Greenback Consulting Company

Farewell

2008-09-02T12:00:00.003-04:00

I regret to inform all of the loyal Greenback Consulting blog readers and subscribers that after about a year and a half after beginning this project, I will discontinue blogging here. Economic commentary along with posts on topics ranging from local and national politics to urbanism can be found at my other blog, Extraordinary Observations. It has been a pleasure communicating with everyone - I wish everyone the best of luck in your investing and trading endeavors.

Weekend Update: Weak Euro Edition

2008-08-17T22:00:00.001-04:00

The Euro is now 8% off of its high and the Pound has now had ten consecutive down days. It is a bit misleading to call today's update the "Weak Euro Edition" since, despite the recent pullback, the Dollar is still incredibly weak relative to European currencies. Stocks were mixed for the week, there could be an opportunity for further advance; some technicians see the indexes approaching key resistance points. We will see what the coming week holds...

Greenback Consulting Portfolio
Holdings: cash
Prior week trades: none

Top Three News Stories
1. Wage Slaves Hold Few Bargaining Chips - despite record inflation, the Federal Reserve is banking on a weak labor market to keep laborers from demanding higher wages. What does this mean for America? For the average Joe, it means he probably will have considerably less spending power in the near future than he had in the past; not the greatest outcome... On the other hand, the economy as a whole will probably be able to skirt the 1970s style inflation that the doomsayers have been clamoring about for a while now.

2. Unpredictably Irrational - there have been a few interesting developments in the past week in the auto world. First, Bloomberg reports that for the first time since 1982, fuel spending has exceeded auto spending in the United States. This, theoretically, would lead me to believe that Americans would be cheaper vehicles, more efficient vehicles, or fewer vehicles altogether. However, USA Today notes that consumers are changing their car buying habits very little if at all! What gives here? Are we really that short-sighted and confused? Or are we just incredibly bad at predicting what could happen again in the future?

3. Solar For the Little Guy - in a small win for the green energy campaign, Ikea is investing $75 in solar panel companies that will supply the chain with consumer panels that individuals can install on their homes. Ikea may be on to something... shoppers in the market for a cheap couch could probably be sold on the idea that solar panels would save them money as commodities like electricity continue to get increasingly expensive. For investors, this is just another example of how popular green energy has become amongst those with big money.

Weekend Update: Market and Dollar Stage Comeback

2008-08-10T15:31:00.002-04:00

It wasn't such a terrible week in the market, stocks were up, the dollar was up, and oil was down. The world seems to be distracted by the Olympics, and not especially concerned with much else going on in the world. Investors Business Daily called the market in a "confirmed rally" a little over a week ago, and despite a few bumps, have been mostly right on the money.

Greenback Consulting Portfolio
Holdings: cash
Prior week trades: none

Top Three News Stories
1. Even the Best Isn't Good Enough - Nobody is surprised when they hear that Detroit's Big 3 are struggling; few even flinch when they hear that one or more of them may declare bankruptcy. On the other side of the world, Bloomberg reports that Toyota is facing their biggest slump in profits in the past five years. I recently blogged about cultural trends that you can use as the basis for investments. Yes, we are changing the type of cars we drive, and companies like Toyota should benefit the most; but we are also changing our driving behavior more broadly, driving less and buying fewer new cars less often, making auto-makers in general a relatively poor investment for the next few years.

2. Party is Over - For years we spent money on McMansions, SUVs, flat-screen TVs and other luxeries; in many cases, we couldn't afford them. US News & World Report claims that the US will enter a period of "new frugality" where saving money and living within our means will be culturally acceptable once again. Apparently, lving a simple lifestyle might actually be personally preferrable. Having an extra 10 hours per week that might have been spent driving a car can be spent taking art classes or playing kickball in the park. Spending less money on "stuff" for ourselves might give us more opportunities to spend money with friends. Who would have thought?

3. Back to School - Yet another anecdotal indicator that the economy is in trouble: business school applications are soaring and expected to increase again next year. The Economist makes an obvious point about business school, that the cost of attending is both the tuition paid and the salary forgone while attending. This leads some post-undergrads to skip the MBA and go straight into business. Last week's weekly update had a link to a new statistic that shows post-undergrads having the highest unemployment rate in the economy, so it really shouln't be surprising that some of them are using business school as a means to avoid unemployment.

Weekend Update: The Inagural Post

2008-08-03T17:00:00.000-04:00

The Greenback Consulting portfolio has not been trading as actively as it did a year ago, and as a result, the official blog has been a little less hopping. Nevertheless, I still want to provide updates on the market and the status of the Greenback Consulting Portfolio, which is why I'm starting a new weekly series, in addition to regular postings. Every Sunday I will post any current holdings in the Greenback portfolio, as well as any trades that occurred during the prior week. In addition, I will post and comment on three important economic stories that might get overlooked by the mainstream. Enjoy!

Greenback Consulting Portfolio
Holdings: cash
Prior week trades: none

Top Three News Stories
1. The World Is Round - The New York Times reports that high energy prices are beginning to stall globalization. Instead of manufacturing goods around the globe and shipping them thousands of miles for consumption, companies are now reversing their outsourcing strategies. Of course, services that are not energy intensive, like IT support, will probably continue on their trends until labor costs catch up in other parts of the world.

2. Foreign Profits - We all know that the US economy is hurting, but how bad would it be without foreigners. According the New York Times, one-third of all US-based company profits are made overseas. This obviously reflects the weakness of the dollar and the allure of "cheap American goods and services". An article in the International Herald Tribune explains that Europeans and other foreigners are invading New York City, and New Yorkers are jealous of their seemingly endless spending power.

3. Post-Undergraduate Unemployment Hits 9.8% - Most media stories focus on unemployment in the US as a whole, but people my age might be more interested in another statistic: the unemployment rate for 20-24 year olds. The Washington Post reports that post-undergraduates are almost twice as likely to be unemployed as the average American. The article also points out another interesting nugget - the highest demand jobs are those are the bottom of the skill/experience spectrum, so even though a lot of companies might be hiring, they aren't hiring new grads.

