World Economic Forum Meeting This Week.

 

The World Economic Forum is in the news this week. They are meeting in a resort town in Switzerland named Davos.

This event gets way more attention in the news than it deserves.

The event attracts leaders of country's governments and their attendants, leaders and attendants of NGO's, and celebrities.†

Perhaps I'm cynical, but I think part of the reason this event gets so much attention in the media is that most journalists are ... brown-nosers, bootlickers, sycophants, flunkies, fawners, or whatever term you like best. Importantly, acting this way definitely helps them get stories, so it's not like it's always a negative personality quirk. 

Anyway, the attendees at the World Economic Forum (which is rarely abbreviated to WEF, go figure) have some power or influence. But collectively, the group itself has nothing except a claim on a high moral position.

Here's the problem: the World Economic Forum is moribund and doesn't know it. For a scathing viewpoint on this, see "The Humiliation of Davos Man" by Walter Russell Mead.

On both the far left and the far right, conspiracy theorists see the WEF and its allies as an all-powerful network successfully imposing a nefarious agenda on the rest of the world. This reading gets Davos exactly wrong.

The real scandal of Davos isn’t that it’s taking over the world. It’s that it’s failing. The Davos agenda—a global security order, an integrated world economy and progress toward objectives including decarbonization, gender equality and the abolition of dire poverty—is controversial in some quarters and on some points but is neither secret nor particularly nefarious. But far from imposing this agenda on a captive world, the Davos elites are wringing their hands as the dream slowly dies.

...

This isn’t, at its core, a crisis of trust. It is a crisis of competence. Why would voters expect an “expert class” that was so wrong for so long ...

“The emperor has no clothes!” is the cry of populists everywhere. To render this message ineffective, Davos Man doesn’t need image consultants and disinformation specialists. He needs to get dressed.

Harsh. True though.

† It's a good time in your college career to learn what an NGO is. It stands for Non Governmental Organization. There are thousands of these. Some examples might be the Red Cross, the United Nations, the International Monetary Fund, the Sierra Club, PETA, and so on.

This Is Worse (Because I've Already Had a Post in the Last 4 Months Called 'This Is Bad')

I had connectivity problems. Wrote this Monday and Tuesday but just getting it posted today.

***

A couple of days ago something happened to the Nord Stream 1 and 2 gas pipelines.

Today they are saying it must have been sabotage. A few people are saying it is an act of war (not me).

***

You may have noticed that the war in Ukraine has had a lot of macroeconomic repercussions. This is an upgrade. I don't really want to post about military geopolitics for a macro class, but this is what we've got in 2022.

*** 

You've no doubt gathered that Russia produces a lot of natural gas, which is piped to western Europeans. For gas, pipelines are a lot more economical than ships.

There are a number of pipelines doing this. Nord Stream (now called 1) and Nord Stream 2 are a couple of them. Nord Stream 1 is operational, but has been shut down since mid-summer. The Russians claim this is for maintenance, but few believe them. Nord Stream 2 is not operational yet, and progress on it was stopped by Germany after Russia invaded Ukraine.

Both run along the bottom of the Baltic Sea. Naive people worry about putting pipelines on the bottom of the ocean. Don't. This is safer: away from people, out of harms way, and well-insulated from the rest of the world.

These are big infrastructure projects. Costs are estimated at $15B (not sure if that is for one or both). Each pipeline's underwater part is about 800 miles long, the pipes are steel, 4 feet in diameter, and 1-2 inches thick. 

They are mostly debt-financed by western bank syndicates. They are owned by the Russian company Gazprom through their German subsidiaries.

Potential revenue from these is highly volatile due to volatile natural gas prices, but $20B/yr is a reasonable estimate right now. Note that this is revenue not profits. 

One could also estimate that if a big fraction of the $15B cost was financed with debt, that interest payments are in the $2B/yr range due to risk.

***

Yesterday, at night, 3 events took place along the 2 parallel pipelines, in international waters, at different times, in a region where the pipelines are actually a few miles apart.

These were recorded by seismometers, and appear to be substantial explosions.

