Paul Kedrosky's Infectious Greed

Diversification, Schmversification: All Correlations to 1.0(-ish)

pk — Sun, 21 Mar 2010 15:10:34 PDT

Good set of graphs in a new paper showing how correlations have increased across equity markets in recent decades. In each graph the top line is the correlation with developed markets, the middle line is with developed & emerging combined, and the bottom line is correlation with emerging markets alone. The trend is steadily higher for most countries, with a few seeing serious spikes toward unity.

Source:

Peter F. Christoffersen et al., “Is the Potential for International Diversification Disappearing?,” SSRN eLibrary (March 16, 2010), http://papers.ssrn.com/sol3/papers.cfm?abstract_id=1573345.

GM, California, and America’s Multi-Trillion Dollar Pension Problem

pk — Sun, 21 Mar 2010 12:28:20 PDT

Very good piece in current Institutional Investor on American’s multi-trillion pension funding problem. Read the whole thing.

What’s the difference between General Motors and California?

California hasn’t gone bankrupt. At least, not yet.

General Motors Corp. did go bankrupt, of course, in a historic Chapter 11 filing orchestrated by the federal government last June. A similar fate for California isn’t out of the question, though it is unlikely. No U.S. state has ever gone bankrupt, although California’s Orange County back in 1994 and, more recently, the City of Vallejo did take the plunge.

California’s $20 billion financial crisis — just the latest in a series, like a Hollywood horror movie with endless sequels — makes it Exhibit A of the pension funding predicaments looming over many state and local governments in the U.S. And as it happens, these crises have a lot in common with the pension overhang that helped sink General Motors last year.

Over several decades the leaders of both GM and GS (that is, the Golden State) caved in to the demands of aggressive unions, choosing what seemed the path of least resistance. Both gave their employees richer and richer retirement plans during their respective boom years and assumed that their revenue growth and the hefty returns on their pension fund investments would go on forever. Not so long ago, in fact, officials of both GM and California boasted that their employee pension plans were in good shape.

U.S. Rig Count Passes Super-Spike Peak

pk — Sun, 21 Mar 2010 12:23:56 PDT

Lumber, Redux: Why So Loved in 2010?

pk — Sun, 21 Mar 2010 12:12:47 PDT

Just sharing some reading/research I’ve been doing over the incredible outperformance of lumber so far in 2010. It is up 40% year-to-date, a fairly astounding figure.

Pine beetle threatens North American forestry (UPI)
Pine beetle to affect lumber supply continent-wide (Province)
What’s killing the great forests of the American West? (Guardian)
Some see beetles in forests as natural event (NYT)
U.S. lumber prices higher as tax incentive nears end (Reuters)
Random lumber-length quotes (CME)

All graphs via Finviz.

Readings: Pensions, Brazil, Rigged Markets, IPOs, Lumber, etc.

pk — Sun, 21 Mar 2010 11:58:25 PDT

A few links from my weekly Weekend Reading column:

Trillion-Dollar Pension Crisis Looms Large Over America (Source)
Senior economist warns of ‘triple-dip’ threat (Source)
If the stock market's up, it must be rigged...right? (Source)
Big Man In Brazil (Source)
Stabilizing stock market boosts companies' public debuts (Source)
Could A Global Trading “Network Map” Prevent Another Lehman Brothers? (Source)
Is the Potential for International Diversification Disappearing? (Source)
Pine beetles threaten North American forestry (Source)

Readings: Oil, Lawyers, Math, Niall Ferguson, Big Lebowski, etc.

pk — Sat, 20 Mar 2010 02:46:35 PDT

Milberg Lawyers Leave Jail, Hit Links, Slopes; Reflect on Life (Source)
Consumers Buy More Efficient Refrigerators, but Keep the Old Ones Humming (Source)
Will reclusive mathematician accept $1 million prize? (Source)
Niall Ferguson interviewed by Consuelo Mack (Source)
Roger Ebert revisits The Big Lebowski, adds to his list of Great Movies(Source)
South Sudan’s road to oil-dependent independence (Source)
More Saudi Oil Goes to China Than to U.S. (Source)

Stephen Roach vs Paul Krugman: I'm an Economist! I'm an Umpire!

pk — Fri, 19 Mar 2010 12:57:41 PDT

Oh yeah? Well, abacadabra. I'm an umpire!
- Bugs Bunny ( Transylvania 6-5000)

Last night Stephen Roach on Bloomberg Television proposed taking a baseball bat to Paul Krugman for his recent comments about getting tough with China over its currency polices. Lovely to see how decorous things are in the peaceful world of economics, what with everyone agreeing on so many universal truths. Or not.