The Value of Simplicity

2008-07-24T09:36:00.002-04:00

Question: who is the greatest investor of all time?

Some might say Donald Trump, others might suggest Peter Lynch; but I suspect that the most popular investor is Warren Buffet. Despite his tremendous wealth, Buffet's investing strategy is incredibly simple. So simple that it can basically be summed up in one sentence: buy companies whose value is less today than it will be at some point in the future. This is the strategy that makes someone the richest man in the world; and it makes me wonder, if it is so simple, why do we struggle with it so much?

I'll be the first to admit that I am guilty: at times I have been skeptical of Buffet's investing style for being "too easy". We're taught that life isn't easy after all, and if we want to succeed, we need to be one step ahead of everyone else. I was in a Borders in Washington DC recently and there existed books on every investing topic on the planet. There thousand page textbooks on the topic of technical analysis, books on daytrading, swing trading, value investing, growth investing, and magical "systems" to pick the perfect portfolio. Having read many of these books, I can tell you that the "systems" are not always compatible - someone must be right and someone must be wrong? Or maybe they're all wrong? If you've followed this blog over the past months, you'll know there are times that I traded the greenback consulting portfolio using incredibly complicated thesis. Why? I'm only grateful that I have these posts in writing, so I can look back and learn from these mistakes.

The value of simplicity permeates well beyond the investing world. Businesses constantly fail because entrepreneurs make the same mistakes that investors do: they complicate everything. An idea might be met with skepticism because it is "too simple". If only we extrapolate on this program and form this extra partnership, etc... or so the logic goes. Humans hate bureaucracy and we complain about it constantly. In essence, bureaucracy = inefficiency. Yet at the same time, many entrepreneurs create bureaucracy by complicating their business in ways that allow them to avoid answering the question "is it really this easy?".

Simplicity is efficiency. At the end of the day, the most successful investors are the ones with the simplest investing strategies and the most successful entrepreneurs are the ones with simple businesses that solve problems efficiently. What's the catch? There isn't one (unless you're running some sort of scam, of course).

New Urbanist Investing Philosophy

2008-07-20T20:11:00.002-04:00

New urbanists have been around since the early 1980s. The goal of new urbanists is to reform the way we use develop and use real estate. If you've ever played the video game Sim City, you know that there are three options in the game for developing land: industrial, commercial, and residential; the three can not be mixed. New urbanists do exactly that: mix different types of real-estate to create neighborhoods where you can live, work, eat, shop, and walk everywhere - no car required. This type of lifestyle is already becoming popular, and will continue to grow in popularity and necessity. I believe there are three trends that will develop and I have a few ideas for investing profitably based on them.

Suburbs will slowly decline - the first trend is the move of people out of suburbs and into urban areas. The decline of suburbs will be attributed to a number of factors, including declining home values on the fringes and increasing energy prices. Living in a big home in the suburb means you need more fuel to heat it in the winter, electricity to cool it in the summer, water and gasoline for the lawn, and fuel to commute long distances every day. Companies that rely on fringe suburbs for growth like Centex (NYSE: CTX) and Pulte Homes (NYSE: PHM) have already suffered and may never recover. Centrally located shopping malls will probably decline and eventually disappear, replaced with shops in urban neighborhoods. REITS like Simon Properties (NYSE: SPG) and General Growth Properties (NYSE: GGP) will have a difficult time maintaining growth and profitability.

Car culture will erode - General Motors (NYSE: GM) is trading at 30+ year lows, and some on Wall Street think one of the big three automakers will fold in the near future. Public transportation usage is up and will become a major growth market. Since transit systems are almost exlcusively owned and operated by governmental organizations, there will be little ability to invest directly. New urbanist neighborhoods can and should be planned around transit systems, using cities like Arlington, Virginia as an example. Companies like Zipcar and U Car Share will continue to grow subscribers as individuals opt for short-term rentals rather than full car ownership. It is very possible that automakers are grossly over-estimating the demand that Generation Y will have for car ownership (domestic demand for cars likely peaked in Generation X and is on its way down).

Demand for housing rentals will increase - credit will be increasingly difficult to obtain, especially in light of the trouble at Fannie Mae (NYSE: FNM) and Freddie Mac (NYSE: FRE) and fewer will be able to afford to purchase homes or condos. As the housing market becomes less liquid and individuals are less willing to take on the risk of owning a home, they will opt for rentals instead. Apartment and mixed-used REITs in urban areas like Post Properties (NYSE: PPS) and Camden Properties (NYSE: CPT) will benefit. Picking stocks in that industry is slightly tricky because some have more competent management, better balance sheets etc. and frankly I haven't done a great job examining them yet.

These are trends that will occur over the next decade or more and therefore should be considered long-term investments. The scenarios probably will not play out exactly the way I describe, but I am confident that they will prove mostly true. As always, some companies will perform better than others, but diversifying or using ETFs will get you a good cross-section of an industry.

The Great Oil Debate

2008-07-16T22:03:00.003-04:00

Matt Simmons appeared on Fast Money last week in what now appears to be the most widely circulated video in the stock market blogosphere. They don't let guys like this on TV too often (he does appear in a lot of oil documentaries though); the looks on the Fast Money traders' faces is absolutely priceless.

Simmons makes two points that are worth re-noting:

First, oil is actually priced lower in the current market than in a market where "shorting and speculating" is outlawed. This goes against the very mainstream opinion that traders and speculators are driving prices up, and that eliminating them will provide instant price relief. In recent weeks, the onion market has been a hot topic of conversation. Futures trading in onions was banned because onion growers were afraid of speculators driving prices down (ironic, isn't it?) and price swings of 100% or more in only a few months have become commonplace. Nevertheless, Simmons thinks if the government intervenes, it ought to set a price floor, not price ceiling; this is very much the opposite of popular wisdom.

