oliviero explained that the developer was attempting to negotiate lower costs with the unions, and KSW was hopeful about getting the project back on the backlog if that can be done. Another $9 million of the backlog won't be recognized as revenue until next year, as the projects its associated with won't be completed until then. So the backlog at this point represents about $45 million in potential revenue for 2009 (assuming no other projects are delayed or canceled). Revenues in 2008 were about $93 million.

I also asked Oliviero about this note on the 10-K:

In addition, at December 31, 2008, the Company held marketable securities totaling $1,223,000, a decrease from the $1,892,000 balance at December 31, 2007.

Often "marketable securities" refers to Treasuries, but in this case it refers to equity mutual funds, marked down to their value as of the end of last year. In addition, the company had cash and cash equivalents totaling $16,611,000 at the end of last year, so, given the company's current market cap of $14,840,000 it's trading for less than its cash.

Destiny Media Update

Destiny Media Technologies (OTC BB: DSNY.OB) mailed out a hard copy investor update booklet this week, which included the web address of a site that tracks usage stats for the company's secure music delivery service, Play MPE: Play MPE Stats. That site currently shows 189,577 "sends" in the past 7 days. Since Destiny Media gets paid per send, I called Destiny Media's CFO Fred Vandenberg to ask him what average fee the company received per send. Vandeberg didn't have an average number, but he said that Destiny generally charged $0.50 per send for major labels, and $0.60 per send for independents. He mentioned that some number of the sends might not generate fees for Destiny if these were between two individuals at the same label, for instance. Vandenberg added that if they found that this sort of traffic represented a significant percentage of the total, then Destiny Media might charge for these internal sends in future contracts.

I also asked Vandenberg about the company's Clipstream secure video delivery software. He said the firm was planning on promoting it more this year, and mentioned one potential application for it: dailies, the raw footage produced every day by film crews, which is later edited and synched to a soundtrack. Vandenberg said that, currently, dailies were transported via courier, so, for example, a film crew shooting in Vancouver might use Fed Ex to send its dailies to an editor in Los Angeles. With Clipstream, the film crew could send the dailies digitally instead. I asked Vandenberg if this was true for crews using old fashioned film stock too, i.e., did Destiny Media have some sort of technology to convert that to digital. He declined to answer that question. Destiny's second quarter numbers should be out in mid-April.

Below is a commercial, obviously modeled on the Mac versus PC ads, for Destiny's Play MPE secure music delivery service.

Tuesday, March 24, 2009

Revisiting Liberals and Tax Paying

In a post last month we asked, "Are Liberals Less Inclined to Pay Their Taxes". In a post last week, the blogger Audacious Epigone drew on data from the General Social Survey (GSS) to address this question, "Liberals and tax cheating" (Hat tip: Aaron Edelheit). Excerpt:

With the embarrassing number of hopeful Obama appointments running into tax cheating problems (the latest being Ron Kirk), it's natural to wonder if evasion by high profile leftists is illustrative of a real world trend, or just a string of unfortunate anecdotes.

The GSS provides some relief for that wonder. It provides the results for 2,418 people queried on whether or not cheating on taxes is wrong, by political orientation. The first graphic from the GSS shows the distribution of responses. The second graph shows the mean tax compliance score, computed by designating "not wrong" as 1, "a bit wrong" as 2, "wrong" as 3, and "seriously wrong" as 4, and then averaging the responses for each of the seven categories of political orientation (click for higher resolution).

Strong Lib2.70
Weak Lib3.00
Weak Con3.14
Strong Con3.27

The standard deviation for the dataset is .76, so the difference between self-described conservatives and extreme liberals is nearly one full SD. Amalgamating the responses into three categories yields one-third a SD between liberals and conservatives:


Liberals do not consider cheating on taxes to be as morally problematic as conservatives do. This presents an obvious moral quandary of its own, as, putatively less surprisingly, liberals are more likely than conservatives are to favor greater amounts of taxation and wealth redistribution.

John Hussman's Latest Market Commentary

In his market commentary yesterday ("Fed and Treasury - Putting off Hard Choices with Easy Money (and Probable Chaos)"), Dr. Hussman reiterated his call for the government to require bond holders in financial institutions to assume some losses in order to recapitalize those firms:

Make no mistake - we are selling off our future and the future of our children to prevent the bondholders of U.S. financial corporations from taking losses. We are using public funds to protect the bondholders of some of the most mismanaged companies in the history of capitalism, instead of allowing them to take losses that should have been their own. All our policy makers have done to date has been to squander public funds to protect the full interests of corporate bondholders. Even Bear Stearns' bondholders can expect to get 100% of their money back, thanks to the generosity of Bernanke, Geithner and other bureaucrats eager to hand out the money of ordinary Americans.

Though I believe that the consequences (via credit default swaps and the like) are overstated of letting bondholders take a haircut, and will ultimately be no worse than having the public take the losses, the fact is that we don't even need the bonds of major financial institutions to go into default. What we do need to do is offer those bondholders a choice:

1) The U.S. government takes receivership of the financial institution, changes the management, wipes out the stockholders and a chunk of the bondholders claims entirely, continues the operation of the institution in receivership, eventually reissues the company to private ownership, and leaves the bondholders with the residual. This is not “nationalization,” but receivership – a form of “pre-packaged bankruptcy” that protects the customers and allows the institution to continue to operate, followed by re-privatization. As I've previously noted, this would fully protect all of the customers and depositors at no probable expense to the public. Alternatively;

2) The bondholders voluntarily agree to move a portion of their claims lower down in the capital structure, swapping debt for equity (preferred or common), allowing the bank to have a larger cushion of Tier-1 capital, avoiding insolvency, and hopefully allowing the bank to recover by its own bootstraps, preferably assisted by debt restructuring on the borrower side (via property appreciation rights and the like). Similar debt/equity swaps would be an appropriate strategy toward failing U.S. automakers as well.

Hussman also added a note on inflation:

The reason we're not seeing inflation here and now is that despite a near doubling in the monetary base, we've seen a buildup in goods inventories combined with a surge in safe-haven demand for government liabilities. So investors have absorbed the increased supply of government liabilities without a collapse in their marginal utility. This will not persist indefinitely, so unfortunately, any nascent economic recovery in the next couple of years will be against the headwinds of both Alt-A mortgage defaults (coming to your neighborhood in 2010), and inflationary pressures as soon as safe haven demand for Treasuries eases back even moderately.

The graph above, of 4 year annual CPI growth versus 4 year annual growth in government spending, accompanied Hussman's column.

Monday, March 23, 2009

NY Insurance Department Forces Low-cost Doctor to Raise Fees

From Dr. Mark Perry's Carpe Diem blog, "NY Bureaucrats Force Low-Cost Doc to Raise Fees". Apparently the New York City physician pictured above, Dr. John Muney, was offering uninsured patients a broad range of medical care for $79 per month plus $10 per office visit (as many visits as patients needed), and the New York insurance regulators challenged him, claiming that he was offering insurance without a license. Dr. Muney had to raise his per office visit to $33 to become compliant with state insurance regulators.

