Posts filed under “Think Tank”

Sugar High or LSD?

Years ago Charles Goodhart minted an eponymous law that is applicable today in financial markets. Last week, Pimco’s Mohammed El-Erian coined the metaphor “sugar high.” He was talking about the converse of Goodhart’s Law. We think he wasn’t harsh enough; hence, we use the metaphor “LSD.”

The 99th edition of Pears Cyclopaedia (1990-1, pp. G27, G31) restated Goodhart’s Law as follows: “As soon as the government attempts to regulate any particular set of financial assets, these become unreliable as indicators of economic trends.” The converse could be stated as, once markets succumb to Goodhart’s warning of this unreliability, classic standards of value will prevail again.

The recent stock market rally of certain financial stocks is an example of Goodhart’s warning at work. Barron’s Mike Santoli summed it up in his August 31 column:

“How is it possible, though, that Citigroup (ticker: C), Fannie Mae (FNM), Freddie Mac (FRE), Bank of America (BAC) and AIG (AIG) – with a combined market value near $200 billion – could ‘drive’ a stock market worth more than $10 trillion and that has added about $1 trillion in value this month, as measured by the Wilshire 5000? And how could it be that a handful of speculative stocks are muscling around the market when nearly 90% of the S&P 1500 index members were above their 200-day average price? This is an extreme also last seen in the ’03-’04 period. It says the move has been powerful, widely inclusive, that it’s probably time for a rest or a little downside shakeout, or a period when the market becomes a bit more selective.”

Let’s look at these five basket cases, which the Wall St. Journal has identified as accounting for “31% to 43% of daily NYSE share volume last week.” They lead the famous Jim Bianco list with total losses over half a trillion dollars. They have raised capital mostly from the government. They have about $100 billion less now than when the mess started. Their losses are projected to continue for some time.

BAC may be the least worst of the lot, although it is still under attack by the government. BAC is one of the 19 identified as “too big to fail.” That doesn’t mean it is going to succeed as a profitable and growing institution. It may, but time needs to pass to see that occur. C is being slowly dismantled. It, too, is one of the magic 19. We would consider these two banks as quasi-GSEs (government sponsored enterprises). How they will eventually emerge from the government bailout and what will be left for the existing shareholders is a subject of fierce debate.

AIG is in a class by itself. It would not exist were it not for the Geithner-Bernanke package of assistance. It is gradually being dismantled. It is the subject of speculation, and the legal fight with its former chairman has intensified the lawyers’ efforts. Is it worth the $50 a share market price currently trading on the reverse split stock? Maybe, but here, too, we wonder how much will be left for the shareholder after the government extracts its investment. See August 31 Barron’s column (pg.40) by Andrew Bary: after the US government’s preferred is factored in, AIG “has no tangible common equity.” We’re not sanguine. In the future, investors may wish they had seized the $50 bid when it was available.

Lastly we have the two true GSE carcasses. Fannie and Freddie stock prices have rallied without any underlying basis for increased value. Both face major additional losses. Both will need billions more in capital from the Treasury. If they were private companies, they would be insolvent. Shareholders may not realize anything of a tangible result for decades, if ever.

So let’s see. BAC and C are likely to show Goodhart’s law at work. With luck and massive stimulus on a continuing basis for many years the converse of Goodhart may ultimately lead to a profit for those who buy the shares today. Anyone who does so must think of himself as a raw speculator.

AIG may qualify for the El-Erian sugar-high metaphor. Without Geithner and Bernanke, market forces would have bankrupted AIG last September. Dismemberment may prove orderly, but restoration of value is another matter. Share buyers may want to choose “Equal” or “Splenda” and save their calories (money) for something better.

To buy Fannie or Freddie is an act in the LSD category. We wouldn’t do it with our own money. We certainly will not do it for clients. At the end of 2004 we recommended the sale of Fannie at $70 a share. At the $2 price today, it is still a sale unless the share buyer is hallucinating.

.David R. Kotok, Chairman and Chief Investment Officer, email:

Category: Think Tank

Words from the (investment) wise August 30, 2009

Words from the (investment) wise for the week that was (August 24 – 30, 2009)

Stock markets, in general, again logged gains last week as pundits perceived economic data to be better than expected. But the recovery path is not home and dry yet, as shown by declines in crude oil, a number of emerging stock market indices, small cap indices and high-yield corporate bonds. All said, risky assets displayed some fatigue despite positive economic reports.

Caution remained over the robustness of any economic upswing, as reflected by the solid performance of government bonds, with safe-haven currencies such as the US greenback and the Japanese yen also edging up.

As expected, Federal Reserve Chairman Ben Bernanke was appointed by President Barack Obama on Tuesday to serve a second term. “Mr Obama is said to credit Mr Bernanke with a leading role in helping to avert economic catastrophe. By reappointing Mr Bernanke – who worked in the Bush White House – Mr Obama can also emphasize his bipartisan credentials at a time when he is embroiled in a fiercely partisan battle over healthcare reform,” commented the Financial Times.



However, critics of Obama’s decision were plentiful and Morgan Stanley’s Stephen Roach, blaming Bernanke for his pre-crisis actions, said (via the Financial Times): “It is as if a doctor guilty of malpractice is being given credit for inventing a miracle cure. Maybe the patient needs a new doctor.” Bill King (The King Report) ascribed the stock market rising subsequent to Obama’s announcement to a “thank God it’s not Larry Summers” rally.

The past week’s performance of the major asset classes is summarized by the chart below – a set of numbers showing both the S&P 500 Index and government bonds rising, indicating an expectation of a subdued economic recovery and that the Fed’s monetary policy will stay easy for an extended period of time.



A summary of the movements of major global stock markets for the past week, as well as various other measurement periods, is given in the table below.