Second, Simmons is not talking about electric cars, the hydrogen economy, biofuels, or any other technological answer to our problems. Simmons is much more blunt - if we want to dig ourselves out of this hole, we need to change our lives. Quit commuting long distances to work, quit transporting the food we eat thousands of miles, and most importantly, quit looking for someone to blame for the current hardship and quit assuming that prices cannot, will not, and will never go higher than they currently are.

Cash is (Still) King

2008-07-02T13:01:00.002-04:00

Despite having promised to revive the Greenback Consulting blog at the beginning of summer, some readers have been asking why so few posts in June? The answer is that the Greenback Consulting portfolio is still stashed away in cash. The recent market turmoil has made it difficult to justify many swing trades on the long side; and we believe that playing the short side of this market is trickier, and frankly, we are more willing to wait it out for some opportunities.

On the bright side, stocks are forming bases that we plan to use for trades when the time comes. Trying to play breakouts in individual stocks when the general market is in correction is not a game we are interested in, and one that we will avoid for now. When we start trading again, you will know about it, and can hopefully make some money along side us. Hang in there, it can be brutal out there.

A Defense of Oil Market Speculation

2008-06-20T09:47:00.017-04:00

Everybody wants to know why oil prices have increased so rapidly in the past few months. Fortunately, everyone and their brother has the answer, and commonly, they will tell you that "evil speculators" are crushing the American Dream. I recently became suspicious when I saw Dennis Kucinich appear on Bill O'Reiley's show and wholeheartedly agree with each other on this issue. I have two questions, of which I don't know the answers, but which I hope can spur some intellectual thought on the question.

Are speculators to blame?
One thing that I never understood about the "blame the speculator" argument was that it seems to assume that traders only take positions on the long side - which anyone familiar with trading markets knows is not the case. In any liquid market, it is entirely possible that speculators could push prices either above or below what we might consider fair value based on supply and demand fundamentals. Nevertheless, I don't think I have ever heard traders being praised for crushing the price of some asset on the short side, making it undervalued and more affordable to average folks. The reason speculators engage in this behavior to begin with rests on an assumption that supply and demand fundamentals will reflect a certain price at some point in the future.

Consider this scaled-down example: if you go to a minor league baseball game and see a player you think will be the next Babe Ruth, you might purchase his baseball card on the assumption that at some point in the future he will be a hall-of-fame all-star. As more and more individuals see him play, they will want his baseball card, and the value of the card will increase, until eventually its value goes through the roof, even though this player might not be inducted into the hall of fame for decades into the future.

So when you see Clark Griswald on the evening news, griping about filling up his SUV, and saying things like "I don't understand what has changed in this market since the last year, I heard on the radio that demand is down!" Mr. Griswald is missing the bigger picture. Yes, fundamentals have changed only a little in the past year, and yes, demand is down (though only in the United States and other developed countries) but the expectation of a change in supply and demand at some point in the future has changed, and that is why prices themselves are through the roof. All of this leads into my next question...

Are speculatively inflated prices bad?
Conventional wisdom would lead most to say... hell yes!, but I want to know why? If speculators are correct, and in 1, 3, or 5 years fundamentals would have naturally pushed oil prices as high as they are today, then what is the difference? In fact, I have heard convincing arguments that we need high oil prices now; because despite the price, there is still sufficient supply on the market. As I've talked about extensively at my other blog, there is fairly overwhelming evidence that Americans, for the first time in decades, are seriously considering alternatives to what they used to consider god-given forms of energy; developing the alternatives before the real crisis comes is an extremely good way to hedge the damage. Consider two hypothetical scenarios:

Scenario 1: oil prices skyrocket, but supply and demand fundamentals remain relatively unchanged. Americans become frustrated and start seeking alternatives; some start taking the bus, others purchase a bike; a few rent an apartment near their job; most try to trade in the SUV for a sedan. Government sees an obvious problem, new buses get purchased, light rail and rapid transit systems are developed, green industries spring up - blue collar workers find jobs building wind turbines and transit infrastructure. For those who are unable to move or trade in their vehicle right away, there is sufficient fuel available at the local Chevron station, albeit for a premium.

Scenario 2: oil prices skyrocket, supply becomes pinched. Lines start to form at the local Chevron station, panic buying begins, driving prices up even further; small scale violence occurs as Americans try to hoard all available fuel supplies. Public transportation infrastructure collapses under the strain people are putting on it, as government never bothered to buy more buses or upgrade rail infrastructure. SUVs literally become worthless as their trade-in value drops closer to zero; those with triple digit round trip commutes quit their jobs in order to avoid negative personal cash flow - unemployment jumps.

Scenario 1 depicts a world in which speculators are free to dictate the price of oil on the open market. Scenario 2 depicts a world in which speculators are all thrown in jail, - no longer allowed to participate in open markets and immediate supply/demand fundamentals are all that matter. Scenario 1, for the most part, is a depiction of the state of affairs today; scenario 2 is a hypothetical depiction of the state of affairs at some point in the future (exactly when is impossible to know).

Is labeling speculators as evil-doers a little harsh? Should we actually be praising them for providing us with fair warning to the coming fundamental changes in the oil market? Knowing what we know today, can we achieve a "soft landing" when it comes to oil markets and completely avert the "crash landing" that so many conspiracy theorists on the internet harp about? Steven Leeb, author of The Oil Factor and The Coming Economic Collapse, recently appeared on CNN and said his biggest fear was that oil would drop 30 or 40 dollars from its current levels, wiping out the forward progress we've made in the past few months. Leeb's books are well written and make some convincing arguments, perhaps unconditionally blaming speculators is over the top; perhaps we need to rethink preconceived notions of the world around us...