The photo of Dr. Muney is from Dr. Perry's blog.

Applying the Altman Z-Score Model to Mining Companies

Tools and ideas for short sellers, including an automated calculator and screener based on the Altman models.

In a couple of recent posts ("Using the Altman Z-Score Model to Calculate the Risk of a Company Going Bankrupt" and "Applying the Altman Z-Score Model to a Non-Manufacturing Company") we discussed the use of the original, five variable model for manufacturers and the modified model for non-manufacturers. Recall that the modified Altman Z-score model for non-manufacturers excludes the fifth variable in the original model (sales/total assets), to account for different levels of capital intensiveness among non-manufacturers.

Since mining companies, like manufacturers, are also capital intensive, I asked Dr. Altman via e-mail which of his models would be best for miners. His response:

Try both, but probably the 4 variable model is more appropriate.

The photo above, of a copper smelter, is from the website of the Canadian mining company Hudbay Minerals.

Sunday, March 22, 2009

Son of TARP

The Wall Street Journal explains the Obama Administration's new plan to buy bad assets off of the books of banks ("U.S. Sets Plan for Toxic Assets"). Economist and New York Times columnist Paul Krugman criticizes it ("Despair of Financial Policy"), and criticizes it again ("More on the bank plan"); economist Brad DeLong defends it ("The Geithner Plan FAQ" -- Hat Tip: Matt Yglesias), and Krugman responds to Brad DeLong's defense ("Brad DeLong's Defense of Geithner").

Since this new plan is, essentially, a return to the original, rejected, tack of the TARP plan last fall, it's also worth revisiting John Hussman's objections to the original TARP plan, ("You can't rescue the financial system if you can't read a balance sheet"). I suspect Dr. Hussman will reiterate some of those objections in his market commentary this week.

Saturday, March 21, 2009

BSG Series Finale

No spoilers here, but last night's series finale of Battlestar Galactica was quite good. It was much better than I expected it would be, considering that the show's co-creator, Ron Moore, shares a tendency with the creator of another critically acclaimed though inconsistent series -- Sopranos creator David Chase -- to stick it to his audience occasionally (e.g., on a recent BSG special, one actor mentioned that when fans sent letters expressing their dislike of his character, Moore decided to give that character an even bigger role in the show).

For those who haven't seen the series, you may want to consider renting its initial miniseries and seeing what you think. Ron Moore's brand of "naturalistic science fiction" might not be everyone's cup of tea, but he, David Eick, and their writers, cast, and crew created a series that, while uneven at times, wasn't much like anything else on TV. For more detail on how Moore recreated BSG, see this New York Times Magazine article from 2005, "Ron Moore's Deep Space Journey".

Incidentally, in honor of the series coming to a close, fans at the United Nations hosted the BSG's executive producers Ron Moore and David Eick, and stars Edward Olmos and Mary McDonnell to debate war, torture, and other sunny topics the series has dealt with in its four season run. Nice to know that things are quiet enough in the world that the UN's staff can spend time on stuff like this.

The photo above featuring, from left to right: Mary McDonnell as Laura Roslin, Tricia Helfer as Natalie, Michael Hogan as Saul Tigh, Jamie Bamber as Lee "Apollo" Adama, James Callis as Gaius Baltar, Tricia Helfer as Number Six, Katee Sackhoff as Kara "Starbuck" Thrace, Michael Trucco as Sam Anders, Aaron Douglas as Tyrol, Grace Park as Sharon Valerii, Tahmoh Penikett as Karl "Helo" Agathon, Edward James Olmos as William Adama is from Wired and is credited to Art Streiber/SCI FI Channel

Friday, March 20, 2009

Daewoo's Madagascar Deal Nixed

In a post last fall ("An Unprecedented Investment in Food Security"), we noted the report by the Financial Times that the Korean conglomerate had leased half the arable land on Madagascar for industrial farming. Yesterday, the Financial Times reported that that deal has been nixed ("Madagascar scraps Daewoo farm deal"). Excerpt:

South Korea’s project to transform Madagascar into its breadbasket, branded by some as neo-colonial, came to an abrupt end on Wednesday when the Indian Ocean island’s new president said he would shelve the plan.

Daewoo Logistic’s deal to lease a huge tract of farmland, half the size of Belgium, to grow food crops to send back to Seoul was a source of popular resentment that contributed to the fall of Marc Ravalomanana, the former president.

Andry Rajoelina, who was declared president by the military and constitutional court after months of demonstrations and who will be formally sworn in on Saturday, said that Daewoo’s plan was “cancelled”.

Applying the Altman Z"-Score Model to a Non-Manufacturing Company

Tools and ideas for short sellers, including an automated calculator and screener based on the Altman models.

In a previous post ("Using the Altman Z-Score to Calculate the Risk of a Company Going Bankrupt") I used Altman's original model on a publicly-traded manufacturing company. On Tuesday I used the Altman Z-Score model on a publicly-traded (micro cap) non-manufacturing firm, Vertical Branding, Inc. (OTC BB: VBDG.OB), the marketer of such fine products as the "MyPlace Cozy" lap table, pictured above. I had seen this company mentioned as top pick by a few regulars on the Investor Hub website. Initially, I used the original Altman Z-Score model -- which was designed for manufacturers -- on Vertical Branding. Recall from our previous post on the subject, that the original Altman Z-Score model uses these five terms:

T1 = Working Capital / Total Assets
T2 = Retained Earnings / Total Assets
T3 = Earnings Before Interest and Taxes / Total Assets
T4 = Market Value of Equity / Total Liabilities
T5 = Sales / Total Assets

And weights them this way:

Z Score Bankruptcy Model:

Z = 1.2T1 + 1.4T2 + 3.3T3 + .6T4 + 1T5

Using an online calculator based on the original Altman Z-Score model, I got a score in the "distress" zone, one that indicated that bankruptcy was likely within two years1. I mentioned this on Vertical Branding's Investor's Hub message board. Unsurprisingly, I got the penny-ante version of the Enemy of the People treatment for my trouble. I did get one legitimate criticism though, that I had used the Altman Z-score formula designed for manufacturers. So I ran the numbers again using Ironwood Advisory's online calculator, which gives the option of selecting for non-manufacturing companies. That option uses the modified Altman Z"-score model, which uses only the first four terms used in the original multivariate formula, and eliminates the fifth variable, sales/total assets, because this variable varies widely among non-manufacturing firms, which tend to be less capital-intensive. The Altman Z"-score model weights the first four variables differently:

Modified Altman Z"-Score Bankruptcy Model:

Z = 6.56T1 + 3.26T2 + 6.72T3 + 1.054

Using the calculator set for non-manufacturing companies produced an even worse Z-score than the original model did. This was consistent with Penn State Accounting Professor Gregory Eidleman's observation that the original Altman Z-score model can under-predict bankruptcy of non-manufacturing companies. After correcting an apparent data-entry error on my part, I got an Altman Z"-score of -4.30 for VBDG. For non-manufacturing firms, any score below 1.1 is an indication that the firm is at risk of bankruptcy within two years.