N.B. These were not natural occurrences. Natural gas doesn't burn (or explode) under water.

During the day, Danish planes found a bubble field on the surface of the ocean about a kilometer in diameter. Neither pipeline is running, but they do contain some gas in them as routine.

***

This is an act of terror, but terrorists seem unlikely.

These pipelines are 200 feet deep. Despite what you see in movies, working at this depth is expensive and rare. It takes ships, submersibles, but probably not divers. But bottom line it takes money.

The pipelines are steel and 1-2 inches thick (remember they are under pressure), so this is in the range of medium armored military vehicles like armored personnel carriers. Bottom line, explosives won't budge these. You need armor piercing or shaped charge munitions.

You can't really "shoot" anything at that depth either, other than an actual torpedo. That seems unlikely because they leave wreckage.

In addition, it seems odd but not that surprising when you think about it, but metal reflects explosive shock waves. Not completely to be sure, but partially. And curved metal does an even better job at reflecting damaging shock waves.

I also learned today that anyone doing this would have to get quite far away before setting off the devices. This is because the escaping gas would upset the buoyancy of any vessel with a mile or two.

So, speculation is a submarine or submersible, using unmanned vehicles, to attach specialized charges in multiple spots, that cruised away and detonated from a safe distance.

***

Who has the capability of doing this? 

The United States. Russia. That's the short list.

The medium list would include the UK, France, presumably China, possibly Israel, possibly richer more militant oil states like Saudi Arabia, and Iran ... and that's about it.

It is not clear if Ukraine has this capability at all. Of course, they've been getting cool new military hardware for months, and they seem willing to use what they've got. But submarines?

It's definitely possible that some other countries — Germany, Poland, Japan, South Korea, maybe others — could probably cobble together all the different pieces required to pull this off.  

It is also remotely possible that this is industrial espionage. Could a rogue actor in a pipeline company do something like this? Maybe. Shaped explosives aren't just used in the military. They'd have submersibles. They'd know where the sensitive spots are. But the motive is hard to come up with. Insurance fraud? Some Bond-worthy fantasy about driving up natural gas prices?

Could it have been environmental monkey-wrenchers? The scale of the attack would seem to preclude that.

***

Who would benefit and who would be harmed?

This is not straightforward at all. In part, this is why this is such a big deal.

First off, this is a provocation more than an attack. No one was hurt. Nothing visible was wrecked. The pipelines weren't running. But they have been a center of controversy all year.

Certainly the syndicate of western lenders is harmed: they volunteered to turn their financial wealth into a physical asset on the promise of getting a steady stream of payment checks. No doubt they are insured, but acts of war, terrorism, and industrial espionage are usually not covered.

A key here may be that the Russians won't be harmed much by this. Their gas wasn't moving through the pipelines. If anything, they'd probably like them open and running. But (aha) they weren't the ones who closed them. In short, the value of the pipelines to Russia was taken away, and with it their incentive to leave them unharmed.

INTERNATIONAL REAL ESTATE INVESTORS ARE PLAYING MUSICAL CHAIRS IN THE US! (aka CURRENCY IS KING!)

My brother came into town from Boca Raton, Florida to celebrate my graduation from Southern Utah University. He and I have invested in millions of dollars of real estate over the last 20 years together. Real estate and finance are subjects we both understand quite well and enjoy discussing. One of the subjects that came up was the transition of international real estate investors in the Miami-Dade County market. From 2011 through 2013, investors from Brazil,Venezuela, Russia, and Argentina have been the primary international buyers of real estate in the south Florida market. This was due to the fact that these investors capital was extremely strong against the U.S. Dollar; obviously this gave investors from those countries stronger purchasing power.  

According to a first quarter residential market report released in January by the Miami Downtown Development Authority (DDA), "Due to the recent advance of the U.S. dollar versus most South American and European currencies, the advantageous buying power of foreign investors has been diminished significantly since 2011,” the report states. “While the Euro has not diminished as much as the South American currencies, its slide versus the U.S. Dollar has only recently started and is expected to continue to decrease over the next six to 12 months.”