Book Review: Your Money and Your Brain

2008-05-18T23:19:00.001-04:00

I bought Jason Zweig’s Your Money & Your Brain expecting a slow and dry explanation of how the brain works, followed by some sort of scientific explanation about how it relates to investing. Admittedly, aside from Psychology 101 and a few Malcom Gladwell and Dan Gilbert books that have appeared on the New York Times Bestseller List, I’m a bit of a novice on the topic. I was pleasantly surprised with how much I learned from Your Money & Your Brain.

Zweig lays out the book in about a dozen well-organized chapters that covers a variety of topics on how the brain works and why we behave the way we do when investing. What is truly interesting about the discussion of psychology and investing is that the theory that humans act rationally when making buy and sell decisions may be not be correct. No one goes out of their way to act irrationally, but emotion can do strange things to our decisions, and investing, as it turns out, is one of the most emotional activities out there.

Having traded stocks and options for about a year now, I’ve felt an array of emotions following both very good and very bad trades. What is most interesting about Zweig’s analysis is that I could literally recall all the mistakes I made as a result of simple human psychology. No matter how good my intentions might have been, I know (in hindsight) that I made mistakes because my emotions pushed me to make decisions I should not have made. Controlling an emotion seems to be a skill that takes time to develop, but knowing in the back of my mind that emotional temptation is there will hopefully allow me to make future investing decisions not based on emotion but on pure rationality.

I recommend Your Money & Your Brain to every investor as the book teaches some valuable lessons about why investors behave the way they do when money is involved. I also recommend Your Money & Your Brain to anyone who isn’t interested in investing, simply because it provides valuable insights into how money affects the way we behave, and given that money is now a necessity of life, it is a topic that literally affects every person in the world. It also doesn’t hurt that the book is well-written, entertaining, and easily understandable to anyone, regardless of their psychology background.

Fix the Dollar, Solve the Energy Crisis?

2008-04-29T22:08:00.004-04:00

American Public Media's Marketplace had a great headline story tonight about the current state of the energy market. Both crude oil futures and retail gasoline prices have recently hit all-time highs (not adjusted for inflation, but still significant), and a common explanation is that the supply and demand equation is simply out of whack. It goes like this: we’re demanding more crude and gasoline than ever and there is less of it. Admittedly, even I used this line of logic over at my other blog as a reason to reject John McCain’s federal gasoline tax holiday. However, the evidence points to something more fundamental pushing crude and gasoline prices up.

To say that our country has a gasoline shortage is simply incorrect; anecdotally, when was the last time there was a line at the local Chevron station? The reality, according to Marketplace’s research, is that refiners have been rebuilding their plants over the years and now can produce at a higher capacity than ever. Even if refineries are operating near capacity, they are still cranking out more gasoline than ever, and the United States has more on reserve than it did, for example, a year ago.

So is the issue on the demand side?.. Shockingly, no. 2008 is projected to be the first year in over a decade when gasoline consumption will fall, compared to the prior year. As people start commuting less, swapping gas guzzlers for more efficient sedans, and generally adjust their lifestyles to consume less energy, demand falls, as economic theory would predict.

Supply is up, demand is down, why is gasoline so expensive? The answer could be the greenback burning a hole in your pocket. Think about it, today, Valero (NYSE: VLO) announced that its Q1 profits were down over 70% year over year; meaning that while high gasoline prices could have previously been blamed on fat profits for refiners, nowadays, refiners are making significantly smaller profits, and the reason is because the main input in gasoline, crude oil, is well up over $100 per barrel. The correlation coefficient between the value of the dollar and the price of a barrel of crude is very strong, meaning that historically, as the dollar falls, crude strengthens, and vice-versa.

I still don’t think McCain’s gasoline tax holiday is a good idea because of the many unintended (although completely predictable) consequences that would result. The point is that if politicians like McCain really care about helping the “average consumer” and bringing down energy prices, they should be talking about fixing the value of the dollar, not about half-baked ponzy schemes like the gasoline tax holiday. Likewise, American consumers should pressure our leaders to focus on the dollar, rather than wasting time with the annual “boycott Exxon station” gimmicks that have become popularized thanks to Facebook and “consumer advocacy” blogs. It certainly isn’t a perfect fix, and not the best long-term solution, but it’s a start.

Book Review: The Little Book That Beats the Market

2008-04-20T13:48:00.001-04:00

The Little Book That Beats the Market is a quick and concise read about an investing system that author Joel Greenblatt truly believes will greatly outperform the market. I think there is validity to Greenblatt’s ideas, but I believe the book leaves a few key questions unanswered; and frankly, I’m skeptical of a book that contained the phrase “magic formula” on what felt like every page of the book.

Greenblatt’s system is actually quite simple: take the stocks with the highest return on capital, highest earnings yield, and rank them in a nice neat list; then buy a portfolio of the 30 highest ranking stocks, hold them for one year, sell them, and replace them with the newest high ranking stocks. Over time (specifically, periods of 3 years or longer) this system has beaten the broader market and the author provides compelling reasons to believe it will in the future. Essentially, Greenblatt’s “magic formula” is an exercise in value investing, albeit one where computer software runs all the calculations and the investor doesn’t really need to make any judgments about whether a stock is cheaply valued by the market.

The problem I have with this system of investing is that it ignores a critical challenge: transaction costs. Greenblatt goes into plenty of detail about why professional money managers fail to outperform the broader market and why mutual fund management fees are a major contributor to this problem. That’s a perfectly fair argument, and one reason why index funds and ETFs like the SPDR have become wildly popular in recent years. Greenblatt does plenty of number crunching to show that his “magic formula” outperforms the S&P 500 index fund, but it is all in a world free of transaction costs.

For instance, lets say you sign up for an account at a low priced stockbroker like Scottrade and deposit $10,000. Scottrade charges $7 per trade, or $14 per full transaction (buy and sell) and at 30 trades per year, that puts your cost of the portfolio at $420 per year, or 4.2% of your original investment. Certainly, 4.2% is a significant number when you’re trying to outperform a broader market average using a diverse portfolio of stocks. On the other hand, buying the SPDR will cost you 7 bucks the first year and nothing until its time to sell (assuming you don’t want to increase your position in the SPDR, but even if you do, lets say once a month, the transaction costs are still significantly lower than in the “magic formula).