Readings: China, Ireland, Water, Traffic, CDOs, etc.

pk — Thu, 18 Mar 2010 02:12:13 PDT

China and Germany unite to impose global deflation (Source)
Water - The right price can encourage efficiency and investment (Source)
Ireland’s Epic Boom and Bust (Source)
Postcard From a Guangzhou Traffic Jam (Source)
Harvard undergraduate’s readable and useful thesis on the CDO meltdown (Source)
BRICs rally slows amidst highest valuations since 1995 (Source)

Readings: Eating, End-times, Media, China, etc.

pk — Wed, 17 Mar 2010 13:33:34 PDT

Tracking a Century of American Eating (Source)
Living in the End Times According to Slavoj Zizek (Source)
How will an RMB revaluation affect China, the US, and the world? (Source)
World Bank - China quarterly update (Source)
Mark Kvamme's "From Mass Media to Media from the Masses" (Source)

Peak Oil Demand? Ha!

pk — Wed, 17 Mar 2010 11:32:54 PDT

Strongly critical paper out from two economists writing on the subject of peak oil demand. Far from seeing demand peak in the near term in developed countries, the authors argue that demand will grow in developed countries, while growing even more quickly in developing countries, thus leading to increased per capita oil demand worldwide.

The crux of the argument is that oil demand bas been less responsive to price increases in recent years. In part, the authors argue that this has had to do with easiest substitutions for oil having already been made, in space heating and electricity generation, specifically. Much harder substitutions lie ahead, like liquid fuel for transportation, and the elasticity of demand – the change in oil demand caused by a unit increase in oil prices – will be lower going forward than it was, say, in the 1970s.

World oil demand’s shift toward faster growing and less price-responsive products and regions

Using data for 1971-2008, we estimate the effects of changes in price and income on world oil demand, disaggregated by product – transport oil, fuel oil (residual and heating oil), and other oil – for six groups of countries. Most of the demand reductions since 1973-74 were due to fuel- switching away from fuel oil, especially in the OECD; in addition, the collapse of the Former Soviet Union (FSU) reduced their oil consumption substantially. Demand for transport and other oil was much less price-responsive, and has grown almost as rapidly as income, especially outside the OECD and FSU. World oil demand has shifted toward products and regions that are faster growing and less price-responsive. In contrast to projections to 2030 of declining per- capita demand for the world as a whole – by the U.S. Department of Energy (DOE), International Energy Agency (IEA) and OPEC – we project modest growth. Our projections for total world demand in 2030 are at least 20% higher than projections by those three institutions, using similar assumptions about income growth and oil prices, because we project rest-of-world growth that is consistent with historical patterns, in contrast to the dramatic slowdowns which they project.

More here from James Hamilton on the subject, who rightly notes that the implication of 138mbpd oil demand by 2030 is, in a sense, internally contradictory. How would we get there from here from a supply standpoint?

Where I think the paper falls down, at least a little, is on changed behavior in the transportation fuel market. Yes, a steady rise in oil prices might not elicit many changes, thus causing the above per capita demand effects (were supply to somehow magically appear). But I don’t think that it what we will see. As I said in my TED talk this year, we will more likely see multiple fuel spikes much higher, perhaps $150 or more, which will have very different shock & awe effects than steady increases due to inelastic liquid fuel demand in developed countries. That doesn’t make the situation more palatable, of course, but the non-linearities in the system are the key to understanding that it won’t happen the way it is being econometrically modeled.

Readings: Butch Cassidy, Charismatic Megafauna, Credit, Google, etc.

pk — Wed, 17 Mar 2010 01:43:53 PDT

The Economics of Butch Cassidy and the Sundance Kid (Source)
Divide and Diminish (Source)
The coming wave of personal credit (Source)
Deficit Builds as Americans Pay Less and Get More (Source)
Google file system: Evolution on Fast-Forward (Source)

Aging, Debt, and the End of Innovation

pk — Tue, 16 Mar 2010 12:43:50 PDT

Typically provocative new Andy Xie piece out pointing to aging societies as being fundamental to why all economies are steadily catching "Japan disease". Further, Xie goes on to argue that innovation won't save us from debt and death:

An economy ages in many ways. The most common are tied to the exhaustion of factors such as production-labor, capital and resources. When an economy begins to develop, labor is the abundant resource. Hence, it makes sense to develop labor-intensive industries. When labor surplus is exhausted, it makes sense to develop capital intensive industries. When capital stock is high enough, investment cannot drive growth anymore. Economists call it diminishing returns, or more of the same yields less output. This type of aging doesn't worsen. Economists say a steady state equilibrium emerges when consumption and investment are balanced just right, sort of like permanent middle age.

