Dollars and Jens
Thursday, October 25, 2007
Chris Cox on Sovereign Wealth Funds
Here's what I did tonight.

The theme is that governments are increasingly participants in financial markets, and there's a conflict of interest in the referee being a player in the game. He seemed to clearly avoid saying that governments should not set up sovereign wealth funds; he just pointed out that it presents an important change from the environment we're used to.

Wednesday, October 24, 2007
airport delays and scarce resources
Government Asks Airlines to Ease J.F.K. Congestion
After a pep talk by the secretary of transportation, Mary E. Peters, and the acting administrator of the Federal Aviation Administration, Bobby Sturgell, the airline executives were taken to separate rooms and brought back one by one to talk to government officials about their schedules.

At some hours, Kennedy has more than 100 scheduled arrivals and departures. The F.A.A. said the airport actually handled 80 or 81 per hour this summer, which is the maximum the Transportation Department wants the airlines to schedule.
This doesn't seem like the common-sense way of doing this.
The D.O.T. has said it may order landing fees that vary by the hour as an incentive to move flights to off-peak periods.
There you go! Unfortunately, common sense has its enemies:
The airlines hate the idea of variable landing fees, and some government officials doubt they will work, because the price difference between landing peak and off-peak would come to a couple of dollars per passenger, or less. The Transportation Department says it has the authority to vary the fees, but only so they are "revenue neutral," so the total amount collected by the airport does not change. The airlines say they will sue if it tries.
On what grounds would they sue? On what grounds would they complain? Is that "revenue-neutral" criterion the reason the price difference couldn't exceed a couple dollars per passenger? Is that in federal law? Can someone remove it so that an effective scheme of rationing a scarce resource by price — rather than by rent-seeking waste — can be worked out? Why do the airlines resist the revenue-neutral version? (Because it would reduce nominal capacity to actual capacity?) I have a feeling the airlines should be told to stuff it.

I can't even conceive how the slots are being doled out now. Any airline can simply schedule as many departures per hour as it wants, and the airport doesn't even try to coordinate it?

If auctioning off departure and landing slots brings in more revenue than compensates you for the costs of running the airport, using the capital and land involved, and any other costs, that means you should probably expand.

The airlines said Kennedy could handle more with better equipment and procedures, and have complained that the department’s target number is too strict. Another problem is that some traffic may migrate to Newark, adding to delays there.
Invest the higher fees in better equipment! Good idea.

Newark airport, like Kennedy, is run by the Port Authority of New York and New Jersey. Contrary to popular belief, its being in New Jersey does not preclude common sense from operating there, too. Though federal law might.

Sunday, October 21, 2007
Behavioral Finance
Over the last year or so, I've been reading about behavioral finance from a lot of angles. Some of my reading I regret as a waste of time, but at least I can tell you what to read if you're interested.

If you're mathematically inclined, I highly recommend Andrei Shleifer's compilation of his research in the form of the book "Inefficient Markets". This book has very little to do with psychology, but it introduces some models which don't assume rationality, or which even assume irrationality on the part of some investors.

In the introduction to Shleifer's book, he disclaims any characterization of that book as a "survey", and rightly so; it's just his research, and it's more abstract and less psychological than a survey would be. If you do want a survey of behavioral finance, though, the paper you're looking for was written by Yale's Nick Barberis and UChicago's Richard Thaler, and can be downloaded from Barberis's website. In PDF form: "A survey of behavioral finance". It's about 70 pages, which isn't short for a paper, but, really, it's all you need to read.

I don't regularly read the Muhlenkamp quarterly letter, but I did once note the URL theorizing that it might be a good idea. He seems to think the worst is over.

Here's a bit from this quarter:
Although the Fed stopped raising rates in early 2006, participants in the mortgage and credit markets continued actions that only made sense during the ultra low, short-term rates of 2002-2004. Specifically, mortgage providers continued to write adjustable rate mortgages and as rates moved up, rather than writing fewer mortgages, they modified the terms to be able to keep writing mortgages until they broke the market and themselves in February-March 2007. Meanwhile, managers of leveraged buyout funds and hedge funds, which had great success in the period of ultra low short-term rates, attracted huge amounts of money which they attempted to put to work as the rates became much less attractive. In an attempt to continue prior good returns, many of them used greater leverage at a time and under conditions when they should have used less. They pushed their market until it broke in July-August 2007.