Now, of course, as your portfolio grows, the transaction costs will decrease. A portfolio valued at $100,000 will pay less than 0.5% per year in transaction costs and a portfolio with a million dollars will pay peanuts in transaction costs. Unfortunately, for a novice investor or someone without much money to put in the market, the “magic formula” is a much less valuable than it is to someone with a lot of loose change to throw around.

The bottom line is that The Little Book That Beats the Market is very well written, short, and easy to read. I don’t really take issue with the style of investing proposed by the author or even that his “magic formula” is bogus; however, I do warn small investors from jumping on the bandwagon before considering the high cost of maintaining a 30 stock portfolio could actually have.

Book Review: Naked Economics

2008-04-20T13:40:00.002-04:00

Although the past few months have been a bit of a hiatus period for Greenback Consulting Company and this blog, I have been trying to keep up with some of the books from the reading list that I posted here last winter (sitting on airplanes and in airports presents an excellent opportunity to read, although not such a good one to follow the market). So in what will be a new addition to the Greenback Consulting blog, I’ll give my two cents on business or market related books and whether I can, in good faith, recommend them to my readers. First book up is Naked Economics by Charles Wheelan.

Ever since Steven Levitt’s Freakonomics became wildly popular and showed Average America that economics is cool, there has been a spawn of books trying to explain economics in layman’s terms. Aside from Naked Economics, I’ve read The Underground Economist by Tim Harford and think that is equally as good.

Wheelan believes that economics has some basic concepts that everyone would benefit from understanding. Unfortunately, our higher education system fails us in many regards. Many students (and I have seen this first hand) walk into Econ 101 only to find textbooks crammed with numbers, professors obsessed with graphs and charts, and exams that require more regurgitation of jargon and number crunching than understanding these basic concepts. Most students are able to cram this information in their brains for enough time to pass the final exam but take very little from the class and apply it to their lives.

The difference between books like Freakonomics and Naked Economics is that Freakonomics demonstrates how economics can be used to understand obscure phenomenon in the world, like why sumo wrestlers throw matches or why drug dealers can’t afford to live anywhere other than their parents’ basement. In fact, one of the biggest criticisms of Steven Levitt and his book is that it teaches that economics is a tool to answer meaningless questions rather than tackle some of the world’s biggest problems like poverty, hunger and inflation. Levitt has made compelling responses to these critics (although I won’t get into those here).

Naked Economics, on the other hand, focuses on what traditionalists would consider fundamental economic questions. The book opens with a discussion of how markets work and why incentives are powerful. Wheelan then goes into a discussion about why government is a necessary evil when it comes to economics and markets. The dialogue then moves into the theories of perfectly available information and why human capital matters. There are chapters on topics like financial markets, economic interest groups, the Federal Reserve, economic growth, and trade and globalization.

The result is a book that is highly educational, easy to understand, and hilarious. As it turns out, a lot of economists have great senses of humor; their thousand page textbooks usually don’t provide a great stage for it though. To anyone with a limited understanding of economics, Wheelan’s book is an excellent read and highly recommended. In fact, I believe books like Naked Economics and The Underground Economist could be great classroom tools as well. They are short and easy to read, and professors could use the examples contained therein to apply to the more technical explanations they make during the course of the semester. Even if you’re not a beginner and possess a deep understanding of economics, the book is still highly recommended for its entertainment and laugh value.

How Bad is it?

2008-03-16T20:47:00.002-04:00

What I think is interesting about the current state of the economy is that the stock market doesn't quite seem to reflect the reality of whats going on around across the country. Energy prices are skyrocketing, headline inflation in general is racing upward, the US dollar is at all time lows, and the sub-prime crisis seems to be spreading like wildfire. The S&P 500 is down about 18% from its peak - but that hardly seems catastrophic compared to how bad a lot of companies and individuals have been feeling it. And every night talking heads go on TV and fight over whether or not the US economy is in recession at all. Nevertheless, I came across this video tonight from BBC News, which really is pretty eye opening.

I think it raises an important question... is the stock market forward looking in the sense that it is signaling that things aren't really that bad and we'll be able to weather this economic funk? Or is the current state of the economy not fully reflected in the stock market, and does that mean the stock market is in for another painful slide downward?

I don't know the answer to these questions - no one does - and there is a lot of speculation about what it all means; but I think realizing that there might be a disconnect between the stock market and the rest of the economy could be important as more information about the economic situation surfaces.

Hiatus

2008-03-13T22:02:00.000-04:00

I must apologize to the dedicated Greenback Consulting readers who, over the past few months, have found this blog eerily silent and have wondered whether I completely vanished from the world of financial analysis. Rest assured that the Greenback Consulting blog will be back in full force by summer and the Greenback Consulting portfolio will be trading again shortly thereafter.

Since January, I have been working full time in an industry mostly disconnected from financial markets and although I have been following the market (albeit much less closely than I had been) I simply have not had the time to keep up with this blog. I never expected to find myself in a situation where I was unable to blog daily or at least a few times a week for a long period of time, and had I known, I would have tried to warn everyone in advance. Nevertheless, sometimes events happen differently than you expect, and the fact is that I simply cannot consistently maintain the Greenback Consulting blog by myself at this time.

Thanks to everyone for your patience! I’ll be back in full force within a few months and hope to see you then.

Where Was the Market Crash?

2008-01-22T23:49:00.000-05:00

I made the fatal mistake of logging onto Reddit yesterday night before going to bed, because rather than the usual smörgåsbord of links about how Ron Paul is god, how god doesn't exist, why pot-smoking should be legal, and why the RIAA should burn in hell, I noticed that just about every other link was about the huge drops in international stock markets, links to armageddon blogs calling for a 1987 style one-day crash, and posts by people asking where to get a front row seat of the US market crash. At that points I should have known that everything would be fine...

