PDA

View Full Version : Most Hedge Funds Suck, and that's Bad News for the Industry and Investors



EJ
12-22-06, 12:17 PM
Most Hedge Funds Suck, and that's Bad News for the Industry and Investors

An ounce of regulation is worth a pound of cure, but it's probably too late

Chris Calnan is interviewing me last week for this article Mass High Tech piece on iTulip, Inc. (http://masshightech.bizjournals.com/masshightech/stories/2006/12/18/story12.html?i=65890) It appeared Monday, an article of local interest and perhaps not so interesting to the 99.9% of our community that does not reside in the Boston area, never mind the 30% of readers who do not even reside in the United States (http://www.itulip.com/images/last500visitors.png). Chris is asking, "Why are you so down on hedge funds?" For eight reasons. But before I get into those, I'll tell you why I like them.

Some hedge funds, like some venture capital (VC) funds, are run by highly experienced, disciplined, honest, hard working, smart men and women who make money for their clients and don't take all the money out of the funds they manage to which they are contractually entitled. Instead, they re-invest most and sometimes all of the money the fund earns that is technically theirs. The best hedge fund managers are creative with money the way software engineers are creative about solving business problems with software programs. They can take money and make more out of it in clever ways, producing higher returns than mutual funds or other funds, with not much more volatility or risk. These good hedge funds use carefully developed proprietary event driven, relative value, or macro tactical trading models, proprietary algorithms by analogy to the software industry. This is all good. Problem is, not many hedge funds are this good. Most so-called "hedge funds" suck. Let me count the ways.

1. Are not really "hedge funds" but USIPs (http://www.itulip.com/glossary.htm#USIP) (Unregulated Speculative Investment Pools) that expose investors to unnecessary risks.

Many so-called hedge funds are not long/short and hedged but are long and not hedged, leading to high returns while the trade goes their way and to massive losses when it doesn't. Leading to #2.

2. Invest in markets they don't understand, such as commodities, leading to losses for investors.
"Amaranth, based in Greenwich CT, specialized in energy trading. But the collapse in natural gas prices forced it out of its positions after its two main funds plunged more than $6 billion, or 65%, since the end of August. It’s the largest hedge fund collapse since LTCM went belly up in 1998."
Amaranth and Hedge Funds’ Hidden Risks (http://finance.yahoo.com/columnist/article/futureinvest/10116), Jeremy Siegel Ph.D., Yahoo! Finance, December 2, 2006
Anyone who invests other people's money (OPM) in commodities without having at least one professional on the fund management team with 20 years or more experience trading commodities is, in my opinion, utterly irresponsible. The commodities market is uniquely difficult place to find arbitrage opportunities, with pricing characteristics that are far more complex and volatile that other markets, such as bonds. Most hedge funds that trade in commodities–and currencies, for that matter–have no business doing so.

3. Even if truly a long/short fund, most see returns that are no better than a well balanced portfolio of stocks and bonds, but hedge funds routinely represent otherwise and charge big management fees.

This report on hedge funds by J. Michael Evans of Goldman Sachs (pdf) (http://www.iosco2006.org/pdf/EN/panel/P2_Michael_Evans.pdf%20pdf)–which is largely what Goldman has become (http://www.itulip.com/forums/showthread.php?t=708)–is typical of the industry case for hedge funds. It shows long/short hedge funds beating the S&P for years with lower volatility and risk:


http://www.itulip.com/images/gshedgefunds.jpg


Yet all independent analysis, such as this report by Michael Markov (pdf) (http://www.markovprocesses.com/download/mpi_RecentTrendsInHedgeFundMarketExposure2005Q4.pd f) of Markov Processes International, LLC, shows that this is not true.


http://www.itulip.com/images/hedgefundperf.jpg


"The above result is very important. It shows that on average, when investing in a long/short hedge fund, investors are essentially getting an equivalent of an asset allocation portfolio with a big chunk of assets invested in T-Bills. Typically, investors are not very happy when 50% of their investment is kept in cash. Here, they don't say a word – moreover, they pay premium fees to hedge funds for doing just that.