The MSCI World Index (+1.3%) and MSCI Emerging Markets Index (-0.2%) again followed separate paths last week as China, Hong Kong and Brazil underperformed. Mature stock markets have recorded gains for a straight seven weeks, whereas emerging markets have seen two back-to-back weeks of declines. The end result is that emerging markets have now underperformed developed markets for four weeks running. Could this be a sign of a retrenchment in risk appetite?

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Category: Think Tank

An Uncomfortable Choice

An Uncomfortable Choice

August 28, 2009
By John Mauldin

An Uncomfortable Choice

What Were We Thinking?

Frugality is the New Normal

And Then We Face the Real Problem

Argentina, Brazil, Uruguay, New Orleans, Detroit, and More

We have arrived at this particular economic moment in time by the choices we have  made, which now leave us with choices in our future that will be neither easy, convenient, nor comfortable. Sometimes there are just no good choices, only less-bad ones. In this week’s letter we look at what some of those choices might be, and ponder their possible consequences. Are we headed for a double-dip  recession? Read on.

An Uncomfortable Choice

As our family grew, we limited the choices our seven kids could make; but as they  grew into teenagers, they were given more leeway. Not all of their choices were good. How many times did Dad say, “What were you thinking?” and get a mute reply or a mumbled “I don’t know.”

Yet how else do you teach them that bad choices have bad consequences? You can  lecture, you can be a role model; but in the end you have to let them make their own choices. And a lot of them make a lot of bad choices. After having raised six, with one more teenage son at home, I have come to the conclusion that you just breathe a sigh of relief if they grow up and have avoided fatal, life-altering choices. I am lucky. So far. Knock on a lot of wood.

I have watched good kids from good families make bad choices, and kids with no seeming chance make good choices. But one thing I have observed. Very few teenagers make the hard choice without some outside encouragement or help in understanding the known consequences, from some source. They nearly always opt for the choice that involves the most fun and/or the least immediate pain, and then learn later that they now have to make yet another choice as a consequence of the original one. And thus they grow up. So quickly.

But it’s not just teenagers. I am completely capable of making very bad choices as I approach the end of my sixth decade of human experiences and observations. In fact, I have made some rather distressing choices over time. Even in areas where I think I have some expertise I can make appallingly bad choices. Or maybe particularly in those areas, because I have delusions of actually knowing something. In my experience, it takes an expert with a powerful computer to truly foul things up.

Of course, sometimes I get it right. Even I learn, with enough pain. And sometimes I just get lucky. (Although, as my less-than-sainted Dad repeatedly intoned, “The harder I work the luckier I get.”)

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Category: Think Tank

Income/spending/savings rate

July Income was flat vs expectations of a gain of .1% but June was revised higher by .2% to a decline of 1.1%. Spending rose .2%, in line with forecasts and June was revised up by .2%. Because the headline PCE was flat, REAL spending rose by .2% (vs .1% gain in June) and with…Read More

Category: MacroNotes

UoM Final Consumer Confidence

The Final August U of Michigan confidence figure was 65.7, above the preliminary reading of 63.2, higher than the consensus estimate of 64 but is a touch below the 66 seen in July. Both Current Conditions and the Future Outlook rose from the Aug preliminary number. However, from July, Current Conditions fell almost 4 points…Read More

Category: MacroNotes


July Income was flat vs expectations of a gain of .1% but June was revised higher by .2% to a decline of 1.1%. Spending rose .2%, in line with forecasts and June was revised up by .2%. Because the headline PCE was flat, REAL spending rose by .2% (vs .1% gain in June) and with…Read More

Category: MacroNotes

Bernanke’s Identity Theft a Shame on Many Levels

Good Evening: Like a self-sealing tire, U.S. stocks were punctured this morning but managed to reflate this afternoon. Some grim news about the health of non-TARP banks was behind the decline, while speculation in financial firms that DID receive bailouts helped launch the comeback. If you think it is bizarre to see taxpayers actively chase…Read More

Category: Markets, Think Tank


In contrast to the weekly Investors Intelligence data out yesterday which revealed that newsletter writers are the most bullish since Dec ’07 and the least bearish since Oct ’07 with the balance expecting a correction, the AAII sentiment measurement of individual investors reflects a different opinion. Bulls were little changed on the week at 34…Read More

Category: MacroNotes

King Report:



Let’s say that an aging baseball slugger who had abused performance-enhancing drugs for over a decade had a horrendous collapse in his hitting statistics. So the team put him on even stronger doses of steroids, HGH, testosterone, dianabol, insulin, protein shakes, creatine, glutamine and unknown powerful designer pharmaceuticals.

The team had him do Olympic and ballistic [weight] lifts, plyometrics and intense ‘core’ training. Though the slugger’s home runs and RBIs had fallen over 30% from the previous year, he started to hit one more HR per month and a few more RBIs.

This is the US economy and financial system. Trillions of dollars have been poured into the system and economy and trillions more have been pledged to buttress troubled entities. There have been nationalizations, record stimulus and various inducements for consumer to spend more money. And all this is producing is modest m/m gains or smaller losses!

At some point the US, like the slugger, must come off the juice, or the artificial boosts will blow them up.

Even though MLB has a shoddy enforcement and drug testing record at least it isn’t the entity injecting the massive amount of unnatural stimulants.

Upon further review yesterday’s economic data was not as jiggy as initially thought.

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Category: Think Tank

Commercial paper outstanding jumps

On a seasonally adjusted basis, commercial paper outstanding rose $43.7b, the largest gain since April and was mostly led by the asset backed category that saw a gain of $41.5b, the most since January and maybe is beginning to respond to some thawing out in that sector due to the Fed’s TALF program. Financial unsecured…Read More

Category: MacroNotes