Coincidentally, on Thursday morning Vertical Branding filed an 8-K noting that it was in continuing negotiations to restructure its debt and that the company's board of directors had authorized its management to

[E]valuate and pursue all strategic opportunities available to the Company, including the potential sale of the Company.

On this news, VBDG dropped 31%.

1This makes intuitive sense, if you look at the company's income statements and balance sheet: the company has negative earnings before interest and taxes (EBIT), negative retained earnings, and negative working capital; essentially, it's a money-losing, debt-laden company.

Thursday, March 19, 2009

Buffett's Turn to Face Some Heat

In a recent post ("More Obama Supporters Concerned by the President's Recent Actions") we noted that Warren Buffett and Jim Cramer had made essentially the same criticism of Obama's recent handling of the economy: in an economic emergency, the president's primary focus ought to be dealing with that emergency, not trying to enact other policy priorities. Last week, Jim Cramer and his network, CNBC, became the targets of liberal comedian Jon Stewart. Stewart's criticisms of Cramer, some of which had merit, related mainly to Cramer's actions last year and earlier (e.g., Cramer's comments regarding Bear Stearns prior to that firm's collapse). Why bring that up now? As I speculated elsewhere recently (for example, in a comment on Dr. Mark Perry's Carpe Diem blog), Cramer seemed to be targeted because of his recent criticisms of President Obama -- particularly since he made an easier target than some other Obama supporters who recently criticized the President, e.g., Warren Buffett.

Yesterday, apparently, was Buffett's turn. An article in the business section of Wednesday's New York Times ("Buffett Is Unusually Silent on Rating Agencies") criticized Buffett for not using his influence (since he owns 20% of the company via Berkshire Hathaway) to get Moody's to clean up the way it assigns credit ratings. Now, this is a legitimate criticism of Buffett; in fact, it's one I've made myself1. But the timing of it seems a little odd, if you don't take into account Buffett's recent criticism of Obama. After all, Berkshire Hathaway has been a major holder of Moody's for years, and the role Moody's and the rest of the ratings oligopoly played in the credit crisis has been common knowledge since at least 2007. Can it be a coincidence that Buffett is getting criticized for this now, a week after he expressed concerns about Obama's handling of the economy on CNBC?

The illustration of Buffett above was credited to Minh Uong, and accompanied the New York Times article.

1For example, on June 12th last year, on GuruFocus I wrote,

Before we begin the ritualistic praise of Buffett here, let's remember that a company in which he was the largest shareholder through BRK, Moody's, facilitated these excesses by slapping triple-A ratings on so many of those CDOs. When you own ~19% of a company, you have a lot of access to what's going on there, if you want it. It's too bad that Buffett didn't exercise more oversight of Moody's during the credit boom.

Wednesday, March 18, 2009

U.S. Energy Corp. Update

On Monday, U.S. Energy Corp. (Nasdaq: USEG) filed its 10-K and released its highlights for 2008, most of which we noted here when they were announced individually. Today the company held its conference call. CEO Keith Larsen mentioned that the company's Gillette, WY real estate development was currently 95% occupied, and is generating $225k in rental revenue per month. He also noted that the local economy in Gillette remained strong1, despite the national downturn. Larsen also noted that the current low oil and natural gas prices offered promising opportunities to sign new exploration and production deals.

If the conference call was any indication, investor interest in USEG, such as it was, appears to have declined significantly. This may have been the shortest quarterly conference call I have listed to, by any company. There was exactly one question (I would have asked a question2, but I was listening via streaming audio on the Internet). Other signs of a decline in investor interest:

- The company's Investor Hub message board has four posts in the last four months, all by the moderator.

- The company's Yahoo! message board hasn't had a post since January 27th.

Based on its year-end balance sheet data, USEG is currently trading for less than its net cash.

The photo above comes for U.S. Energy Corp's website. You can read more details on the company's interests in Molybdenum, Oil & Natural Gas, Uranium, Geothermal, and its Gillette, WY real estate project on the projects section of the company's website.

1As of January, according to the Bureau of Labor Statistics, Wyoming's unemployment rate was 3.7%, the lowest in the nation.

2My question would have been about what cost-cutting plans (if any) the company had in mind to get closer toward profitability from the cost side.

Revisiting Warren Buffett's Criteria for Selecting Corporate Directors

Given the recent outrage about the high compensation for executives who did poor jobs running their companies, and given the role corporate boards of directors play in setting executive compensation, it's worth revisiting Warren Buffett's comments on selecting corporate directors. Buffett wrote this in his 2006 Berkshire Hathaway Shareholder Letter (p.19 in the PDF):

In selecting a new director [Yahoo! CFO Susan Decker], we were guided by our long-standing criteria, which are that board members be owner-oriented, business-savvy, interested and truly independent. I say “truly” because many directors who are now deemed independent by various authorities and observers are far from that, relying heavily as they do on directors’ fees to maintain their standard of living. These payments, which come in many forms, often range between $150,000 and $250,000 annually, compensation that may approach or even exceed all other income of the “independent” director. And – surprise, surprise – director compensation has soared in recent years, pushed up by recommendations from corporate America’s favorite consultant, Ratchet, Ratchet and Bingo. (The name may be phony, but the action it conveys is not.)

Charlie [Munger, Berkshire's Vice Chairman] and I believe our four criteria are essential if directors are to do their job – which, by law, is to faithfully represent owners. Yet these criteria are usually ignored. Instead, consultants and CEOs seeking board candidates will often say, “We’re looking for a woman,” or “a Hispanic,” or “someone from abroad,” or what have you. It sometimes sounds as if the mission is to stock Noah’s ark. Over the years I’ve been queried many times about potential directors and have yet to hear anyone ask, “Does he think like an intelligent owner?”

The problem of corporate executives or directors not acting in the interests of shareholders is a prime example of an agency conflict. We touched on this in a post last summer ("Agency Conflicts").

More on JournoList

In the previous post ("Where Left-Leaning Pundits and Bloggers Compare Notes"), we linked to and excerpted from Michael Calderone's Politico article, "JournoList: Inside the Echo Chamber". One of the critics of JournoList who Calderone quoted in that article was the centrist Democrat blogger Mickey Kaus. Kaus wrote about Calderone's article on his Kausfiles blog yesterday ("The Uninvited"). From Kaus's blog post:
Brad DeLong objects to the hed--"Inside the echo chamber"--on Michael Calderone's piece discussing the underknown leftish email cabal organized by Ezra Klein:

It's not an echo chamber. I have never seen a less echo chamber-like space in my life. The headline is simply wrong.

Fair enough. But I think the headline-writers' worry was that an "echo chamber" is what the outside world tends to get from members of JournoList once they've vigorously hashed out their disagreements in secret. "Inside the Echo Factory" would be a headline more accurately reflecting that concern. It's noisy in a factory but the product is often standardized.


