Comments by Tariq Scherer

Oh the irony... That the Economist were to give praise over one of the greatest mercantilist institutions in recent history :-)

From the Economist About section "Our History", paragraph 9:
"Established in 1843 to campaign on one of the great political issues of the day, The Economist remains, in the second half of its second century, true to the principles of its founder. James Wilson, a hat maker from the small Scottish town of Hawick, believed in free trade, internationalism and minimum interference by government, especially in the affairs of the market. Though the protectionist Corn Laws which inspired Wilson to start The Economist were repealed in 1846, the newspaper has lived on, never abandoning its commitment to the classical 19th-century Liberal ideas of its founder."
http://www.economist.com/help/about-us#About_Economistcom

Some "off the back-of-my hand" calculations:
Assumption 1:
Set expected value of education such that
E(education) = (employed probability)*Median Wages

So for Bachelors and High School Grads:
E(value Bachelor) = 0.948*1025 = 971.7
E(value High School) = 0.903*626 = 565.278

Bachelor Sector outperform is 71.9% over High School.

Assumption 2:
An efficient outcome occurs where the internal rate of return of any education outlay will match back to the proposed differential gain thereof and assume that wage inflation is sector specific such that the gap will remain over time at a real rate with 40 years of active life across both sectors.

So, differential in earnings between HS and B is of $406.42 per week or $21,133.94 pa.

Current max amount of debt to reach a differential internal rate of return over 72% is ($29,401.79) at year 0 for 40 years of $21,133.94 wage differential

Flaws to the model are too many to mention but taking average figures in article, 2008 average student debt stood at $23,200 with a 6% inflation rate pa, so extrapolating, 2011 would be at $29,289.47.

We are still below the max amount required by the IRR check above but, by next year with a forecast of $31,046.47, will flip over in a negative differential rate of return.

Solutions assuming the education costs continue to grow above core inflation rates:
1. Increase differential wage inflation to bias higher education holders or increase expected value of higher education through higher probability of employment. This will not be a popular solution.
2. Keep on working for longer than 40 years in order to compound increased rates of return from the wage differential. Hmm....

TS
http://www.24-something.com/

PS: It goes without saying that pundits such as myself should not be put in charge of education policy.

During the second half of last year, a lot of debate hit the press surrounding the then 'hot' topic of 'currency wars': that sovereigns were devaluing their currency at the expense of their neighbour's, but is this really happening?

With Gold as a proxy, a fiat currency can potentially devalue without causing excess impact on a neighbouring currency as long as that 'safety store' interest gets transferred over to gold. Of course, yield chasers should still prefer to go for a national currency, but still, it's not quite 'beggar thy neighbour' if gold can take a bit of the heavy lifting there for us.

Maybe, much to the gold bug bears surprise, gold is the best friend of the fiat currency rather than its explicit nemesis.

TS

Post the Post Post-Scriptum of before:
Further to 'Free-Exchange', the conservatives do get 'Fiat' currencies.
Beyond Milton Friedman, it's worth noting. they're the political side that brought the world back into the 'fiat' regime and away from the gold-standard.

Lest we forget, Nixon was a Republican.

@bampbs, not quite Italian, Latin actually for Fiat: "Let it be done", as in Fiat Lux and well, topically, Fiat money.

But here's the catch: economic issues, whether based on commodity currencies or paper ones, don't have their problems easily resolved by Latin turns of phrases either.

Free Exchange have a point: presidential candidates must be more specific and reasoned in their outlook over monetary policy (even when they have no day-to-day say over it).

But there is also a case for argument over the following:
Fiat Money is not necessarily Fiat Auctus

TS
PS 'Auctus' is Latin for Growth.
PPS Actually, good monetarist that I am, I would contend that most of the time Fiat Money is actually Fiat Auctus... it's the too much, out of control, 'Auctus' that gets me worried every now and again.

http://www.24-something.com/

Extreme Duration eh? Further to operation 'twist' (and going a bit further back historically), I am curious: are we about to see the return of newly minted 'consols' in the sovereign market?

Technically speaking, there should be a demand, however finite, for extreme-duration fixed income instruments in global capital markets. Certainly, in the corporate sector, the issuance of callable perpetuals is considered a valid alternative to standard debenture or equity issuances (note the rise of hybrid instruments over the past decade and other subordinated callable perpetual debentures).

Admittedly, once debt becomes so elongated (or even infinite) in its maturity, the clear distinction between debt and equity becomes slightly blurred. This may prove unappealing for democratic governments who prefer to maintain sovereign control over their finances.