"Another important observation: since blue and red line almost match, there's very little if any alpha generated by the category as a whole. That is expected: there are very few good long/short funds and when you combine a large number of funds, alpha simply cancels out. One may argue that being in a 50/50 mix is an indication of skill by itself. This may be true, but it's worth noting that most of long/short strategies are being "sold" precisely on the premise of alpha generating. Note also that the above analysis is not limited to an obscure hedge fund index. We've seen very similar results with very close tracking in analysis of dozens Hedge Fund of Funds. Such funds produce very little alpha and most of the value comes from market exposure bets, something that investors should be aware of."
3. Have less skin in the game and lower risk than their investors, leading to limited accountability, low motivation for creativity and hard work, and poor judgment.

Unfortunately, many hedge fund managers do not reinvest earnings back into their funds. The managers pocket a two percent fee and 20% of profits rather than re-invest it. Even if their investment strategies fail to generate returns, sharing 2% of, say, a $2 billion fund annually–$40 million–among a few managers is a good living for anyone. This is, of course, the real attraction of opening as hedge fund. In this "can't lose" world where one's net worth multiplies whether one fails to meet return objectives or not, what incentive does a fund manager have to get creative, work hard and not screw up? You might guess career risk, but you'd have guessed wrong. Fund managers can get poor results in one fund but have little trouble finding employment at a new fund.

4. Are followers without original trading ideas, leading to marginal average returns relative to cost.

Most do not use carefully developed proprietary trading schemes, but rather follow each other. Thus you see a macro hedge fund executing yet another variation on the yen carry trade–borrowing yen at low interest rates and buying dollars at high interest rates and banking the difference between what one pays in interest in yen (nothing) and earns in interest in U.S. bonds, say, 6%. That works swell until too many people are doing it at which point the differential demand for yen makes the yen rise relative to the dollar, wiping out your profits in a negative exchange rate differential. No free lunch.


http://www.itulip.com/images/hedgefundrisk.jpg


This chart from Markov shows cash as a red marker at the zero/zero on the axes–zero return and zero standard deviation (risk). The S&P is the green diamond at 12% return and around a 10% standard deviation. The Hedge Fund Return Index (HFRI) is the orange circle with an 11% return and 6% standard deviation. Is the approximate 30% better return on risk worth the 2% management fee and 20% of earnings over time? Probably not.

5. Reliance on liquidity, leading to likely future period of mass redemptions and fund closures when liquidity inevitably declines as with VC funds 2001 - 2003.


http://www.itulip.com/images/VCtrends.jpg


1990s VC funding bubble


The phrase "When the wind blows hard enough, even turkeys fly" applies as much to many of today's hedge funds as to the low grade VC funds that sprang up in 1999 and 2000 and the uneconomical companies they funded, all of which subsequently fell to the ground after the wind died down. No doubt the hedge fund old timers are looking on in horror as liquidity rewards even the most careless behavior of some of the newly established firms and carries capital off to certain demise from high net worth individuals and institutions that apparently didn't learn their lesson in liquidity driven VC boom that ended in 2000. When these USIPs inevitably fail, they will for a couple of years drag down hedge funds as an "asset class," and I use that term loosely, for as Markov points out, most behave too much like stock mutual and stock index funds to qualify as a distinct class. However, just as with the case of VC funds, the top quintile hedge funds will survive the downturn and attract the bulk of new investment for the class, leaving a few thousand low grade funds to die out.

6. Investing in companies in ways that are virtually guaranteed to deliver losses to investors.

As my friend "J" explains in his post World Needs Better "Face of American Capitalism” than Private Equity, Goldman Sachs, Media Freak Show (http://www.itulip.com/forums/showthread.php?t=724), many hedge funds, like some private equity funds, try to participate in companies as active investors. Problem is that most, though not all, hedge fund managers, like most but not all PE general partners, cannot operate a company. Why does that matter? Two reasons.