We non-elite writers1 learn something just from watching the sausage get made.  One thing we learn is it's just sausage. Ezra Klein has taken a lot of what could be highly informative back and forth on the World Wide Web and privatized it, much as rich people in gated communities reclaim green space from the public sphere and wall it off behind guards and fences. It's not an egalitarian or democratic impulse.

P.S.: Here's DeLong's preferred description of JournoList:

[I]t is the people whom Ezra thinks are smart enough, committed enough to discussion and learning and education, and good-hearted enough to be worth emailing regularly--and the rest of us free-ride on the virtual space that is Ezra's network. [E.A.]

False modesty? Check. Suck up to the organizer? Check. Underlying, self-satisfied exclusionary impulse? Check. ... 

1Kaus is engaging in a little of his own false modesty here, I think, given that his blog is published online on Slate, which is owned by the Washington Post -- not the typical set-up of a Pajamahadeen.

Where Left-Leaning Pundits and Bloggers Compare Notes

Interesting piece by Michael Calderone on The Politico yesterday, on how liberal commentators compare notes and hone their message, "JournoList: Inside the Echo Chamber". A few brief excerpts follow.

For the past two years, several hundred left-leaning bloggers, political reporters, magazine writers, policy wonks and academics have talked stories and compared notes in an off-the-record online meeting space called JournoList.

Proof of a vast liberal media conspiracy?

Not at all, says Ezra Klein, the 24-year-old American Prospect blogging wunderkind who formed JournoList in February 2007. “Basically,” he says, “it’s just a list where journalists and policy wonks can discuss issues freely.”


Last April, criticism of ABC’s handling of a Democratic presidential debate took shape on JList before morphing into an open letter to the network, signed by more than 40 journalists and academics — many of whom are JList members.

POLITICO contacted nearly three dozen current JList members for this story. The majority either declined to comment or didn’t respond to interview requests — and then returned to JList to post items on why they wouldn’t be talking to POLITICO about what goes on there.

In an e-mail, Klein said he understands that the JList’s off-the-record rule “makes it seems secretive.” But he insisted that JList discussions have to be off the record in order to “ensure that folks feel safe giving off-the-cuff analysis and instant reactions.”

One byproduct of that secrecy: For all its high-profile membership — which includes Nobel Prize-winning columnist Paul Krugman; staffers from Newsweek, POLITICO, Huffington Post, The New Republic, The Nation and The New Yorker; policy wonks, academics and bloggers such as Klein and Matthew Yglesias — JList itself has received almost no attention from the media.

A LexisNexis search for JournoList reveals exactly nothing. Slate’s Mickey Kaus, a nonmember, may be the only professional writer to have referred to it “in print” more than once — albeit dismissively, as the “Klein Klub.”


“You don’t want to create a whole separate, like, private blog that only the elite bloggers can go into, and then what you present to the public is sort of the propaganda you’ve decided to go public with,” Kaus argued.

The illustration above, by Matt Wuerker, accompanied Calderone's piece on The Politico.

Tuesday, March 17, 2009

Using The Altman Z-Score to Calculate the Risk of a Company Going Bankrupt

The Altman Z-Score is a model developed in 1968 by NYU Finance professor Edward Altman to predict the likelihood of a company going bankrupt within the next two years. According to Investopedia,

[R]eal world application of the Z-Score successfully predicted 72% of corporate bankruptcies two years prior to these companies filing for Chapter 7"

In creating the Z-Score model, Professor Altman studied an initial sample of 66 firms, half of which had gone bankrupt, and looked for the balance sheet and income statement ratios that had the most predictive value. Dr. Altman settled on these five ratios1:

T1 = Working Capital / Total Assets
T2 = Retained Earnings / Total Assets
T3 = Earnings Before Interest and Taxes / Total Assets
T4 = Market Value of Equity / Total Liabilities
T5 = Sales/ Total Assets

He then assigned weightings to them based on their predictive values to create his model:

Z Score Bankruptcy Model:

Z = 1.2T1 + 1.4T2 + 3.3T3 + .6T4 + .999T5

Based on this model, a Z-score below 1.8 means bankruptcy is likely within two years; a Z-score between 1.8 and 2.99 is a gray area; and a Z-score above 2.99 means there is little likelihood of bankruptcy within the next two years.

There are several free Altman Z-Score calculators available online to facilitate the use of the model. There is also a fully-automated Altman Z-Score calculator (where you just need to enter a company's symbol and the calculator does the rest) at Shortscreen.com. I used the one at Ironwood Advisory's website to calculate an Altman Z-Score for Alloy Steel International (OTC BB: AYSI.OB). The calculator gave a Z-score of 4.89, and included this commentary:

Your Z score is in the high range. This company is in good financial health and is predicted to remain solvent for the next two years. Smaller firms should note that these models are based on data from firms with assets in excess of $1,000,0002. If it is believed that asset size affects Z scores, then their use may not be appropriate.

The photo above of Professor Altman comes from the CFA Institute.

1The components and weightings of Altman's model come from Wikipedia.

2Alloy Steel's total assets are approximately $7,030,000 and its net assets are $4,393,000.

Marty Whitman Wishes He Had More Liquidity

Investopedia notes (Hat Tip: The Guru Five):

Value investor Marty Whitman, head of mutual fund firm Third Avenue Management, recently had this to say (along with Senior Research Analyst Ian Lapey) about the markets, "Third Avenue wishes it had more liquidity, because then management would have been heavy buyers of high-quality equity securities, which are now as cheap as either of us ever remember them being."

I'm sure Whitman's investors in his Third Avenue funds wish they had more liquidity too. Perhaps they would, if Whitman & Co. hadn't lost so much of their money last year. This raises a question about the role of risk management and hedging in open end mutual funds. Long-time value investors such as Marty Whitman may have the iron stomachs to handle what many value investors term "quotational losses" (or, as most other investors call them, "losses"). But one of the challenges of running an open end mutual fund is that investors with lower risk tolerances will invariably redeem their money while many of the fund's investments are down, forcing the fund manager to sell positions at a loss to meet those redemptions. Wouldn't it make sense to plan for this contingency by hedging, increasing cash levels in up years, or by some other means?

The photo above, of Whitman, comes frm this Fortune article: Five Funds for 2009.

Water: Not the Next Oil?

A couple of years ago, articles with titles such as this one by Rohini Nilekani in Yale Global were fairly common: "Is Water the Next Oil?". Today, the pseudonymous author of the blog The Learning Diary of an Israeli Water Engineer suggests otherwise ("Worldwide water sector devalued"):

I continue thinking that the expansion of the water sector is an illusion, it is not happening and will never [...]. The water crisis is more a media event, or an eternal United Nations issue for travelling to exotic places, than a real investment opportunity. People who "bought" the concept of water as the golden investment opportunity - lost [their] money.