I didn't check stock quotes all day today at work, because, quite frankly, with most of the Greenback Consulting Portfolio parked in cash right now, and with the long positions hedged with the Proshares Ultrashort Russell 2000 ETF (AMEX: TWM), there isn't much reason to stress myself out over tick by tick market fluctuations. By the time I got home and checked the closing tape, all I could help but think was: that was it?

So what happened? Why didn't the US stock market implode on itself? Why will many traders live to see another day? The first obvious answer is that Uncle Ben came in on his golden helicopter and bailed the market out again. After all, a 75 basis point cut really is pulling out all the stops... with interest rates as low as they are now, why would anyone bother investing in anything other than stocks? I don't know how much credence I give this theory, especially after I saw this photo of Uncle Ben the AP published yesterday.

A second, more believable explanation, in my opinion, is that the current market is getting sold off out of fear of the unknown. In other words, stocks get pounded because investors simply don't know whats coming next. They'd rather dump their shares of Banc of America (NYSE: BAC) than watch the company report dismal numbers... they'd rather dump their entire portfolios than have the Fed disappoint and not cut interest rates... etc. The result is that most of the selling, and most of the downward pressure is already out of the stock by the time the the big news comes out. Plus, at that point, investors have a better understanding of what already happened and what should happen in the future, so they start repricing, and usually this leads to a nice bounce, or at least a much less severe crash than the numbers might dictate.

That said, today's action was pretty disappointing to a lot of people. Obviously anyone who was net-short was probably disappointed by what happened today; then again, anyone who is net-short has been making a killing over the past few weeks. But today's action was also disappointing to some, myself included, who wanted to see mass capitulation open up some buying opportunities. As I mentioned in a post the other day, I think the market could continue to get sold down. A 1000 point one-day drop might have been enough to get me to step in and say "enough is enough" but today's action didn't allow that. Instead I think today is just another day in the long road down. We're going to need to test some lows at some point, but I don't quite think we're there yet, but don't worry, it will come eventually.

Bizcon Breakdown

2008-01-21T20:48:00.000-05:00

In the world of policy debate we have an argument relating to business confidence, or "bizcon" for short. The argument follows that investors need to be confident that business will be able to deliver solid predictable returns; if not, then business confidence will break down, equity markets will tumble and the broader economy will be dragged along with it. I wasn't around trading during the last major confidence collapse, in the years between 2001 and 2003, so I'm not sure I've ever seen a true collapse in confidence before today, but I have no doubt that what we're witnessing right now is nothing short of a complete and utter collapse in confidence.

The Intrade recession 2008 contract closed at 76 today, its highest since the contract started trading last September.

That being said, this market is a mess, there is no point in trying to catch the falling knife anymore, there hasn't been since major moving averages and key support levels failed to hold. I feel like a genius for selling my Diamond Offshore (NYSE: DO) position at $145 - almost exactly at its top, but then again, I've made plenty of trading blunders in this market that make me much less of a genius in reality.

An amateur investor I know contacted me the other day asking if he should dump everything. He had made a killing (in unrealized gains) playing some high flying Nasdaq stocks, I don't know exactly what his current holdings look like, but if they are the same high flyers that looked so good on the way up, I can't even imagine the level of pain he is in right now. This little anecdote tells me two things. The first is that some players in the market are capitulating, selling everything out of fear of how bad its going to get, so there will inevitably be some snap back rallies along the way - don't buy them. The second thing it tells me is that there is a lack of confidence that high flying stocks can hold their gains, and those with a lot of air under them can and will come down hard.

I recently had another conversation with an acquaintance from the prop desk at Goldman Sachs (NYSE: GS) who sees another big leg down for US markets over the next year, but as a long-term position investor, he thinks in about a year from now there will be some real bargains in the market. I have to say I agree with this assessment. There are some stocks that look cheap now, but trading against the momentum is a dangerous game. The only way I can see getting long most stocks right now is through a strategy of averaging down. Buy small lots of stocks now and as the share prices fall, continue adding to the position. It is a difficult strategy that looks easy on paper and is incredibly difficult in reality, but may be the only way to beat this market on the long side right now.

Otherwise, cash is king and ultrashort ETFs from Proshares are the savior!

Eating Crow on my Dry Bulk Shipping Call

2008-01-17T23:43:00.000-05:00

I made a lot of good money playing the dry bulk shipping stocks on the way up, and have lost all of it on the way back down. As it should be obvious to anyone following the market at this point, the market is in an extremely foul mood and its tough to make money in any sector, but dry bulk shipping has been absolutely annihilated in the past few months.

At the end of November I suggested that Dryships (NASDAQ: DRYS) might be a buy because the market appeared to be pricing in a big drop in the Baltic Dry Index (BDI), even though that index was still near its all-time high. My case for dry bulk shippers was that in the event that the BDI held steady the shipping stocks could rebound strongly.

It turns out I was dead wrong and the market was correct to price in that collapse of the BDI. Looking at this graph is painful and probably what could be classified as a "crash".

Granted, dry bulk shipping rates are still higher than they were a year ago at this time, but for those who bought in too late (i'm guilty here too) the last few months have been horribly painful. Dryships, for example, has lost 60% of its value in only the last three months. If that isn't the definition of the house of pain, I don't know what is.

The Market's Take on Recession

2008-01-12T18:10:00.000-05:00

Every day there are dozens of talking heads that come on TV and give their opinion about the odds of the US economy going into recession in 2008. For the most part these opinions are pointless and you're best off just ignoring them. Why? Because we have an excellent tool, a trading market, that can tell us with more better certainty, the likelihood of particular events occurring. That market is called Intrade. If you haven't heard of it, check out this quick introductory video:

The theory behind the predictive power of a market is simple: since there is real money at play, people will only make a bet when they possess enough information to make an informed decision. For instance, in an opinion poll, a person might have absolutely zero clue whether candidate A or B will win an election, but they will probably tell the pollster something anyway, and since there is nothing on the line, there is no penalty if they are wrong. If, on the other hand, the pollster asked the person if they would be willing to bet $50 on their candidate if they could win an additional $50, the person probably would choose not to answer. Thus, when real money is on the line, opinions will be backed by much more confidence.