One, they can't really understand what a company is doing because they cannot relate personal experience to what the management team is trying to accomplish. If the company is under duress, such as during a recession, the easy way out of for hedge funds under pressure from other shareholders to "fix things" is to change the management team, even if that is the worst possible thing for the company at that time, creating a source of internal turbulence as severe as the external source. Two, investors sometimes need to threaten war with management. When investors are not in a position to run the company because they lack the skills, management calls the bluff and–lacking the means to back up their threats because they are unable to operate a company–the hedge fund and PE guys either have to back down, to the detriment of shareholders, or–God help us–take on responsibilities they cannot fulfill, such as management roles, also to the detriment of investors. Lose, lose. Whether VCs, hedge fund managers, or private equity partners, taking an active investor role in a corporation is for finance people with operating experience. Period. In the long run, everyone else loses. Everyone: shareholders, management, employees, customers, and society at large. The problem is that liquidity, while it lasts, papers over this fundamental weakness in structure of boards that have non-operators in control as investors. Weaknesses in the capital structure, due to debt obligations that were economical during boom times but will not be in a recession when demand and revenues will decline, will create a splatter pattern across the U.S. economy, familiar to ex-dot com employees (http://www.****edcompany.com/), as dozens of these turkeys hurdle to the ground next year.

7. Contributing little to the economy and society.

Successful capitalism is about cultivating the innate capacity of humans to produce incremental value for themselves and each other. Incremental as in not re-inventing the wheel but inventing something new on top of what has been invented before. The marvel of humans is that we can take all that has ever existed in history and continuously make it better. In your own experience, think of cars. Compare the car you own today to the one you owned 20 years ago. Didn't start in the winter. Left you on the side of the road at least once a year. And how did you call anyone for help? Pay phone. Quaint, isn't it? But it gets better. The improvements that will come out of developments in new technologies like biotech will rock your world. I am equally optimistic that technologies that allow us to conserve energy will push Peak Oil out on a long, declining curve versus falling off a cliff as many Peak Oilers predict.

Most of the thousands of people currently running hedge funds are not adding anything productive to the economy. While China and India crank out hundreds of thousands of engineers–either U.S. educated or locally–who create inventions that Chinese and Indian corporations can turn into profits, the U.S cranks out an equal number of finance professionals to manage and speculate with the assets which result from the capital formed by new inventions. In the long run, the nation that produces more of the former and less of the latter will maintain a better standard of living for its citizens over time.

The growing gap shows up not in the U.S. engineering school enrollment numbers, as many Chinese, Indian, and Korean students continue to come to the U.S. for training. Rather the gap shows up in R&D investment, which is a function of both where those students go after they are trained–home–and how they are deployed in the economy. A recent report by the American Institute of Physics (http://www.aip.org/fyi/2006/137.html) explains:
“Fastest-growing economies continue to increase their R&D investments rapidly, nearly five times the rate of the United States: The countries of China, Ireland, Israel, Singapore, South Korea and Taiwan collectively increased their R&D investments by 214 percent between 1995 and 2004. The United States in that period increased its total R&D investments by 43 percent.

“U.S. physical sciences and engineering research budgets significantly lag economic growth: As a share of GDP, the U.S. federal investment in both physical sciences and engineering research has dropped by half since 1970. In inflation-adjusted dollars, federal funding for physical sciences research has been flat for two decades. . . . Support for engineering research is similar.

“Innovators transform new knowledge into products and services. The United States has led the world in innovation and in the creation of knowledge that fuels this progress. Two benchmarks of knowledge creation, journal articles and patents, reveal that change around the world is eroding traditional U.S. leadership in these areas. Other countries are rapidly enlarging their stock of intellectual property assets and are expanding the boundaries of learning and discovery across all fields of science and engineering. Growth in patent applications around the world shows that these countries are also enhancing their abilities to put newly created knowledge to viable commercial uses.”
The rewards of speculation in the upside-down U.S. economy are creating perverse incentives that reward speculators and punish intellectual property makers. Engineer friends report that the ugly high risk, low return deals that VCs are offering them as founders of VC backed technology companies in the U.S. these days–leaving them with less than 50% ownership in the first round of funding–makes them feel, in the words of one founder recently, "punished for inventing versus speculating. I should quit engineering and start a hedge fund."