In previous correspondence with this water engineer/blogger, I had asked him what investment opportunities he saw in the sector. His response, in a nutshell, was that most countries that could afford water infrastructure already had it, and most of those that didn't, didn't have the money to pay for it.

The photo above accompanied the Yale Global article.

Monday, March 16, 2009

Joel Greenblatt Makes Some Changes

Joel Greenblatt made a few changes to his Magic Formula Investing site last month. He notes one of them in his recent column:

[W]e’ve added something new. The site now has description and link to a new website FormulaTrading.com that I helped create with Blake Darcy. Blake is the founder and former CEO of DLJdirect, a pioneer in the internet brokerage field. Formula Trading is designed to make it easy for people to invest using my system. You can invest in one of two ways: either in a self directed manner (you’ll have the tools to easily select, purchase, track and sell stocks chosen by the Magic Formula system) or in a fully managed account (Formula Trading will invest it for you using the Magic Formula system). I am a significant investor in this new venture and have worked with FormulaTrading.com to ensure that it will adhere to the principles of the Magic Formula. (Either way, though, I plan to keep MagicFormulaInvesting.com a free site so that you can follow the Magic Formula system in any manner that works best for you.) This new firm hopes to open in the late spring of 2009.

It's nice to see entrepreneurship is alive and well during these difficult times.

Although he didn't mention it in that column, Greenblatt also made a few changes to the stock screener on his site: it now only lists 30 or 50 stocks for a given minimum market cap (instead of listing up to 100 stocks); it no longer lists the earnings yields and returns on invested capital for each stock; and it no longer allows you to screen for stocks with minimum market caps below $50 million. I sent a message to the site asking whether that last change was made because Greenblatt determined that his system didn't work for stocks below that market cap. If I get a response, I'll post it; if not, I'll try e-mailing Greenblatt directly, which I have had mixed success with in the past.

The photo above, of Greenblatt on his book tour, was borrowed from GuruFocus.

Sunday, March 15, 2009

Health Care in the U.S. versus Single-Payer Systems in Europe and Canada

Since one of President Obama's three main policy priorities is reforming health care, and since progressive pundits often make invidious comparisons between health care in the U.S. and the single-payer health care systems of Europe and Canada, it's worth revisiting an Investor's Business Daily op/ed on this topic written by former Canadian physician Dr. David Gratzer in 2007. Below is an excerpt:

One often-heard argument, voiced by the New York Times' Paul Krugman and others, is that America lags behind other countries in crude health outcomes. But such outcomes reflect a mosaic of factors, such as diet, lifestyle, drug use and cultural values. It pains me as a doctor to say this, but health care is just one factor in health.

Americans live 75.3 years on average, fewer than Canadians (77.3) or the French (76.6) or the citizens of any Western European nation save Portugal. Health care influences life expectancy, of course. But a life can end because of a murder, a fall or a car accident. Such factors aren't academic — homicide rates in the U.S. are much higher than in other countries.

In The Business of Health, Robert Ohsfeldt and John Schneider factor out intentional and unintentional injuries from life-expectancy statistics and find that Americans who don't die in car crashes or homicides outlive people in any other Western country.

And if we measure a health care system by how well it serves its sick citizens, American medicine excels. Five-year cancer survival rates bear this out. For leukemia, the American survival rate is almost 50%; the European rate is just 35%. Esophageal carcinoma: 12% in the U.S., 6% in Europe. The survival rate for prostate cancer is 81.2% here, yet 61.7% in France and down to 44.3% in England — a striking variation.

Like many critics of American health care, though, Krugman argues that the costs are just too high: health care spending in Canada and Britain, he notes, is a small fraction of what Americans pay. Again, the picture isn't quite as clear as he suggests. Because the U.S. is so much wealthier than other countries, it isn't unreasonable for it to spend more on health care. Take America's high spending on research and development. M.D. Anderson in Texas, a prominent cancer center, spends more on research than Canada does.

Dr. Gratzer doesn't make this point explicitly, but it's also true that patients in other countries benefit from the research and development financed by the American health care system. It's worth reading the rest of his column.

The photo above, of the Proton Therapy Center at M.D. Anderson, comes from M.D. Anderson's website.

Saturday, March 14, 2009

English versus Brazilian Portuguese

The Financial Times invited a series of guest columnists to opine about the future of capitalism this week, and one of those guests was the president of Brazil, Luiz Inácio Lula da Silva. Lula's essay ("The Future of Human Beings is What Matters"), which was mocked by a letter writer later in the week1, doesn't offer much revelation. Lula recounts his hardscrabble background, which may be of interest to those still unfamiliar with his biography, and describes some of Brazil's recent successes in growing its economy while increasing aid to its poor. In truth though, the Brazilian president deserves more credit for what he hasn't done. He has avoided the radical populist policies of some of his neighbors, and Brazil has continued some sensible macroeconomic policies on his watch. As a result, it looks to be in a better position to weather the current downturn.

That op/ed by the Brazilian president reminded me of something I read years ago, a comparison of American English to Brazilian Portuguese in Mark Helprin's 1997 novel, Memoir from an Antproof Case. The speaker below, the narrator of Helprin's novel, is an elderly American who has settled in Brazil after a long and rather picaresque life, and teaches English at the Brazilian naval academy in Rio de Janeiro:

Portuguese is a magnificent language -- Intimate, sensual, and fun. The great poets make it sound like a musical incantation of slurred elisions and rhythmic dissolves, and day-to-day, corrupted, vital, and undisciplined, it is ideal for the dissolute life of a modern city, though what it gains in humor and intimacy it loses in precision and resolution. In fact, it is, when compared to English, almost like a baby language.

Do not misinterpret me. I love baby language, for babies, but among adults it can be rather annoying, especially if you have been here thirty years with not a day of relief, having arrived fully formed and mature, and having come, as I did, from a place where language is not a perfumed cushion but a tightly strung bow that sends sharp arrows into the heart of everything.

The language of my boyhood was the language of ice and steel. It had the strong and lovely cadence of engines in a trance. The song of the world in snow, it was woefully inadequate for conveying material ecstasy, but more than enough for the expression of spiritual triumph.

Portuguese of course isn't a "baby language", but it does lend itself well to song, for reasons Helprin lyrically describes above.

The photo above is a snapshot Cheryl took a few years ago of part of Rio de Janeiro from the top of one of the local tourist sites, Pão de Açúcar (Sugar Loaf) mountain.

1Letter writer Prof. Alex Callinicos wrote, in part:

Sir, I’m delighted to learn that Luiz Inácio Lula da Silva, president of Brazil, thinks that “the future of human beings is what matters” (March 10). Evidently your series on the Future of Capitalism is stimulating real thinking outside the box. But even worse than the familiar banalities of grandees (at least you seem to be sparing us Bono) is your own special pleading.