As my conversation with my brother continued, the conversation moved to where the money was coming from now? One only had to look towards China, Mexico, and Canada to find the answers. These three currencies have made strong gains from the end of 2015 through 2016 against the US Dollar. The US Dollar has seen a drop in value due to international disbelief in the Federal Reserve as they continue to toy with another possible rate hike. My brother was explaining that his local market has seen more buyers from Canada, Mexico, and China starting to replace those buyers from Brazil, Russia, Argentina, and Venezuela. 

As I researched some of our conversation, I found that others real estate investors are taking a large gamble on the international buyers, in hopes of selling inventory. Russian property mogul and billionaire Vladislav Doronin, who is building three high-end condominium projects in Miami, is betting on the Chinese  to help. He believes fresh foreign buyers will step into Miami’s real-estate market, even as older ones have held back their spending. Chinese investors look particularly promising, he said.“The Chinese are coming now,” he said. “They buy baskets of apartments. Like, five apartments at a time.”

Whether it comes to investing, traveling, or consumer purchasing, the currency exchange will always play relevance in the supply and demand curve. Perhaps, my brother and I will start looking at real estate outside our backyard and see what countries such as Russia, Brazil, and Argentina can offer us with our strong US Dollar and their weak currency!

http://therealdeal.com/miami/issues_articles/a-seismic-shift-in-foreign-buyers/

http://www.financierworldwide.com/investors-take-bullish-attitude-to-us-real-estate-market/

http://www.wsj.com/articles/russian-developer-sets-his-sights-on-miami-1461674293

http://www.huffingtonpost.com/harmel-s-rayat/will-foreign-capital-keep_b_9663224.html

Making Good Memory(s) in Volatile Times

The semiconductor is a viciously competitive market. It is capital intensive with little margins. To survive in the semiconductor world, one truly must be on the top of its game. According to a recent article, Samsung will be able to use its competitive advantages to leverage market shares.

Market analysts have seen a slowing trend in microchip demand, and future forecasts are looking bleak. Companies like Intel, Toshiba, Hynix and Micron all stand to lose a large percent of their operating income, upwards of 65% in this quarter. Intel has even been forced to cut 12,000 jobs to cushion the impact. How is Samsung surviving this brutal slowdown? Samsung has positioned its competitive advantages in technology. Samsung’s investment in technology has given them a first mover’s advantage. With this first mover’s advantage Samsung has also moved up the learning curve, and in this time of hardship that knowledge will payoff greatly. Samsung is years ahead of its competitors in manufacturing, allowing them to decrease the size of their chips, permitting more chips per wafer. Also the smaller chips take up less volume and consume less energy, which has differentiated their product and increased their profit margins. These advantages alone will help bolster Samsung’s strategic position, yet, its greatest advantage is vertical integration.

Not only is Samsung an industry leader in the semiconductor business, it also happens to be an industry leader in the smart phone business as well. Samsung generates its own demand for microchips, and with its vertical integration, they can capitalize on both ends of the spectrum. In reality, Samsung may lose some profits, but the market shares it stands to make easily outweigh the cost. In these volatile times Samsung looks forward to making good memory.

CEREC CAD/CAM Technology: Vertical Integration in Dental Practices

Have you ever cracked or broken a tooth and needed a crown? If so, you know what a pain it can be. The traditional method for getting a crown is:

1. You go to the dentist, and the dentist examines the tooth and determines you need a crown.
2. The dentist numbs the area and then prepares the tooth.
3. The dentist or dental assistant makes an impression of the tooth while you try not to gag on the impression material.
4. The impression is sent off to the lab.
5. The dentist puts a temporary crown in place.
6. You wait 1-3 weeks for the crown to be made by the lab.
7. You return to the dentist and have the permanent crown placed.