Still, consols (aka undated gilts) did prove successful for the UK in consolidating its Napoleonic war debt burdens. It met both the need for elongated duration and an ongoing market demand for sovereign annuities. This parable is all the more striking when one considers that the UK's 18th Century debt issuance was due to efforts of securing a form of 'global stability'; in a limited way, one can view the recent US debt-issuance under the same limelight with the GFC and associated debt financing being an effort to confront a real threat to global financial stability.

Interestingly enough, I just happened to write a post on this topic too =)
http://www.24-something.com/2011/04/02/your-word-is-your-bond/

TS

NB:
I would want to qualify my last comment with a cautionary note: I am by no means an authority over these matters, only a mere pundit, who just happens to write a finance oriented blog in his free time.
Add to that, I've not read through Nassem Taleb's book in its entirety.
This is not because I disagree with Taleb's outlook. Instead, it's more due to my opinion that markets do try and price tail-event risks on an ongoing basis, maybe not perfectly, but they do try.

TS
http://www.24-something.com/

The concern over kurtosis and lack of appropriate pricing for distribution skews largely pre-dates Nassem Taleb's book (albeit his 'timing' in publication will remain legendary).

We've observed the oddities of market volatilities for a while now; indeed, we even have a benchmark index, the VIX, available to measure it in real-time. This index has now been around for over two decades...

And in case you were interested:
Implied Volatility Squared - March 14th 2011:
http://www.24-something.com/2011/03/14/implied-volatility-squared/
Other VIX articles:
http://www.24-something.com/tag/vix/

TS

PS: Another current example, this time in the fixed-income space, is the normalisation of returns over Cat-Bonds (aka: Catastrophe Bonds). Receive higher yields in all years but full principal loss on a Katrina/Fukushima/Japanese Earthquake scale event.
(PIMCO: http://australia.pimco.com/LeftNav/Bond+Basics/2007/Event+Linked+Basics+...)

PPS: @rewt66: to avoid AIG styled issues, ensure that you have an open and transparent secondary market for price-discovery with independent and sufficiently capitalised clearing houses. Most listed derivatives and futures exchanges provide such services and have done so with an impeccable track-record.

Further to my last post:
It is worth noting that Keynes' view of a negative forward yield being a natural state of affairs is quite an unusual 'contrarian' view to take under most normal market circumstances.

In order for a supplier, be it a hedger or a speculator, to provide with an absolute risk-free level the qty of commodities demanded over the delivery date, he/she would require the commodity to be purchased at SPOT rate and then stored until the delivery point. This therefore, inevitably, incurs a number of costs: storage costs for safe delivery (think grain silos/secure vaults for precious metals/oil tankers), transportation costs (these can be uncertain the further away you are from delivery), funding costs (the outlay for the commodity is immediate but the inflow of revenue only at a later date) and opportunity costs involved in not utilising/manufacturing the raw commodity immediately (holding cotton at a raw state rather than converting it into textiles).

Therefore, under normal market conditions, where all agents are risk neutral, the future costs should factor in the reality of this risk-free delivery costs. This might, indeed, incentivise hedgers to take advantage of locking in future rates where they may be able to avoid said costs due to future production runs. However, there would need to be a substantial supply overhang in the market for this to actually push future prices into an inverted 'backwardated' position that overrides the inherent risk of future delivery.

This natural 'contango' in the market is one that, 'usually', is even more prevalent for precious metals where future scarcity is deemed to always be higher than present scarcity and where opportunity costs are very real given the high fungible nature of the metal into the cash market.

Backwardation does occur in commodity markets but it is certainly not the most common of scenarios and is usually an indicator that present, immediate delivery, demand is far higher than standard conditions, ie: backwardation is more likely to occur due to front-end demand push rather than supply pull...

TS - some links below:
http://www.24-something.com/tag/backwardation/
http://www.24-something.com/tag/not-a-contango/
http://www.24-something.com/tag/contango/
PS: as of 12/03/11 4:43:12 PM CST, the Si backwardation seems to have flattened out a little bit over CME. Difficult to say whether this is a formal reversion to contango just yet.

I am putting my right arm across my chest, my hand over my left shoulder, and giving myself a good pat on the back. Well deserved.
TS

PS: I assume the Times' columnist was working on a deadline which prevented him adding my site (http://www.24-something.com/) to the list. It's okay, I understand, time can be scarce, hence their publication name, especially when there's only 24 hours in a day, or 24-something dot com.

I've written about this in the past and, certainly, Silver does seem to be attracting quite some attention out there (though I am a bit surprised that it's now even reaching the inner sanctum of the Economist:-).