So does it work? Sure. Las Vegas odds-makers and trading markets like Intrade are consistently better predictors of future events than opinion polls. Like any market, certain events might be "overbought" or "oversold" at any given point, making for interesting trading opportunities, but the theory is that in the long term these anomalies will be sorted out by arbitragers trying to make fast money. And like any trading market, the results are updated in real time as money flows into and out of these contracts and information becomes available.

Anyway, back to the purpose for this post. With some talking heads on TV screaming that recession is imminent and the end is year, and other blowing it off and saying we have absolutely nothing to worry about, where does the market stand? As of the time of my writing this, the bid/ask spread for the recession contract is 58.5/59.0 - in other words, you can buy a contract for about 59 dollars - and if the US enters recession in 2008, the contract pays out 100 dollars. Or, if more information becomes available and the market increases the risk of recession to 70 or 80, you can sell the contract before expiration and pocket the difference.

From a historical perspective, the market thinks the chances of US recession in 2008 are about as high as ever. Nevertheless, even in the high 50s, the current opinion certainly isn't a mandate either way. Keep an eye on the Intrade markets, as you trade stocks and options for insight into how those securities could move. For instance, if you think financial stocks are getting beaten down because the market is pricing them for US recession, check the Intrade contract, it might turn out that the market isn't pricing in recession as much as you thought, and these stocks might have more room to fall before you should jump in.

Was AMEX's Big Drop Predictable?

2008-01-12T00:38:00.000-05:00

So this morning the credit-card giant American Express (NYSE: AXP) came out and said that it is adopting a "cautious view" for 2008 because recently, in December, credit-card delinquencies rose to new highs. It didn't help the stock that it got a few analyst downgrades to boot.

Call me crazy, but I didn't I blog only a few weeks ago about an Associated Press article that said this is exactly what was going to happen? Granted, in that same post I warned to be careful playing the credit-card stocks because I was afraid this news might already be priced in. American Express dropped 10% today - its worst one day decline in over 5 years, and my only question is: why wasn't this priced in? Based on all the available evidence, it shouldn't have been any shock to find out that this was going to happen, and yet the market reacted as if they had little idea it was coming. I guess its funny how the stock market thinks sometimes.

Update on MacWorld Rally

2008-01-12T00:19:00.000-05:00

Right around Christmas-time I asked whether a pre-MacWorld rally might be in the offing for Apple (NASDAQ: AAPL) - it turns out the answer is a resounding: NO. I originally blogged about it when the stock was trading around 190; it did have a nice little 10 point run up to 200, but came crashing back to around 170.

I think this suggests that expectations are pretty low for this year's MacWorld event. Granted, Steve Jobs certainly isn't going to announce anything as blockbuster as last year's iPhone, but that doesn't mean he isn't going to announce something cool. And even if he doesn't announce some awesome new product, I think an update on iPhone and Mac sales might be enough to get Wall Street excited for the stock again.

On Fast Money tonight Pete suggested that this stock is cheaply valued given its growth potential... I'm not entirely sure I agree. At 26x forward P/E and 1.6x PEG I wouldn't call this stock expensive, but I wouldn't call it dirt cheap either. Its not the kind of stock I would own purely on valuation, because I think in this dangerous market, it could get sold down pretty hard if the bears are able to take control. However, I still think the MacWorld trade is viable, but it really depends on how the stock opens on Monday. Jobs gives his keynote speech on Tuesday afternoon. If the stock gaps down on Monday it could be an opportunity to buy for a trade, otherwise, pass on it. Right now the risk/reward favors the long side, since the market is already pricing in pretty low expectations for the conference.

On a non-financial note, I am very curious to see if Steve Jobs really does have another ace up his sleeve this year. I'm hearing rumors of a ultra-thin Mac laptop and a new and improved iPhone, lets see if there is anything else that surprises me.

US Government's AAA Rating at Risk?

2008-01-12T00:08:00.000-05:00

I happened across a story on Reddit today that for whatever reason has gotten surprisingly little media attention. According to this Reuters article:

Moody's Investors Service said on Thursday the United States' "triple-A" government bond rating could come under pressure in the very long-term if the Medicare and Social Security programs are not reformed. "These two programs are the largest threats to the long-term financial health of the United States and to the government's Aaa rating," Moody's analyst Steven Hess said in the agency's annual report on the United States. The report is not a rating action. Hess also said that risks from the U.S. subprime mortgage crisis are not affecting the nation's credit rating. However, the housing downturn and subprime crisis could result in "a period of slower growth in coming quarters, although further interest rate cuts by the Federal Reserve could help to maintain positive growth," he said.

Maybe its just me... but it seems like this should be a huge red flag. If the current credit crunch isn't enough to take down the US Governments credit rating but the inevitable Medicare and Social Security is, then maybe we should try to take care of that before it kicks us in the knees? Who knows? Maybe ten or twenty years from now "flight to quality" will refer to buying Toyota (NYSE: TM) or Berkshire Hathaway (NYSE: BRK.A) bonds, rather than than US treasury paper... I don't know of anyone warning that those companies are at risk of losing their AAA rating.

Rough Start to 2008

2008-01-11T23:37:00.001-05:00

It has been almost two weeks since my last post on the Greenback Consulting blog - I apologize for the delay. My cable TV and internet went on the fritz right around the time of my last post, and I give a big wag of my finger to Time Warner Cable (NYSE: TWC) for turning a routine repair into a customer service nightmare. By the time the cable was fixed I relocated to Texas. I am still trying to get used to the market being open 8:30am - 3:00pm local time. I actually am very curious now about hedge funds and trading firms on the west coast... their US trading hours are 6:30am - 1:00pm. That aside, I finally received my new Sirius Satellite (NASDAQ: SIRI) antenna in the mail, so I can finally follow along with CNBC and Bloomberg again. I know, I know... these stations are mostly noise that make trading markets intelligently more difficult; but I am addicted to it anyway, what can I say?