8. Tragedy of the commons: bad hedge funds will drive out good capital, invite collective punishment of the innocent by regulators that will stymie the hedge fund industry for years.

Just as the post-stock market bubble Sarbanes-Oxley rules collectively punished innocent corporations while leaving most of the perpetrators of legal investment fraud in the 1990s free to go with their lottery winnings, after the current batch of liquidity dries up, many hedge funds fail, and investors put pressure on government regulators to prevent a repeat, the good hedge funds will get whacked along with the bad. You can already see it coming.
Tokyo watchdog targets hedge risks (http://www.theaustralian.news.com.au/story/0,20867,20963467-36375,00.html)
December 22, 2006 (Michiyo Nakamoto – The Australian)

HAVING just emerged from a financial crisis, Japan again faces the risk of mounting bank failures - this time owing to their insatiable appetite for hedge funds.

That, at least, is the message coming from the financial regulator as it finalizes guidelines that would force Japanese banks to greatly increase their capital reserves against their exposure to certain hedge funds.

The Financial Services Agency's new rules, based on the Bank for International Settlement's Basle II standards, will from next March force banks to provide increased information on the hedge funds they invest in, or to put aside higher reserves that would make those investments economically unattractive for many banks. This requirement is particularly difficult to meet for the large number of regional banks that invest in funds of hedge funds or multi-strategy funds, and has triggered widespread redemptions and sales of hedge funds.

"People put their money in the bank because they believe it is safe. Is it OK to take those deposits and invest them in products they don't understand?" a senior official says.
The current hedge fund boom is yet another liquidity driven bubble like the VC bubble of the 1990s. After it collapses, over-regulation and negative investor sentiment will disable the industry for a while and, as sources of capital to many industries, their sudden departure from the market will damage those industries much as the technology industry was hammered by the collapse of the NASDAQ bubble and the exit of many VCs from the technology funding market. When it comes to regulations that distinguish good hedge funds from the bad, an ounce of prevention is worth a pound of cure. Apparently, the Fed, which supplies the liquidity, and the SEC, which is supposed to figure out how to effectively regulate funds to prevent abuses and limit the chance of market failures, are slow learners. Question is, how much more of this abuse can the U.S. economy take? We'd better hope it can take a lot because in 2007, the hedge fund, private equity and housing bubbles are all going to collapse together.

___

To receive the iTulip Newsletter or iTulip Alerts, Join our FREE Email Mailing List (http://ui.constantcontact.com/d.jsp?m=1101238839116&p=oi)

Copyright © iTulip, Inc. 1998 - 2006 All Rights Reserved

All information provided "as is" for informational purposes only, not intended for trading purposes or advice. Nothing appearing on this website should be considered a recommendation to buy or to sell any security or related financial instrument. iTulip, Inc. is not liable for any informational errors, incompleteness, or delays, or for any actions taken in reliance on information contained herein. Full Disclaimer (http://www.itulip.com/forums/../GeneralDisclaimer.htm)

Jim Nickerson
12-22-06, 02:04 PM
Eric,

I continue to be amazed at your abilities to ferret out all this stuff and comment on it as well as your tenacity in sticking with what I understand you set out to accomplish with iTulip. I appreciate your thoughts and the time you spend to develop and share them.

jk
12-22-06, 02:08 PM
Thus you see a macro hedge fund executing yet another variation on the yen carry trade–borrowing yen at low interest rates and buying dollars at high interest rates and banking the difference. That works swell until too many people are doing it at which point the differential demand for yen makes the yen rise relative to the dollar, wiping out your profits in a negative exchange rate value. No free lunch.

so far this year the dollar has lost roughly 8-10% against most currencies, but hardly budged vis-a-vis the yen. so far, free lunch!

