The Midas Touch

Some months ago, back when it seemed that he might actually matter in some small way, I was talking to a Ron Paul supporter. He angrily demanded to know why I was amused that anyone would take Dr. Paul seriously.

I said that one of the many, many crazy plans Dr. Paul had for this country was to move us back to the gold standard, and I pointed out that China mined more gold every year than the US. While the US was in the top three, Russia was not that far behind. Did anyone in their right mind want to simply hand that kind of power to Russia and China? What happened if they cut back on production, and the gold supply dried up?

Since that conversation, China has moved into first place so far as gold production. I never thought Dr. Paul had even the ghost of a chance, but it is certainly a good thing he didn’t.

But remember how I said that the reason why it was a bad idea was because China and Russia might collude to squeeze off the gold supply? Looks like Obama’s policies might be doing something similar.

Follow that last link and read how a gold investor thinks that confiscation is now possible. Hey, it happened under FDR!

Comment Thread for Private Stock Exchanges

Background is at Facebook, Twitter and peers for sale – privately.

My initial impression is that this could be an ingenious adaptation to an obnoxiously overregulated environment. Or it could be crushed by regulators and their enablers; given that a Republican Congress and President were willing to saddle us with Sarbanes-Oxley seven years ago, it is not easy to imagine our current complement of parasites reacting dispassionately to private stock exchanges.

Note that I do not meet the minimum qualifications (net worth $1M, annual income $200k for past 2 years); this is just to elicit discussion by knowledgeable people (the minimum qualifications for which I also do not meet).

Municipal bond troubles ahead

The municipal bond market is a critical source of funding for states and local government in the United States. These bonds are traditionally free of Federal taxes (assuming they meet some criteria, which most of them do) which allows them to raise money about 25% cheaper than equivalent taxable bonds of the same credit quality, all else being equal. Bonds are also often exempt from state taxes in the state that originated them, a concept that required a 2008 supreme court ruling because of allegations that it violated interstate commerce rights.

In general, municipal bonds have lower default rates than other equivalent bonds based on prior history, and the recovery rates for those bonds which DO default is higher, as well. As a result of these historical trends, municipalities are generally able to issue debt at lower interest rates and find buyers.

While history is important, I would be wary of the market right now. As you can see in this article, the governor of California is starting to request that the Federal government provide a backstop for their bonds. In a prior article, I noted that the entire issuance of an Illinois bond sale went to a single purchaser, who just happened to be a big bank receiving large amounts of Federal funds (it helps sometimes to have lots of people from Illinois in the White House, I guess).

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Unwinding of a Fund of Hedge Funds Position

I made a mistake several years ago, but I didn’t know it at the time.   It wasn’t a dreadful mistake, but one which I thought I would share with you to perhaps give some guidance and solicit some comments.

About 5 years or so I was sold on purchasing some shares (are they really shares?) of a fund of hedge funds.   I will admit right off the bat that I didn’t know what it does, what it did, or how it works.   I trusted my financial advisor as he told me that it was a great way to diversify my portfolio.

Last October/November I decided to look at every single one of my investments and decide if I needed to sell the position and rebuy (to take the tax loss) or to hold, or to simply sell.   I decided that this fund of funds needed some investigation.

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What I’ve Learned About the Stock Market

Anyone who has a retirement fund or personal investments has an interest in the stock market. I have an additional interest because I am the fiduciary in charge of trust funds I set up for my nieces and nephews and track at trustfundsforkids.com.

When the stock market started cratering in 2008, I didn’t take immediate action, for the most part (I was going to say didn’t do anything “rash” like sell off, but in hindsight of course probably that would have been under the category of “smart”). I did sell off financials (owned ICICI, an Indian bank, and GE, which is essentially a giant financial conglomerate with a few businesses stuck in there) immediately, and although my exposure to that sector was limited in those funds, those stocks had not done well.

Now I am trying to re-visit the stock market and do some research to consider what to do next. I am starting out with what I’ve learned from this debacle. As always, do your own research, this is just my 2 cents based on my experience and body of knowledge.

1. Watch the level of debt, and the timing of debt – for many years there was an absence of a risk premium, which meant that newly emerging (risky) companies could raise debt very cheaply, such as only a couple of points above the treasury rate. Today, it is unlikely that these types of companies can raise any money AT ALL, and if they did it would be at a rate perhaps 10 percentage points above Treasuries (i.e. if Treasuries are at 4%, they would pay > 14% for financing). Companies are moving into bankruptcy rather than try to refinance at these rates – companies like Charter Communications, for example. Even if bankruptcy is avoided (or deferred) the company would have to be highly profitable to earn enough to cover that level of interest payments – and most companies can’t profit when their cost of capital is that high. I won’t even comment on the 33-1 leverage used by investment banks because we all know how that turned out

2. Guessing the actions of the US Government is important – during the cold war, “Kremlinologists” attempted to divine what was occurring at the top levels of the Soviet government, since it had a direct bearing on our policies. For example, the Feds let Lehman die and saved AIG, although in both cases their equity value evaporated to the point that a 100% equity loss and a 98% equity loss were a toss-up either way. The subtle way in which by saving AIG they benefited Goldman Sachs (since AIG was a major counter-party to Goldman Sachs) would be something worth understanding, for example. The Feds also didn’t bail out Fannie Mae and Freddie Mac preferred shares, which caused whole ranks of smaller institutions to fail. In general, if you are investing in an industry that looks likely to need government help, you should get out now, because whether or not you have a few equity crumbs or go to zero is a Hobson’s choice you don’t want to face

3. Correlation between asset classes is higher than you expect – Basically unless you were 100% in gold or treasuries you were likely hurt badly in this market. Foreign stocks, US stocks, many debt instruments, preferred stocks, real estates and most commodities (excluding gold) all dived together. One of the “core” beliefs of “modern portfolio theory” is that if you spread your investments across classes with lower correlation to one another, you will do better over time. Modern portfolio theory basically didn’t save anyone in the time frame we are talking about here

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