While the point of maximum pressure appears to have passed in each of these markets, the fallout will go on for a couple of years in mortgages and possibly longer in the credit markets.
I've been under the impression that most of the mortgage turmoil would be in Q4 of 2007 and Q1 of 2008, but I've noticed that I tend to expect things to be done before they're done. Long before they're done - I made more money than I lost shorting Internet stocks, but that's probably because I had the good fortune not to have any money to invest until around 1999. I've owned QQQQ put options for several years now (though I did justify that, pre-facto, as at least as much a hedge as a bet).

At any rate, I don't now believe that everything will resolve itself by next April, but the magnitude of the problem might at least be clear. If I ever have the temerity to call a bottom, though, that's probably a good time to set an alarm for three years later.

If that's not pessimistic enough for you, one last thing:
We can never say for sure that some other market won't break, or that an outside event like 9/11/01 won't occur, but we don't currently see additional likely candidates.
If you gave me 10-1 odds against a 9/11-size terrorist attack in the next three years, I'd be happy to take those odds. I have no special knowledge, mind you, mostly just a lack of sanguinity in the relative difficulties of playing defense and offense.

Friday, October 19, 2007
Timeline compiled by the Federal Reserve.

Thursday, October 18, 2007
trimmed-mean PCE
The detailed PCE report, from which the Dallas fed calculates the trimmed-mean version, is typically released around the last day of the next month or the first of the month after that; the September PCE report, for example, may well be in the hands of the FOMC when it meets at the end of this month, but I believe it's not going to be released publicly until the day after the meeting, and the folks who calculate the trimmed-mean version won't get such special access.

There will be a PCE number released with the advanced GDP report a day or two earlier, but there's not enough detail provided with that, I believe, for the Dallas fed to work its magic.

Wednesday, October 17, 2007
BLS released the latest CPI data this morning. Inflation for the last year is still under 3%, though not by a lot. Some costs are going up faster than others, but nothing is skyrocketing. Milk, I suppose. And, of course, energy would be bigger if we looked at several years rather than just one. At any rate, I doubt these numbers are terribly worrying to the Federal Reserve.

I'm not sure when the Dallas Fed updates their trimmed-mean PCE number, but that's been lower than the CPI and trending downward.

Actually, I probably have no more insight into these numbers than you do - go ahead and peruse them yourself.

Monday, October 15, 2007
Happy Anniversary
20 years today, the market closed down.

Mr. Ritholtz there claims that there are differences between now and then, such as everyone piling into portfolio insurance 20 years ago at the same time. But there's this:
[MIT finance god Andrew] Lo's research, which builds a very basic quantitative model and then tests what would happen to it during the August unwind, concludes that the proliferation of hedge funds using similar investment strategies has led to more risk in the system.
which sounds similar to me.

Thursday, October 04, 2007
No, No, No
Risk has a higher price than it did in July (but a lower price than when the paper markets were seizing in mid-August):
Certainly financial confidence is nowhere near its July level. Looks like Fed chairman Bernanke has a ways to go to reassure big lenders and investors that the system is healthy.
July is the benchmark of stability? The Fed hasn't done enough until it has re-filled the powder keg that blew up in August, is that it?

The volatility index is still lower than its long-term average, and I think I've seen that the risk premium on junk bonds is, too. The mood of the market went from "God Himself could not sink this ship" to "Eek! A mouse!" and is now somewhere around "I'm feeling lucky." Sanguine, but not ludicrously so. Big lenders and investors have indeed been reassured that the system is healthy, but they no longer think that "risk" is just a board game. This is a good thing.

(And, yes, I'm a couple of weeks behind on this, but it still applies.)

UPDATE: Here, for WSJ subscribers, is the piece about the risk premium on junk bonds.

Wednesday, October 03, 2007
Boston Stock Exchange
Pure trivia, this, but the Boston Stock Exchange has been purchased by the NASDAQ for $61 million. To be perfectly frank, I don't see why the Boston exchange is worth more than a barleycorn to NASDAQ. Of course, my ignorance isn't an impediment to them.

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