The big story, which Buttonwod refers to, is the Backwardation aspect currently at play. Though I understand Keynes' contrarian view over the 'convenience carry' of forward contracts, Silver's backwardation is quite historical (ie it's never happened before) both in its duration and spread.

Given the pages of commentary going over this commodity at the moment: I wouldn't be surprised if the next CME delivery dates should prove an interesting page turner (the next one is March 26th btw).

Oh and in case you were interested: both Silver and Gold are now part of accepted collateral forms across most CME futures/derivatives (and I believe European derivative exchanges too - not to mention OTC agreements) This might have added to demand over the past 8 months or so. On the industrial side, photovoltaic cell manufacturing and its heavy silver usage, also entered the scene with increasing scale. Investment demand appears to have substituted quite well for photographic industrial usage over the past decade.

A few more articles about this, in case you are really keen:
Feb 8th 2011:
http://www.24-something.com/2011/02/08/revlis-spelled-backwards/
Feb 20 2011:
http://www.24-something.com/2011/02/20/silver-gunning-for-gold/

TS
PS Reply to previous comments:
@bampbs: yes, you are referring to the Hunt Brothers episode. There was also a fun run over during the 90s involving none other than Warren Buffett (The 'Sage' Of Omaha can also be a wolf at times=) and Phibro (a very discrete, but very effective, commodities house).

The $50bn Question: is each user on Facebook worth $100?
Okay, so it's not the best valuation methodology out there but I am fairly certain that of the 500m users to facebook, the majority spend more than $100 of their time (even taking into account the probable low hourly wages of many of its young user base).

Add to this, the fact that Facebook was built out of a core base, that have remained loyal, and that this core base was American ivy league students (now alumni)...

Even today, university alumni spend well in excess of a $100 a year to join alumni associations/professional bodies/sports clubs and the like. This is the network that Facebook holds and it has expanded itself beyond its seed members towards their family members, their friends, and their colleagues.

That being said, cash flow is still king for a business and this remains a challenge to FB: how to positively monetize on a per hour (or other time basis) its usage and client base...

TS
http://www.24-something.com/

On the yield curve, I wrote a short piece and animated vid over the US yield curve from 1990 to 2010 over here, the article includes a few insights into its relation to US equity markets:
http://www.24-something.com/2010/09/30/the-foresight-of-the-curve-and-it...

AS for the deficit, admittedly it is not at the top of the voter hit list (though I have a feeling that the poll only provides a one-off answer snapshot rather than a full prioritization of issues which might skew the results just a little), it would still seem sensible to confront the issue sooner rather than later and in conjunction with the issue of growth... Growth through efficiency/increased production, great, growth solely through leverage, hmmm....

TS

If only all international diplomatic visits were focused primarily on trade... I am surprised that the Economist notes that such forays might distract from the other politics of international relations as, if my memory serves me right, trade liberalisation used to be pillar upon which both the magazine and the UK's economic growth and dynamism was once built upon.

This isn't meant as a pointy criticism over this particular but perhaps more as an observation of recent media coverage. Over the past decade, it would seem that the media has focused heavily on both issues of scientific importance and strategic aspects when covering international relations (climate change, peak oil, terrorism/non-state actors). But this focus has often been at the expense of a true driver for sustainable peaceful global relations that benefits everyone: free trade.

The sluggish progress in WTO negotiations, the growing waves of protectionism following the recent global financial turmoil, the disruptive effect of currency manipulation by over a sixth of the world's population should be a strong enough wake up call for all of us to put 'trade' front row and center of international efforts over the coming decade.

TS
http://www.24-something.com/

Cutting debt seems sensible enough advice to me to warrant the efforts of the president's deficit committee, the US congress, its senate and, of course, its president.

Beyond the political value that the article puts forth, there's another valuable point about debt: it's rarely paid back by today's voters or even today's taxpayers. And yet, the decision-makers of today are chosen by today's taxpayers and today's voters. We should therefore applaud those politicians willing enough to take the risk and be brave beyond their current political base and who are looking-out for what lies ahead.

After all, growth, both economic and political, is all about a little more of something tomorrow compared to the something of yesterday...

TS
http://www.24-something.com/

PPS: On the impact of ETFs over the market
The London Metal Exchange's LMESword which tracks the actual delivery warrants used to match out excess positions at end of contracts produces a daily report over the actual supply/demand fundamentals operating within the LME Warehouse network.