A Clever Bit of Design

Coming home last Friday night, I noticed that a car parked a couple of spots away from me in the parking garage had its interior lights on. The car was locked, and I didn't know whose car it was, so there wasn't much I could do about it. Coincidentally though, the next morning the owner of that car was trying to start it when I headed to my car. I offered to jump start his car and helped him push the car back from the wall, out of its spot. Then I K-turned my car so our front ends would be close enough for the jumper cables to reach. He popped his hood, and at that moment remembered that his car -- one of the smaller BMW sedans (maybe a 3-Series?) -- had its battery in the trunk. That struck me as a clever design idea, since it obviates the need to push a car out of its spot to jump it when it's parked against a wall or other barrier.

Thursday, March 12, 2009

Penny Ante Arbitrage Update

In a post last month ("Penny Ante Arbitrage") I mentioned that I bought 749 shares each of Asure Software, Inc. (Nasdaq: ASUR) in several different accounts at an average price of 18 cents per share, in the hopes of getting them cashed out at 36 cents per share, as part of Asure's proposed plan to take itself private.

Today Asure announced its financial results for its 2009 fiscal second quarter. The two salient points for our purposes are these:

- The CEO says the plan to take the company private is on track:

"Our plans for going private remain on track, with our preliminary proxy filing currently under standard review by the SEC."

- Based on the updated balance sheet and burn rate numbers, it looks like the company will still have more than enough cash to buy out fractional shares at 36 cents each, assuming the reverse split happens within the next two quarters. As of January 31st, the company had $9,056,000 in cash + $3,074,000 in short term investments + $1,528,000 in net receivables - $7,226,000 in total liabilities = $6,432,000. The company had a net loss in the last quarter of $1,539,000. Assuming another two quarters of similar losses before the reverse split would leave the company with about $3.4 million in cash. Assuming the number of shareholders is the about the same as reported in the last 10-K, the maximum amount it should cost the company to cash out fractional shares is about $2.7 million.

Peering Under the TARP: Foul Waters

Representative Maxine Waters (pictured above), Democrat of California, was one of the members of the House Banking Committee featured in the YouTube video in a recent post ("Armando Falcon, Jr: An Enemy of the People?"). Today, she was the subject of a New York Times article ("Congresswoman, Tied to Bank, Helped Seek Funds"). From the article:

WASHINGTON — Top banking regulators were taken aback late last year when a California congresswoman helped set up a meeting in which the chief executive of a bank with financial ties to her family asked them for up to $50 million in special bailout funds, Treasury officials said.

Representative Maxine Waters, Democrat of California, requested the September meeting on behalf of executives at OneUnited, one of the nation’s largest black-owned banks. Ms. Water’s husband, Sidney Williams, had served on the bank’s board of directors until early last year and has owned at least $250,000 in stock in the institution. Treasury officials said the session with nearly a dozen senior banking regulators had been intended to allow minority-owned banks and their trade association to discuss the losses they had incurred from the federal takeover of Fannie Mae and Freddie Mac. But Kevin Cohee, OneUnited’s chief executive, instead seized the opportunity to plead for special assistance for his bank, federal officials said.

“Here you had a tiny community bank that comes in and they are not proposing a broader policy — they were asking for help for themselves,” said Steve Lineberry, a former Treasury aide who attended the meeting. “I don’t remember that ever happening before.”


While OneUnited did not get the $50 million it requested, the bank did become among the first minority-owned institutions to receive a cash infusion — $12 million — in December through the Treasury’s bank bailout effort, called the Troubled Asset Relief Program.

The aid surprised some bank analysts because the bailout was intended for healthy banks, and OneUnited was then considered to be in precarious condition. In addition, it had been harshly criticized by regulators in 2007 for failing to give a sufficient number of loans to lower income residents in Miami, while favoring wealthier customers there. And the F.D.I.C. sanctioned the institution in October 2008 for “unsafe or unsound banking practices,” including excessive compensation for Mr. Cohee. The bank had provided him with a 2008 Porsche SUV and maintained his $6.4 million beachfront compound in Santa Monica. Calif., with views of the Pacific and a spa and pool.


Ms. Waters and Mr. Cohee have been outspoken advocates for fair treatment of African-Americans and other minorities by the nation’s banks — “silver rights,” Mr. Cohee called it during an interview in his Los Angeles office, where he prominently displays a photograph of him with the congresswoman. Indeed, in Los Angeles the bank has won praise for its record of helping minority businesses and lower-income residents.

Their interests first intersected in 2002, when Mr. Cohee was involved in a bidding war for Family Savings, a small, black-owned bank in Ms. Waters’ South Los Angeles District.

As a white-owned Illinois bank initially emerged as the winner, Ms. Waters made clear through the local news media that she opposed any deal in which Family would fall out of African-American hands. She was credited when the bank abruptly changed course and gave Mr. Cohee another chance to submit a winning bid.

“It’s very helpful if you have a community-based transaction to have the real or implied support of Maxine,” said Mr. Bradshaw, who preferred the initial deal. “She’s a star in the community.”

This Mr. Bradshaw seems quite diplomatic. Back to the article:

The acquisition nearly doubled the size of Mr. Cohee’s bank, making it among the nation’s largest African-American-owned banks.

Less than two years later, Mr. Cohee named Mr. Williams, Ms. Waters’ husband, to the bank’s board. A former professional football player and ambassador to the Bahamas1, Mr. Williams was working as a business consultant, pulling in hundreds of thousands of dollars over a several-year period working with some of Ms. Waters’s political allies, according to disclosure forms.


The federal takeover of Fannie and Freddie last fall was a near-fatal blow to One United. The bank, like many others around the United States, had invested some of its capital in preferred stock of the two mortgage companies.

After the federal intervention, the stock became nearly worthless and OneUnited lost almost $50 million. That left the bank dangerously under capitalized.


Ms. Waters had been in regular contact with Henry M. Paulson Jr., then the Treasury secretary, urging him to hire minority contractors to advise the federal government on investments and to move more aggressively to head-off a rash of forced evictions of people defaulting on their mortgages, Treasury officials said.

It was in one of those conversations that she asked Mr. Paulson to host a gathering at Treasury of representatives from minority-owned banks to discuss their losses related to Fannie Mae and Freddie Mac, the officials said.

OneUnited officials, including Mr. Cohee, had separately been pressing for such a meeting, requesting it on behalf of the National Bankers Association, a Washington-based group that represents minority-owned banks. Its incoming chairman was a OneUnited executive, Robert Cooper. But it was only after Ms. Waters intervened that the session was approved, Treasury officials said.

At the meeting were representatives from the offices of Representative Barney Frank and Senator John Kerry, both Democrats of Massachusetts, the home state of OneUnited, along with Ms. Waters’s chief of staff. As the hour-long meeting got underway, Treasury officials were surprised as Mr. Cohee and Mr. Cooper focused the discussion on their bank, not broader industry problems, participants said. Mr. Cohee made it clear that he wanted the federal government to somehow make up for their $50 million loss.

“They wanted money — cash,” said a former Treasury Department official who attended the meeting but asked not to be named, because he was not authorized to speak to reporters. “That is why they were there. It was very, very explicit.”

The photo above, of Rep. Waters, accompanied the article. It is credited to Doug Mills/The New York Times .