Moreover, youthfulness is possible for a mature economy. Through innovation, an economy can produce more with the same inputs. This so-called total factor productivity (TFP) is an elixir for a mature economy. It determines how fast a rich economy gets richer. A 1 percent TFP is considered mediocre, 2 percent is good, and 3 percent is super.

Many economists argue for freer and cheaper economic structure to stimulate innovation. But, in the Internet era, innovations rapidly disseminate around the world. It's not clear if innovation benefits can be contained in any country anymore. For example, even though the United States is more innovative than Europe, it hasn't outperformed by much. Its celebrated prosperity during the Greenspan era turned out to be an old-fashioned bubble, not a reflection of superior innovation.

Read the rest here.

The HGP, or How Government Can Promote Social Bubbles for Fun and Profit

pk — Tue, 16 Mar 2010 12:39:48 PDT

Entertaining new paper from Didier Sornette and others about the evolution of the human genome project (HGP). Specifically, the authors muse about how the interaction of public and private sector actors created a bubble that actually played out in favor of government.

Exuberant innovation: The Human Genome Project

We present a detailed synthesis of the development of the Human Genome Project (HGP) from 1986 to 2003 in order to test the "social bubble" hypothesis that strong social interactions between enthusiastic supporters of the HGP weaved a network of reinforcing feedbacks that led to a widespread endorsement and extraordinary commitment by those involved in the project, beyond what would be rationalized by a standard cost-benefit analysis in the presence of extraordinary uncertainties and risks. The vigorous competition and race between the initially public project and several private initiatives is argued to support the social bubble hypothesis. We also present quantitative analyses of the concomitant financial bubble concentrated on the biotech sector. Confirmation of this hypothesis is offered by the present consensus that it will take decades to exploit the fruits of the HGP, via a slow and arduous process aiming at disentangling the extraordinary complexity of the human complex body. The HGP has ushered other initiatives, based on the recognition that there is much that genomics cannot do, and that "the future belongs to proteomics". We present evidence that the competition between the public and private sector actually played in favor of the former, since its financial burden as well as its horizon was significantly reduced (for a long time against its will) by the active role of the later. This suggests that governments can take advantage of the social bubble mechanism to catalyze long-term investments by the private sector, which would not otherwise be supported.

More here.

Physics Fetishism Can Kill You

pk — Tue, 16 Mar 2010 12:35:57 PDT

I remember in grad school we used to obsess about how economics, computer science and such lacked a "reference discipline" -- you know, something legit, like physics. Here is a new paper on that subject from Andrew Lo at MIT:

Warning: Physics Envy May Be Hazardous To Your Wealth!

The quantitative aspirations of economists and financial analysts have for many years been based on the belief that it should be possible to build models of economic systems - and financial markets in particular - that are as predictive as those in physics. While this perspective has led to a number of important breakthroughs in economics, "physics envy" has also created a false sense of mathematical precision in some cases. We speculate on the origins of physics envy, and then describe an alternate perspective of economic behavior based on a new taxonomy of uncertainty. We illustrate the relevance of this taxonomy with two concrete examples: the classical harmonic oscillator with some new twists that make physics look more like economics, and a quantitative equity market-neutral strategy. We conclude by offering a new interpretation of tail events, proposing an "uncertainty checklist" with which our taxonomy can be implemented, and considering the role that quants played in the current financial crisis.

More here.

Ace Greenberg: Frog and Toad Are Friends at Bear Stearns

pk — Tue, 16 Mar 2010 12:21:17 PDT

This seems like something out of a children’s book, but read/watch this Bloomberg Television clip on for how Bear Stearns managed risk in the bygone days of having Ace Greenberg at the helm.

We had 3 people who worked for us. We had Cy the Spy, one was called the ferret, and one was called, I think the weasel. And their job was to walk around without any notice, sit down with a trader and look at his book and query him. So constantly we were on guard against the one thing that could cause you into so much trouble, and that’s an employee burying trades, having something that went bad and not disclosing it, and of course it gets worse and he tries to cover up and then you have a loss of a billion dollars or in one case 7 billion dollars. Which you probably read about a few years ago. So that was always my big fear and we were particularly rough about that. And any trader that didn’t want to cooperate with those three people, I said “you’ll make my day, just let know about that.”