CEREC CAD/CAM technology offers dentists the opportunity to vertically integrate and make crowns in their offices, decreasing the need to use an outside dental lab. This innovative technology gives patients a more convenient and stream-lined method to get a crown:

1. You go to the dentist, and the dentist examine the tooth and determines you need a crown.
2. The dentist numbs the area and then prepares the tooth.
3. The dentist makes an optical impression of the tooth using a camera.
4. The CEREC machine's 3-D software takes the optical impression and converts it to a virtual model that the dentist can fine tune.
5. The model is sent to the milling machine where burs carve the crown out of an all-ceramic block in about 20 minutes.
6. The dentist polishes and places the crown.

The biggest advantage of CEREC technology is patients can have a crown done in one office visit, rather than two. This advantage may increase the amount of crowns the dentist does every month because patients may be more likely to choose this dentist over one that does not have a CEREC machine.

Is this vertical integration worth the $100,000 investment?

An analysis of the costs associated with doing a crown would need to be performed by each individual dentist or dental practice to determine if purchasing a CEREC machine is financially beneficial.

Using some numbers found in SPEAR, I made a simple table to analyze costs:

Monthly Costs Associated with Placing a Crown
Traditional Method				CEREC Method
Fixed Costs		Variable Costs		Fixed Costs		Variable Costs
		Lab Fee	$250	CEREC Payment	$2,000	Operatory Set Up	$50
		Impression Material	$25			Block and Burs	$40
		Operatory Set Up [1st visit]	$50			Distilled Water and Powder	$2
		Operatory Set Up [2nd visit]	$50
Total Cost Traditional			X	Total Cost CEREC			Y

If Total Cost CEREC (Y) is less than Total Cost Traditional (X), a dentist or dental practice may want to invest in the CEREC machine.

  

http://well.blogs.nytimes.com/2012/10/08/a-new-tooth-made-to-order-in-under-an-hour/

Inside Money In SERE

Like I wrote in the last post, I don't normally post on this blog at all. But I have a story from the spouse of an undergraduate student that I'd like to be able to refer future students to. I don't really have a place to put it online, so I'm putting it here.

Occasionally on this blog I have accepted posts from students explaining how economics relates to specific aspects of their job. I don't encourage that because it's talking shop.

Anyway, I mostly teach principles of macroeconomics. In there, we talk about money. One of the simpler topics, but still a new one to many students, is that money is broader than currency. For example, checks are money, but they aren't currency.

A more nuanced topic is inside vs. outside money. Outside money is currency (printed by the government, or its representatives) and reserves (issued by central banks). Inside money is everything else: checks, savings accounts, CDs, repurchase agreements, and so on.They're called inside and outside because inside money is created by us doing our thing inside the financial system, while outside money comes from outside the financial system. Most students (and many people out in the public) think outside money is a lot more important than it actually is. As I sit here, I'm trying to recall, but I don't think I've used outside money since the weekend, but I've payed bills all week with inside money.

An even subtler topic is that people will create inside money out of anything handy, if there isn't enough inside or outside money around to suit their needs. This is what we do when we write each other IOU's.

The classic textbook example of this is POW's using cigarettes as money in the camps. So I told my undergraduates that story (which was written up in a famous paper about 70 years ago by an economist who ended up as a POW in Germany in World War II). When I was finished, a student raised her hand and said: they still do that in survival school in the Air Force. I was a bit shocked, but she explained that her husband had been through it. He agreed to let me interview him about it, and here's what I got. This is MG's story.

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Air Force pilots are required to do survival training: 3 stints, once in their career, for about 20 days in total.

One of those exercises is called SERE: Survival.Evasion.Resistance.Escape. The training is done at a remote location in Washington. A team of about 8 pilots goes through the training together. They are abandoned in the wilderness one morning with 2 MRE's each. They need to survive for a week. They are also allowed to bring a small pack with extra goodies.

MG was told by pilots who had been through the training before to bring cigarettes. MG told them he didn't smoke. The veteran pilots told him it didn't matter: pilots used cigarettes as money during SERE.

So, MG brought 5 packs. Other pilots brought even more. Many of the cigarettes in the group were quickly smoked by the smokers.

That's one thing I tell principles students about what gets used as inside money: it should not be readily consumable. Other features are more obviously related to money: small, light, of fairly certain quality, divisible into small enough units, low rate of depreciation, and so on.