DemonD
12-23-06, 02:52 AM
Eric, unbelievable analysis as always. I feel an incessant need to comment...

5. Reliance on liquidity, leading to likely future period of mass redemptions and fund closures when liquidity inevitably declines as with VC funds 2001 - 2003.

I harken back to this chart:



http://www.leap2020.eu/photo/520054-635448.jpg
Seven largest US banks' counter-party to their investment on the
derivatives market - 2005 (Source: Office of the Comptroller of the
Currency / US Department of Treasury)

____

Okay, someone correct me if I'm wrong.

In 1996, the Fed loosened the requirements for banks' reserves for their loans outstanding. In 2000-2002, the Fed funds rate drops to 1.0%. This helps me lock in my student loan repayment rate at 2.5% in 2003. The housing boom happens. (Ignore the last 3 sentences, I just put them there for dramatic effect.)

Okay, so if I'm correcting the dots correctly here... basically the Fed funds rate means nothing. If you don't need to keep any reserves to loan out money, then what's the point of even having a banking system?

This is why I'm in the camp where we see major, mega-cap banks going belly-up and a lot of pain pain in the banking/financial industry. Will our fearful and sniveling leaders find a backbone to reinstitute reserve requirements? I personally fear that a Fed funds rate of 15% would do nothing substantial (who cares about american dollars transferred when it costs fractions of that percentage in yen?), but a strict reserve requirement would destroy half the banks in the chart above.

6. Investing in companies in ways that are virtually guaranteed to deliver losses to investors.

I am in complete agreement with the analysis as described underneath this section. What can we expect with all the liquidity and froth in the PE markets? I mean, just look at that chart. It's like all the individual real estate investors out there leveraged up to their eyeballs in debt; the difference is, when one guy loses a couple of investment properties, one guy is screwed. I'm starting to understand imagining the pain of what will happen when a bank with a 200 year history is toppled by the bubble bursting.

many hedge funds, like some private equity funds, try to participate in companies as active investors. Problem is that most, though not all, hedge fund managers, like most but not all PE general partners, cannot operate a company.

It seems like the investors (corporate raiders?) that are the best at participating as active investors are the guys who take large positions in public companies and work within the shareholder ranks for change. Examples would be Heinz and GM in 2006 (I forget who it was with Heinz but it was Kirk Kerkorian's group that has helped lift GM in it's turnarouned). Everyone else is just a kid playing with a lighter and some hairspray. Might be fun, might burn the house down.


7. Contributing little to the economy and society.

Successful capitalism is about cultivating the innate capacity of humans to produce incremental value for themselves and each other....

Most of the thousands of people currently running hedge funds are not adding anything productive to the economy. While China and India crank out hundreds of thousands of engineers–either U.S. educated or locally–who create inventions that Chinese and Indian corporations can turn into profits, the U.S cranks out an equal number of finance professionals to manage and speculate with the assets which result from the capital formed by new inventions...

The growing gap shows up not in the U.S. engineering school enrollment numbers, as many Chinese, Indian, and Korean students continue to come to the U.S. for training. Rather the gap shows up in R&D investment...

“Innovators transform new knowledge into products and services. The United States has led the world in innovation and in the creation of knowledge that fuels this progress...."

....recently, "punished for inventing versus speculating. I should quit engineering and start a hedge fund."[B]


Does anyone else find it ironic that an economist running an equities/commodities financial advice website is saying how there are too many financial and businesspeople in this country? And not enough scientists and engineers? (For the record, I found this pretty funny... and I disagree, although I think that more of these finance people should be working for the SEC making sure investors are not getting defrauded... but I guess there is only one Eliot Spitzer in this world. :( I do think you do a great job of illuminating all of the inequalities in the system Eric... anyone want to start an EJ for SEC Commissioner campaign?)