As far as I know, there hasn't been any unusual activity occurring through LME warehouse stock levels over the recent financial turmoil despite the large moves in price. So far, it's been a pretty orderly move with some capitalization by certain funds but not anything large enough to cause a serious imbalance.

Warehousing for ETPs, as mentioned in the article, could also be set out to earn further uncorrelated 'rents' (eg the ETP/ETF can actually own the warehouse and earn a separate fee-line as a result) whilst always providing an added buffer for demand spikes. In other words: it can add liquidity when needed and store-up an asset, with secure returns, in times of excess...

Further info available from LME themselves:
http://www.lme.com/what_sword.asp

Tariq Scherer
http://www.24-something.com

Thank you the Economist for highlighting the critical benefits of liquid commodity markets.

Indeed, demand occasionally outstrips supply, an ongoing reality for any scarce good. The question then becomes: how can we reward suppliers to invest the sufficient capital ahead of time to meet the expected demand?

Spec traders are merely assisting this process. It is a shame that we still need to re-emphasize this reality after over 200 years of successful price discovery and efficient production delivery in futures and commodity markets (the CME/CBOT markets have not suffered a single failed trade in their entire history).

So, to put things abruptly: the market works.

Tariq Scherer
http://www.24-something.com/

PS @I_thought_you_were_impartial: there's already a lot of research out there over excess beta-tracking and its impacts if you are interested in the issue of ETFs on broader market. As far as commodity markets go, I think the real question should be more whether there are as many 'long' ETFs as 'short' ETFs available to the market...

If it's not at equilibrium then it's not good: neither for China or the rest of the world. We know this, yet we sit and watch...

Tariq Scherer
http://www.24-something.com/

Personally, I've learned to strongly respect the opinion of anyone who can trade a price, regardless of who, where and what he is, amateur, professional, hobbyist, whoever. That's actually what I love about markets: it's the price that matters, not who is behind it.

One interesting point made by David Koskin the other day (he works for that group of professionals over at Goldman Sachs) is that the US equity market is dominantly composed of amateurs: 54% actually; of which 33% are individuals and the remainder are individual holdings in mutual funds (which can be rebalanced out of due to 'amateur' opinions of course).link here: http://www.zerohedge.com/sites/default/files/images/user5/imageroot/gono....

That same piece notes that pension funds only account for 17% of the market.

I'll follow that point by stating that the US stock market, despite its hard returns recently, remains the strongest, most resilient and vibrant equity market globally. So I'm not sure where that leaves the amateur vs. pro argument really.

As for the issues of momentum raised in the article, again, it is difficult to really pin that one on 'amateurs' here. Just as it is difficult to pin it on 'professionals' too. As a matter of fact, it is very hard to 'prove' the 'existence' of momentum at all... I mean if one could 'prove' it was there then one could 'price' it out right?

Tariq Scherer
http://www.24-something.com/

Dear Economist and fellow readers,

I understand and hear the case made for further stimulus but I also hear and am concerned by the impact that added deficits will have on an already beleaguered consumer and private sector. The expectations of these are paramount for the recovery and their ability to have faith in a better tomorrow is what needs, imperatively, to be reignited at the moment.

May I propose, instead of just added spending that attempts to play on an expansion of government expenditure, that we seriously look at rationalising our current spend: cut the waste and improve the spend. With the size of our government budget at the moment, I am very concerned that further efficiencies are not already in the system just waiting to be found.

Though this is a very weak and unsubtle analogy, the perspective of a financial funds manager comes to mind. When fund manager are faced by limited capital inflows (no new revenue) but the ongoing need to improve their returns, they are forced to rethink their current asset allocation strategy in order to meet the opportunity shortfall that new funds can provide. It is much easier for a fund manager to take advantage of new opportunities when new funds are available rather than when he needs to rebalance old investments into new opportunities. Clearly, the situation now is hard, but for us to press harder on the debt pedal in the face of the current economic and political environment is untenable.

The American economy remains one of the most productive in the world, which of course, can prove a bit of a bane in times such as these, especially on the unemployment front: but I can not see how we can be willing to trade-off productivity (the ultimate long term result of further debt based expenditure) when we should instead be stoking this outstanding supply-mechanism to better meet demand. Yes, de-leveraging on the demand side is painful, but given the recent history, it may prove warranted. And we do seem to have met somewhat of a growing equilibrium point right now.

I'm not the most patient of persons myself so I wouldn't want to sermon anyone else on such front, but nonetheless, there is a case to let 'time' back into our expectations here and acknowledge: economies grow slower than the speed at which they can fall but a slow growth is perhaps also a good thing too

Tariq Scherer
http://www.24-something.com/