After a while, inflation set in. The price of a bag of skittles eventually rose to 3 cigarettes. Cigarettes were also traded on the spot for (actual) currency, or in exchange for jobs during SERE training.

Cigarettes were even traded for large sums of money to be repaid after training was over. This is very much like how repurchase agreements work in the real world: a firm gives up an asset to another firm for money today, with an agreement to repurchase at a known price on a future date (in the meantime the buyer gets to keep any income generated, plus the price difference). Repurchase agreements are often done in the real world in multi-billion dollar transactions. In the SERE training, the exchange rate hit 1 cigarette handed over immediately for $100 payable in cash when they returned to base. MG saw a transaction like that finalized.

Peak Pricing at Universal Studios Hollywood

Normally, I don't post on this blog at all. But an old student sent in something that they felt was appropriate — and I can't really make them write a post, can I?

This concerns the new pricing policy at Universal Studios Hollywood.

Airlines have changed prices with demand for decades. But for theme parks, it has usually been one price for all. Now they will discount for people buying online, with a bigger discount for people who buy online and book for a historically slow day of the year.

As an economist, I find the explanation that this is a form of peak pricing, like used by hotels or Uber, to be a bit lacking. My reason for this is that the cost of going to the park always included the monetary price of the ticket, plus the non-monetary price of standing in lines. For me, the park cost more on busy days no matter what.*

But the article also mentions that Universal will use this pricing method to help manage its operations. To me, this actually makes more sense. At off-peak times, costs are low for customers both in monetary and non-monetary terms. Yet the park still needs to be staffed. My guess is that this new policy is helping them get a handle on overstaffing on slow days.

* Hands down, the emptiest park I was ever in was DisneyWorld on the Tuesday before Thanksgiving. Kids were in school, there were no conferences in Orlando because of the holiday, and vacationers had yet to arrive. My wife and I did the whole park before 5 in the afternoon, with several rides gone on more than once.

The Growing Demand For Connected Devices And IoT

You can hardly go through a day without being personally in touch with a connected device. Most of us carry a smart device, or own at least one device that is connected to the internet. I'm especially interested in the growing market for connected devices, also known as the internet of things (IoT), given I'm currently employed by a major manufacturer of connected home devices. What is most stunning, is the predicted contribution that the industry of IoT will have on our economy. As the upcoming generation becomes more technology savvy, so is their hunger for devices that intermingle with their everyday lifestyles. Simply stated in an article titled, "Projecting the Growth and Economic Impact of the Internet of Things," it covers insights of several economic impacts of the growing connected world. This ranges from growing efficiencies of a business, to decreasing the cost of healthcare. There is a device available for tracking just about anything these days including your health, productivity, lifestyle, and daily habits to name a few. The enormous amount of money that consumers and businesses are willing to spend on connected devices creates new jobs, and allows those individuals running a business to become more connected to their consumers, their productivity, and improve internal operational efficiencies. Consumer products consist of staying in touch with others, or staying connected with their personal belongings. For example, I'm currently able to remotely check my thermostat, locks, lights, and garage door, all from my smart phone. This gives me peace of mind when I'm away, and in return, I spend my hard earned money to purchase products that give me that connectivity.

In the rush to be the first technology firm to market with a new connected device, there is a risk of being the first-mover in the technology industry. The research and development alone is very expensive to produce a connected device, not to mention the marketing it takes to get the word out promoting the newly invented technology. So if you come out with a device that becomes a hit, you can almost immediately expect copycats to enter the market and bench off the success of the first to market. The only way to combat this, is to create a barrier of entry by applying for a patent that protects the exclusive right to sell a unique product for a given period of time.

So next time you are ready to go to bed, and you turn on that new app on your smart phone that tracks your sleep, know that you are contributing to the emerging market predicted to reach 40 Billion by 2019. Not to mention the predicted overall economic value of $14.4 Trillion by 2025. Now those are some numbers you can't ignore.