This country was built upon the notions and measures of commerce. The USA was founded upon a platform of greed and money. Markets set up based on Adam Smith's philosophies. Alexander Hamilton appearing on our paper bills. The Boston Tea Party. "No taxation without representation!" With the exception of like bosnia and somalia, no official in this country has ever lifted a finger to do a thing unless it was going to make them more wealthy.

And this thought occurred to me to be the most ironic. The greatest American scientist ever (arguably) was Albert Einstein... who was German. Who happens to have what may be the most well-known phrase in all of finance:

"The most powerful force in the universe is compound interest."

Just goes to show you, it's all about the money.

In any case, growth rates for r&d in the US are mature. India and China are exploding as their populaces grow more literate and educated. They have a long way to go to catch up, and even if they do... so what? I think it will be good for the world. Maybe the Chinese will cure cancer. Maybe an Indian will find a 99% effective vaccine for HIV. How will that be monetized though?

I'm not concerned with the level of engineers and scientists being trained. This is a country of Bill Gates, Warren Buffett, Hank Paulson, PT Barnum, The Rockefeller family, the Kennedys, the Bush's, and the legacies of Alexander Hamilton and Thomas Jefferson. Lousiana purchase = best real estate deal in the history of mankind. And Andrew Jackson, who some could argue was about as genocidal and greedy as Stalin or Hitler. He certainly wasn't thinking about decreasing the nation's dependence on oil. And I'm not a Jackson historian but no doubt tons of his friends got super rich on his watch.

The long-term effect that our country will have to fight through are things more basic, like literacy of the poor, making neighborhoods safer, and allowing the lowest 40% in income of our population the opportunity to thrive. It seems as though we are at a point now with that that we have not seen in about 100 years, in terms of inequality of the rich and poor. Unfortunately there does not seem to be an equalizing factor like the GI Bill coming down the pipe to lift the USA up again. But the opportunity is there, so I think I lean more on the side of optimism for the future of the economy.


Just as the post-stock market bubble Sarbanes-Oxley rules collectively punished innocent corporations while leaving most of the perpetrators of legal investment fraud in the 1990s free to go with their lottery winnings, after the current batch of liquidity dries up, many hedge funds fail, and investors put pressure on government regulators to prevent a repeat, the good hedge funds will get whacked along with the bad. You can already see it coming.

One thing I have to vehemently disagree with is your outlook on SOX. Maybe I come from a complete retail investor standpoint but SOX is GOOD. SOX is what will prevent anyone from even trying to take a pets.com type company public and milking the public. It also restored faith in the equities markets after all the fraud and crap that happened with the tech bubble. Hopefully an Enron will never happen again, but SOX is again meant to prevent that from happening. I could get into an 8 hour debate on why SOX is one of the best damn things we have going in the equities markets, but I think I've said enough.

The one question I still am wondering is about that chart, and the lack of bank reserves. It looks like there's a bunch of guys standing on the tops of cliffs with no ropes, no nets, and they are leaning halfway out, and all it would take is a sneeze and it's a freefall and they go SPLAT!!!

Is that about what's going on up there? Yes? No?

akrowne
12-23-06, 01:26 PM
Wow, the Japanese bank/hedge fund crackdown threatens to blow the lid off both the centrality of the Yen carry trade, and the shadiness of Joint Back-Office arrangements between hedge funds and banks (which give the funds nearly unlimited access to the bank's internal capital, and thus insane quantities of leverage).

I can underscore the point about dwindling domestic opportunity for technical people and invention. I have a computer science and math background, but have failed to find domestic backers and partners for a number of start-up ideas -- most of which I actually have prototypes for. The investments required are not large, but it's almost as if this economy has forgotten how to support and invest in grassroots innovation. Technical people have become an "underclass" that don't get much attention from the financial world.

The one brightest prospect I have now for a major investment partner? A Chinese software company.

spunky
12-24-06, 04:53 AM
Hmmmm !!!! Watching greedy, stupid wealthy people rip each other off is a bad thing :confused: Err dont think too many of us rednecks here is rural Indiana is doing no of them there hedge funds .