1Perhaps Rep. Waters ought to recommend Wayne-Kent A. Bradshaw, the former president of Family Savings, for this post?

More Obama Supporters Concerned by the President's Recent Actions

Last week we noted the concern expressed by two supporters of President Obama, Jim Cramer and Stewart Taylor, about the President's recent statements and actions (see "Buyer's Remorse" and ""More Buyer's Remorse"). This week brings more notes of concern from Obama supporters. On Monday on CNBC, Warren Buffett made a point similar to the one Taylor and Cramer made: in an economic emergency, the president's primary focus ought to be dealing with that emergency, not trying to enact other policy priorities. To underline the point, Taylor used the metaphor of a burning house: you put the fire out first; you don't water the lawn. Buffett used the analogy of World War II, saying that we have been hit with an "economic Pearl Harbor". From the transcript of his CNBC appearance Monday:

[I]f you're in a war, and we really are on an economic war, there's a obligation to the majority to behave in ways that don't go around inflaming the minority. If on December 8th when--maybe it's December 7th, when Roosevelt convened Congress to have a vote on the war, he didn't say, `I'm throwing in about 10 of my pet projects,' and you didn't have congress people putting on 8,000 earmarks onto the declaration of war in 1941.


[J]ob one is to win the war, job--the economic war, job two is to win the economic war, and job three. And you can't expect people to unite behind you if you're trying to jam a whole bunch of things down their throat. So I would--I would absolutely say for the--for the interim, till we get this one solved, I would not be pushing a lot of things that are--you know are contentious, and I also--I also would do no finger-pointing whatsoever. I would--you know, I would not say, you know, `George'--`the previous administration got us into this.' Forget it. I mean, you know, the Navy made a mistake at Pearl Harbor and had too many ships there. But the idea that we'd spend our time after that, you know, pointing fingers at the Navy, we needed the Navy. So I would--I would--I would--no finger-pointing, no vengeance, none of that stuff. Just look forward.

Warren Buffett may not have much else in common with the "dissident" feminist intellectual Camille Paglia, but she supported Obama as well -- and like Buffett, is concerned by some of what she has seen since he was inaugurated. In the first part1 of her Salon column Wednesday ("Obama's Clumsy, Smirky Staff is Sinking Him"), Paglia blamed the problems on Obama's staff:

Yes, free the president from his flacks, fixers and goons -- his posse of smirky smart alecks and provincial rubes, who were shrewd enough to beat the slow, pompous Clintons in the mano-a-mano primaries but who seem like dazed lost lambs in the brave new world of federal legislation and global statesmanship.

Heads should be rolling at the White House for the embarrassing series of flubs that have overshadowed President Obama's first seven weeks in office...


First it was that chaotic pig rut of a stimulus package, which let House Democrats throw a thousand crazy kitchen sinks into what should have been a focused blueprint for economic recovery. Then it was the stunt of unnerving Wall Street by sending out a shrill duo of slick geeks (Timothy Geithner and Peter Orszag) as the administration's weirdly adolescent spokesmen on economics. Who could ever have confidence in that sorry pair?

1The second part of the column is, inexplicably, about something completely different: Paglia's recent trip to experience Carnival in Bahai, Brazil, as the guest of a popular Brazilian singer.

Wednesday, March 11, 2009

Armando Falcon, Jr.: An Enemy of the People?

Armando Falcon, Jr. (pictured above) was the director of the Office of Federal Housing Enterprise Oversight (OFHEO) who brought to light problems at Fannie Mae and Freddie Mac several years ago. For his service as a diligent regulator, he received something less than gratitude from certain Members of Congress, as the video below (which got a lot of hits on YouTube last fall) shows1. For some reason, the connection between that and the Ibsen play "An Enemy of the People" (which I last read when it was assigned in one of my high school English classes) just came to me yesterday. For those who aren't familiar with the play, here is the summary of it from Wikipedia:

Dr. Thomas Stockmann is the popular citizen of a small coastal town in Norway. The town has recently invested a large amount of public and private money towards the development of baths, a project led by Dr. Stockmann and his brother, the Mayor. The town is expecting a surge in tourism and prosperity from the new baths, said to be of great medicinal value, and as such, the baths are the pride of the town. However, as the baths are starting to succeed, Dr. Stockmann discovers that waste products from the town's tannery are contaminating the baths, causing serious illness among the tourists. He expects this important discovery to be his greatest achievement, and promptly sends a detailed report to the Mayor, which includes a proposed solution, which would come at a considerable cost to the town.

But to his surprise, Stockmann finds it difficult to get through to the authorities. They seem unable to appreciate the seriousness of the issue and unwilling to publicly acknowledge and address the problem because it could mean financial ruin for the town. As the conflict ensues, the Mayor warns his brother that he should "acquiesce in subordinating himself to the community." Stockmann refuses to accept this, and holds a town meeting at Captain Horster's house in order to convince the people to close the baths.

The townspeople - eagerly awaiting the prosperity that the baths are believed will bring - refuse to accept Stockmann's claims, as his friends and allies, who had explicitly given support for his campaign, turn against him en masse. He is taunted and denounced as a lunatic, an "Enemy of the People." In a scathing rebuke of both the Victorian notion of community and the principles of democracy, Dr. Stockmann proclaims that in matters of right and wrong, the individual is superior to the multitude, which is easily led by self-advancing demagogues. Stockmann sums up Ibsen's denunciation of the masses, with the memorable quote "...the strongest man in the world is the man who stands most alone."

And here is that video1 showing how Falcon's warnings were resented by come Congressional Reps:

1The creators of this video overstate their case slightly when they claim that Democrats opposed tighter regulation of the GSEs while Republicans advocated tighter regulation. Falcon mentioned to Real Clear Politics that one Democrat, Rep. Maurice Hinchey of New York, was supportive of his efforts. Also, although Republicans in Congress and the Bush Administration advocated stronger regulation of the GSEs, President Bush shared the zeal of most of the Democrats for encouraging the extension of credit to marginal borrowers, in order to increase home ownership levels, particularly among minorities.

The photo of Falcon above comes from this New York Times article, and is credited to Chris Kleponis/Bloomberg News.

Matt Simmons on the Outlook for Oil and Natural Gas Prices

Hat tip to Aaron Edelheit for this PDF of Matt Simmons's PowerPoint presentation to the Commercial Club of Boston last month: "The Oil and Gas System is Sick". I hope it won't ruin any surprise if I tell you that Simmons, the author of the book Twilight in the Desert, thinks oil and natural gas prices are heading much higher. I happen to agree, but I'd feel surer if Simmons offered a compelling explanation for the massive correction in oil and natural gas prices last fall. On p.33 of the PDF he lists three common explanations,

–Speculators left the game that created spike
–Unraveling economy killed off demand
–Gluts are now endemic:
~Tank farms brimming with oil
~Super-tankers now floating oil gluts

■But, none of these “facts” were true.
■Only clear fact: “Crude oil fell 74% in 12 weeks” (September 22nd–December 22nd).