Projecting the Growth and Economic Impact of the Internet of Things

The Organic Panic

A growing demand in today’s market is the desire for organic produce. The trend of the green initiative has slowly grown over the past decades but is starting to gain serious momentum. Where there is a demand, there will be businesses trying to capitalize on this demand.  A recent article in the Huffington Post states that Costco has now overtaken Whole Foods in the market of organic produce. Now, the only problem that Costco faces is a shortage in supply.

Costco has established a large membership base through the use of its two-part pricing and block pricing strategies. Costco’s focus is to bring in high quality product at a low cost, and sell in high volume to make up for the smaller margins. With Costco’s benefits it offers its member (cash back, no questions asked returns, and low costs) a high percentage of their members renew their subscription year after year. As Costco has stepped into the organic market, the millions of customers have shown their preferences and are purchasing even more organic food than can be supplied. What is Costco’s response to this demand?

To help supply organic produce, Costco has made exclusive deals with certain farmers to sponsor them and help subsidize their costs. Organic farming can be a long and expensive process to produce certified organic food. Farmers live on such razor thin margins that this process, plus the lower yield, can cripple most farming operations before they even harvest a single crop. Most farmers cannot even take the risk to become certified. Costco is attempting to shoulder some of this risk to help solidify its future supply of organic goods. This only makes me wonder if, in the future, Costco will expand its vertical integration to roll out its own Kirkland brand of organic grown produce. As the demand for organic food increases, supply will only become more scarce. Many businesses will have to take high risks to win in this organic panic.

Volkswagen’s “Clean Diesels”

Volkswagen has advertised its TDI Clean Diesel engines for years as having fewer emissions and better fuel economy compared to gas engines. Many people purchased Volkswagens with the TDI Clean Diesel engine because of the company’s advertisements. Recently the truth about these “clean diesels” was revealed, and some TDI owners and the United States government are not happy.

In September of 2015, Volkswagen’s “clean diesel” scandal was exposed when the United States Environmental Protection Agency (EPA) issued the automaker a notice of violation of the Clean Air Act. The EPA found that newer models of the TDI engines were equipped with software to cheat emission testing. This software made it so the emission-controlling equipment in the TDI Clean Diesel engines only worked when it sensed the car was being tested for emissions. This equipment was deactivated during normal driving conditions. The software resulted in “clean diesels” emitting almost 40 times the amount of nitrogen oxide (NOx) allowed by the Clean Air Act. These “clean diesels” have heavily polluted the air with harmful NOx emissions, which can cause respiratory diseases such as emphysema, bronchitis, and asthma.

The “clean diesel” scandal is a prime example of negative externalities. Negative externalities are costs suffered by a third party who is not involved in the production or consumption of a good. In this case, the TDI Clean Diesel engines are the good that is being produced by Volkswagen and consumed by those individuals driving vehicles with those engines. The third party is those individuals who inhale the air polluted with NOx emissions. The costs suffered by the third party include, but are not limited to, respiratory illnesses, hospitalizations, and premature deaths associated with the inhalation of NOx emissions.

http://www.nytimes.com/interactive/2015/business/international/vw-diesel-emissions-scandal-explained.html?_r=0

AAA RATING FOR SUBPRIME MORTGAGE BONDS!!!

ARE YOU SERIOUS???

 I have great news for pension funds, investment banks, and municipalities around the world! Another pool of subprime mortgage backed securities have earned a AAA rating from Moody’s Investors Service. The New Residential Mortgage Loan Trust 2016-1 mortgage bond is a securitization of over $261 million of first-lien prime, subprime, and Alt-A mortgages that were originated from 2001-2005. Over 75% of the 1,789 loans within the portfolio consists of subprime and Alt-A originated mortgages. These are same type of mortgage-backed securities, from the same timeline, originated from the same pool of lenders, and rated by the same rating services that helped cause the American subprime mortgage crisis of 2007-2008 - leading into the Great Recession of 2008-2009. The only difference is that now these mortgages are 11-15 years seasoned.