Quite simply, the market is a mess. The chart of the S&P 500 isn't very promising at all.

The dreaded "death cross" occurred toward the end of December. That is when the 50-day moving average cross below the 200-day moving average. The index broke both its August and November closing lows, and has yet only to test the August intra-day low. Honestly, I don't think this is a triple bottom like some optimists want to believe, I think this is a major break down.

I don't think we've hit capitulation. My "capitulation basket" consisting of three stocks: NYMEX Holdings (NYSE: NMX), Altria Group (NYSE: MO), and Chevron (NYSE: CVX) aren't signaling that the market has engaged in panic selling. NYMEX is still in its trading range and Altria and Chevron are near their all-time highs. It really is just a hard market to make money in being long stocks. The Greenback Consulting portfolio has gone long the Proshares Ultrashort Russell 2000 ETF (AMEX: TWM) as a hedge against the painful decline in the market. I really agree with Karen Finerman (of Fast Money) on this point: in this market, the last group of stocks you want to own are the small-caps, regardless of sector or business.

Finally, A Solar Company to Get Excited About

2007-12-23T20:33:00.000-05:00

There are dozens of solar cell manufacturing companies trading on the stock market right now - there is a lot of excitement around them, but I'm highly skeptical. A lot of these companies, like Evergreen Solar (NASDAQ: ESLR) and Hoku Scientific (NASDAQ: HOKU) are money losers; others, like First Solar (NASDAQ: FSLR) and Sunpower (NASDAQ: SPWR) have sky high valuations; and some, like LDK Solar (NYSE: LDK) and SolarFun (NASDAQ: SOLF) are foreign companies which have been criticized for having questionable bookkeeping practices.

But there is a bigger reason I'm not excited about these companies... they are all producing technologically inferior solar panels. They rely on scarce resources like silicon or cadmium telluride to produce their products and the manufacturing process itself lengthly and costly. Their solar panels are currently not economically competitive with fossil fuel energy (at least in the United States), and their future competitiveness is reliant on one of a few scenarios: either prices for traditional energy needs to increase (which is likely, but how quickly is debatable) or costs for producing solar panels needs to come down (which is debatable because the cost of silicon and other inputs could skyrocket as solar energy grows) or subsidies to solar companies needs to increase (possible, but not guaranteed).

Let's enter the world of Nanosolar, a privately held company which has been getting unfortunately little media attention. It did, however, recently appear on the cover of Popular Science. In fact, Popular Science calls Nanosolar's panels THE #1 invention in 2007. This three minute video from Youtube gives a good introduction to the Nanosolar technology:

Nanosolar has not only the blessing of Popular Science, but also of the Google guys and some of the Silicon Valley's biggest venture capitalists. The company's CEO, Martin Roscheisen, keeps a blog over at blog.nanosolar.com which I definitely recommend keeping up with. The company finished constructing their manufacturing facility in the past few months and on December 18th the CEO announced that they shipped their first product.

Its a shame we can't invest in it yet, and you're probably wondering why the company isn't public. The CEO recently offered an explanation on his blog:

"As to the question of when we might offer shares to the public, our board of directors has not yet had a chance to discuss this; we’re simply too focused on product development and company building right now. In general, note that silicon cell manufacturers (whether based on crystalline silicon or equally capital-intense vacuum-deposited silicon thin films) require so much capital per MW of production capacity that they pretty much have to go public as quickly as they can. Nanosolar is different: Our technology is extremely capital efficient and has such a low cost structure."

The solar power industry is still in its infancy, and in many ways reminds me of another industry: internet technology. In the mid to late 1990s there were a lot of internet tech companies, none especially well run or profitable. Remember companies like Netscape, Lycos, America Online, or dozens of others like them? Their stocks got bid up as everyone got euphoric about the potential future growth in the internet tech sector. Eventually, most of them failed or got consolidated into other companies. There was one company that came later; it had superior technology and a better business model than all the rest... Google. In hindsight, its funny to look back and wonder how Yahoo ever got bid up to $110 (split adjusted) - virtually a 350% premium over its current levels.

I think the same thing will happen in the solar industry. In the next five to ten years I can see Nanosolar, or another emerging solar company with similar technology, go public. By the time they hit the stock exchange they will already have a profitable business model and tremendous room for growth. I believe in the next five to ten years we could look back on companies like First Solar and wonder how we ever bid them up as high as we did, much the same way I just looked back on Yahoo. That doesn't mean the honeymoon is over for these high flying stocks, but in the long term I don't see much value, especially when the technology that Nanosolar has is finally on the market.

MacWorld Rally?

2007-12-23T19:33:00.000-05:00

Is the 2008 MacWorld going to be a catalyst for another leg up in Apple's (NASDAQ: AAPL) stock? There are a lot of rumors floating around about what cool new stuff Steve Jobs is going to announce at this year's conference in mid-January. Among the most popular rumors are a new and improved iPhone, and an ultra-thin, ultra light Mac laptop.

The Question is, is this going to be enough to move Apple's stock? Granted, it has rallied well over 100% in 2007, so it can be difficult for some to justify buying it at these levels.

On the other hand, everyone seems to be in love with Apple. Consumers love the products and investors love the stock. I think the anticipation of the next big thing to come at MacWorld could be an opportunity for some quick swing trades. It is very possible that the stock will sell-off during the conference, either because Jobs fails to meet expectations or because people just want to take some profits off the table, but we still have over 3 weeks before that occurs, which should be enough time to make a few swing trades. Don't chase, I think dips could be buyable, but chasing the stock up is more risk than its worth. Good luck!