And then on P.34 Simmons offers this,

Are We Missing “The Black Swan?”

■Credit default swap index soared as crude oil plunged.
■Credit freeze began when oil collapsed.
■This had to hurt traders’ ability to own oil contracts.
■If any traders ever had to liquidate contracts, this would cause oil prices to temporarily fall.
■Glencore(aka Marc Rich & Co AG) Energy Trading credit default swaps illustrate the squeeze.

Which seems to contradict his point on the previous slide that the collapse wasn't the result of speculators leaving the game. Perhaps Simmons explicated this during a Q&A.

The image above, of the cover of Simmons's book, comes from Barnes & Noble's website.

Tuesday, March 10, 2009

John Hussman's Latest: "Buckle Up"

In his latest market commentary ("Buckle Up") Dr. Hussman reiterates his call for the government to make bank bond holders take eat some losses:

The misguided policy response from Washington has focused almost exclusively on squandering public money and burdening our children with indebtedness in order to defend the bondholders of mismanaged financial institutions (blame Paulson and Geithner – I've got a lot of respect for our President, but he's been sold a load of garbage by banking insiders). Meanwhile, I suspect that the little tapes in Bernanke's head playing “we let the banks fail in the Great Depression” and “we let Lehman fail and look what happened” are so loud that he is making no distinction about the form of those failures. Simply letting an institution unravel is quite different from taking receivership, protecting the customers, keeping the institution intact, replacing management, properly taking the losses out of stockholder and bondholder capital, and issuing it back into private ownership at a later date. This is what it would mean for these banks to “fail.” Nobody is advocating an uncontrolled unraveling of major financial institutions or permanent nationalization as if we've suddenly become Venezuela.


The course of defending the bondholders of insolvent institutions is not sustainable. Do the math. The collateral behind private market debt is being marked down by easily 20-30%. That debt represents about 3.5 times GDP. That implies collateral losses on the order of 70-100% of GDP, which itself is $14 trillion. Unless Congress is actually willing to commit that amount of public funds to defend the bondholders of mismanaged financials so they can avoid any loss, this crisis simply cannot be addressed through bailouts. Bondholders have to take losses. Debt has to be restructured. There is no other option – but the markets are going to suffer interminably until our leaders figure that out.


Yes, some pension funds, insurance companies, mutual funds, and other investors who hold the corporate bonds of mismanaged financial institutions will take a haircut on those investments. As they should. But if we ignore the need to restructure debt obligations, we risk allowing this downturn to move aggressively into 2010.

The dot drawing of Hussman above comes from a Wall Street Journal article about him last week, "Outfoxing a Bear?". Hussman linked to this article in his market commentary.

KSW Update

Yesterday KSW, Inc. (Nasdaq: KSW) filed an 8-k and issued a press release regarding its 2008 results, "KSW Reports Record 2008 Profits and Revenue". Excerpt:

Net income for 2008 increased by 16% to $4,239,000, or $.68 per share (basic) and $.67 per share (diluted), compared to 2007 net income of $3,662,000, or $.59 per share (basic and diluted).

Revenues in 2008 increased by 20% to $93,027,000, as compared to $77,266,000 in 2007.

As of December 31, 2008, the Company’s backlog was approximately $62,500,000.

The release didn't break out 4Q numbers, but after backing out the previous three quarters' earnings I get earnings of $1,004,000 or about 16 cents per share for 4Q 2008, a sequential drop from 3Q's $1.3 million in earnings.

I spoke with KSW's corporate counsel Jim Oliviero today. He said that the company was focusing more on government work and hoped to position itself to benefit from some of President Obama's stimulus money. He said that KSW was going to bid on two government projects this spring -- a pollution plant in Queens and a part of the Port Authority's new World Trade Center. The value of the Queens contract would be about $40 million, and the value of the WTC project is estimated at between $25 million and $60 million. KSW should know by the end of April whether it wins either of those projects.

I also asked Oliviero about the long-anticipated Second Avenue subway project currently under construction in Manhattan. He said that at this state of the project (tunnel boring) there isn't much role for an HVAC contractor, but KSW would consider bidding on the construction of the stations when the project gets to that point.

Based on the current share price of $2.05 and 3Q balance sheet data, KSW is currently trading for about a third less than its net cash (the 10-k showing year-end balance sheet data should be filed within a couple of weeks).

Saturday, March 7, 2009

Stocks for the (Very) Long Run

From John Authers's column in today's Financial Times ("Long View: Why baby boomers will put their faith in bonds"):

US stocks have now underperformed Treasury bonds since 1969. Very few savers actively putting money away today started much before 1969. Most of them did so during a period when the cult of the equity held sway. For this whole generation, that belief in equities has proved badly misplaced. Various long-term surveys show that there have been very long periods of underperformance by equities in the past.

But we can say that the current sell-off is almost without precedent for its speed. [Research Affiliates' Rob] Arnott’s figures show that as Wall Street opened on Friday it was already dealing with the second biggest six-month decline in its history. The only bigger six-month drop was barely larger, at 51 per cent, at the end of the crash of 1932.

The good news is that 1932 marked the bottom of the great bear market of the 1930s, and that stocks rallied more than 100 per cent in a matter of weeks.

The bad news is that there were still 22 years to go before stocks regained their highs in nominal terms, and 26 years before they regained their highs in real terms, an event that did not happen until 1958.


All of this could shatter our confidence in stocks as the vehicle for the long run. While the evidence is still unequivocal that they do perform best over the very long term, the periods may be so long that they do not help some people during their lifetimes.

A couple of thoughts on this:

1) The shattering of confidence Authers mentions above, and the associated revulsion toward stocks, explains the multiple compression that Vitaliy Katsenelson wrote occurs during secular range-bound (or bear) markets (see his graphic above, or this post for elaboration on Katsenelson's thesis).

2) This column wouldn't have been a revelation to Benjamin Graham. Unlike the advocates of buy & hold indexing in recent years, Graham was well aware that stocks, broadly speaking, could under-perform for painfully long periods. Graham wrote this on p.12 of the third edition of his Security Analysis, which was published in 1951:

"Prior to 1929, one could say with some logic that the course of common stock prices appeared to be so determinedly upward that the intending holder of high-grade stocks for investment could afford to buy them at any time and to ignore their fluctuations. In the past 20 years there is no longer any clear-cut evidence of an underlying and persistent upward trend in common stocks taken as a whole."

Hence, Graham focused on investment strategies that didn't rely on a secular bull market lifting most stocks1. Incidentally, he didn't know it when he wrote the quote above, but a new secular bull market had already begun when the third edition of Security Analysis was published -- one that would continue for about another 15 years.

The graphic above is from Katsenelson's website.

1Worth remembering though that even Graham took a beating during the Great Crash: According to James Grant, in his introduction to the latest edition of Security Analysis, Graham lost 70% of his money (The Dow dropped 89.5% over the same 1929-1932 period).