Moody’s Investor Service gives several reasons why they have rated the bond AAA. They claim that based upon the age of the loans in the pool, the originators of the loans are less relevant. (I highly doubt that some municipalities whom lost millions of dollars within Norway and Ireland would agree with this analogy.) As a mortgage professional of 25 years and having been responsible of helping over 10,000 clients, I believe when names such as Countrywide Home Loans, GMAC Mortgage, and American Home Mortgage (all defunct) show up on a bond, investors should show a certain level of concern. Moody’s also compares the 12-month default rates of prime (1.6%), subprime (3.7%), and Alt-A (3.1%) mortgages. They then discuss the expected default rate of this portfolio at 5.4%. However, if you where to look at the research done by both CoreLogic and the U.S. Federal Reserve, it appears that the rate of default rate continue to increase as time progresses for the years referenced in the portfolio – especially for loans originated during years 2004-2006. Thus, for loans originated during this time, that are within the said portfolio, the default rate continues to climb. 

Moody’s also mentions that the weighted average updated loan-to-value (LTV) ratio was 60.7% and FICO score was 697. What was not mentioned was the average combined-loan-to-value (CLTV) in the portfolio. During the 2001-2006 period, a very popular mortgage product was the 80/20. Meaning, one would acquire an 80% first lien position mortgage and simultaneously obtain a 20% second lien position mortgage. This would establish a 100% combined-loan-to-value transaction. This exact transaction, that was prevalent during 2001-2006, is what prevents these borrowers from refinancing or selling today. Another consideration is the extremely low interest rate environment and steady increase of home prices over the last few years. Many loans in this portfolio could be sitting on adjustable rate mortgages on either their first mortgage or second mortgage. When interest rates rise (and it is not “if” they rise, just “when”) this will negatively affect the borrowers whom these loans are issued. Combining increasing interest rates, with a reversal in home prices, and these “new” mortgage backed securities that have loans that have been traded, swapped, and repackaged numerous times could once again create catastrophic results for the bond holders and borrowers. 

I have been working as full-time professional in the mortgage industry before, during, and after the subprime mortgage crisis. This has perhaps given me a little more insight then most. Perhaps my opinion is skewed due to what I have seen and lived through. However, when it comes to some of the mortgage-backed securities that have been recently introduced and received such high ratings from the Big Three creit rating agencies (Moody’s, Fitch, and Standard & Poor’s) I have serious concerns. From the opinion of a “street guy”, who meets with clients every day, I have to honestly say that if these borrowers who took out loans between 2001-2006 could refinance, they would. The reason is, mortgage rates from 2001-2006 for a 30 year fixed rate mortgage ranged from the 7.15% to 5.23%, and the current interest rate environment is at 3.75%. However, something is preventing them from doing it. Whether it be too high of a LTV or CLTV, too low of a credit score, not showing enough income, or not having the right characteristic standards established – it takes just ONE of those items to prevent them from obtaining a new mortgage. The same items that prevent these borrowers from obtaining a new mortgage are the same reasons their existing mortgage maintains a greater risk for the bondholders who purchase the portfolios that are holding these loans. 

The advantage to these portfolios is they have loans in them that have an interest rate that is well above today’s existing interest rate environment. Investors love the high rates of return these mortgage backed securities from 2001-2006 can produce. However, in some cases, these investors are restricted in what they can invest in; held to only investing in securities that are AAA rated by the credit agencies. The supply of these types of mortgage-backed securities with high returns are low; the demand for these types of bonds with high returns with AAA ratings are very high. However, as it has been for a very long time, without the ratings the bonds are much less valuable. Wall Street has a huge incentive to get these securities into the hands of investors at the highest rating possible. When there are huge incentives for some, the likelihood of misrepresentation or self-interest actions are much higher. My skepticism prevents me from just accepting the 60.7% average LTV, the average FICO score of 697, and the 88.4% of the loans being current or with only one 30 day late in the last 24 months. Anyone who understands both statistics and mortgage lending could cherry pick individual loans that could produce a good looking portfolio, that creates strong averages, but could be a time-bomb just waiting to explode. I say proceed with extreme caution before trusting a credit agencies rating – we saw what happened last time!

http://www.housingwire.com/articles/36618-flashback-new-aaa-mortgage-bond-features-pre-crisis-subprime-alt-a-mortgages

https://www.moodys.com/research/Moodys-Investors-Service-Moodys-assigns-provisional-ratings-to-New-Residential--PR_346174

https://www.moodys.com/MdcAccessDeniedCh.aspx?lang=en&cy=global&Source=https%3a%2f%2fwww.moodys.com%2fviewresearchdoc.aspx%3fdocid%3dPBS_1018589%26lang%3den%26cy%3dglobal

https://www.kansascityfed.org/publicat/reswkpap/pdf/rwp15-02.pdf

http://www.corelogic.com/blog/authors/molly-boesel/2014/12/whats-an-acceptable-level-of-mortgage-default.aspx

http://www.freddiemac.com/pmms/pmms30.htm

And the “Gun Salesman of the Year Award” goes to….President Obama?

You can’t argue with the facts, since President Obama took office back in 2008 gun manufacturing is up 140 percent, gun sales have hit record highs, and there are finally more guns in America than people. This boon in weapon manufacturing and sales is being appropriately coined the “Obama effect”. This “Obama effect” can be seen in overall gun sells per month over the past 8 years. Starting with the election of 2008, we saw gun sells hit 1.1 million the first month after President Obama took office (which was a record at that time) 4 years later we saw sales in January 2013 hit 2 million.

What these spikes in gun sales prove is that government truly does have a huge effect on markets. Just the mere notion that guns might become harder to purchase has set the gun market afire. This assumption of decreased gun supply/availability causes buyer and sellers to react in ways contrary to normal market behavior. We see price gouging by the sellers, hoarding by buyers, and manufacturers struggling to keep up with the new demand. It goes without saying that we see the same effects in the ammunition industry.

Changing gears really quick. We all know America has a love affair with guns and in my opinion - rightly so. There are countless research papers and statistics showing that by arming citizens we see less crime. One major publication arguing this point is a book by John Lott titled “More Guns, Less Crime”. This book helps the reader better understand gun control and why governments are so involved, it also helps explain the effects of government policies on the gun market.

Ultimately, I don’t think gun sales will go anywhere but up. People’s fear of the future will continue to drive sales and manufacturing. With the upcoming election of Hillary Clinton as president I  see no reason why the gun market will slow. I do think this must be a bittersweet moment for the gun makers and sellers as a whole. On one hand you have a president trying to put you out of business, yet on the other hand the mere fact that the president is trying to put you out of business is great for business.

 http://johnrlott.blogspot.com/          

      

http://www.nytimes.com/interactive/2015/12/10/us/gun-sales-terrorism-obama-restrictions.html?_r=0            

Why can't Kmart be successful while Target and Walmart thrive?


If you have ever walked into a Kmart, you can understand why they are closing 68 stores this summer. I can’t remember the last time I set foot into one of their stores. Kmart was once a profitable discount retail store that was the leader of an industry that included Walmart and Target. Time has not been good to Kmart and they are now closing multiple locations. Kmart never created a niche market for itself. When anyone thinks of Walmart the perception of low prices comes to mind. When it comes to Target, a customer will pay a little extra for higher quality products. What do you get at Kmart? They offer such a wide variety of high and low quality products that it gives off the impression that even they don’t know their competitive advantage.

Kmart started off with success and had great economies of scale. They knew where to cut costs and spend money to stay in business. However, Kmart became complacent and didn’t continue to find ways to improve the economies of scale and use the economies of scope to their advantage. Eventually these cost cutting activities turned into diseconomies of scale. They started losing more money than they were making. Mismanagement is the main culprit of their failed success. They were not able to identify a competitive advantage and they didn’t know how to manage their economies of scope. There was no direction or reason to their actions and the business functioned like a chicken with its head cut off. There is plenty of demand for discount retail stores but Walmart and Target don’t even need to participate in predatory pricing to steel business from Kmart. Kmart just doesn’t have a loyal consumer base and can’t attract new customers. Kmart only has itself to blame. It was only a matter of time before they were on the verge of bankruptcy.


Sears and Kmart are closing 78 more stores