And of course get out there and spend as Daddy Bush requested because we all know in our hearts that is the true meaning of christmas , err well captial pig christmas at least . :eek:

Finster
12-24-06, 08:58 AM
One thing I have to vehemently disagree with is your outlook on SOX. Maybe I come from a complete retail investor standpoint but SOX is GOOD. SOX is what will prevent anyone from even trying to take a pets.com type company public and milking the public. It also restored faith in the equities markets after all the fraud and crap that happened with the tech bubble. Hopefully an Enron will never happen again, but SOX is again meant to prevent that from happening. I could get into an 8 hour debate on why SOX is one of the best damn things we have going in the equities markets, but I think I've said enough.

SarbOx is practially a study in Congress setting up a big cannon, pointing, and shooting, and completely missing the target. It's creating a lot of bureaucratic busy work and unwarranted expense for companies and still not fixing the the problem. The stuff about micromanaging corporate processes with useless internal control requirements hasn't done a thing to deter stock option self-dealing and unbelievably massive executive compensation. Did you miss Jim Nickerson's thread America the Beautiful. Hank hits a homerun or 198 (http://www.itulip.com/forums/showthread.php?t=731)?

If Congress really wanted to do something useful and effective about corporate governance, it would give the stockholders more power over corporate boards and managements less. And make accounting rules simple and clear enough that investors can actually understand what they are doing.

Finster
12-24-06, 11:02 AM
Successful capitalism is about cultivating the innate capacity of humans to produce incremental value for themselves and each other. Incremental as in not re-inventing the wheel but inventing something new on top of what has been invented before.

Bravo! Capitalism - rightly construed - is not just about investors making money. To the extent it boils down to merely getting a bigger piece of the same pie, it is dysfunctional. It's about making a bigger pie.

Properly functioning financial markets do this by allocating capital. If capital is well allocated, investors will prosper by providing better products and services and satisfying human needs and wants.


I am equally optimistic that technologies that allow us to conserve energy will push Peak Oil out on a long, declining curve versus falling off a cliff as many Peak Oilers predict.

That's a good perspective on Peak Oil. Peak Oil is real all right, but it's a multi-decade phenomenon, not something that can be pinpointed to any one year on the calendar. It's not even mostly responsible for the rise in oil prices these past few years - that's inflation.


The marvel of humans is that we can take all that has ever existed in history and continuously make it better. In your own experience, think of cars. Compare the car you own today to the one you owned 20 years ago. Didn't start in the winter. Left you on the side of the road at least once a year. And how did you call anyone for help? Pay phone. Quaint, isn't it? But it gets better. The improvements that will come out of developments in new technologies like biotech will rock your world.

At least insofar as it applies to our current distorted and dysfunctional finance-based economy, I am not so sanguine about the improvements technology has brought us. Rather than having a car that didn't start in the winter and that leaves me on the road, we have computers to do that for us. A popular Internet apocraphy highlights:


If Microsoft Built Cars

At a computer expo (COMDEX), Bill Gates reportedly compared the computer industry with the auto industry and stated "if GM had kept up with the technology like the computer industry has, we would all be driving $25.00 cars that got 1,000 miles to the gallon."

In response to Bill's comments, General Motors made the following contribution to the debate:

"If GM had developed technology like Microsoft, we would all be driving cars with the following characteristics:


For no reason whatsoever, your car would crash twice a day.

Every time they repainted the lines on the road, you'd have to buy a new car.

Occasionally your car would just die on the motorway for no reason, You would have to pull over to the side of the road, close all of the car windows, shut it off, restart it, and reopen the windows before you could continue. For some reason you would simply accept this, restart and drive on.

Occasionally, executing a maneuver would cause your car to stop and fail to restart and you'd have to re-install the engine. For some strange reason, you'd accept this too.

Occasionally, for no reason whatsoever, your car would lock you out and refuse to let you in until you simultaneously lifted the door handle, turned the key and grabbed hold of the radio antenna.

You could only have one person in the car at a time, unless you bought a "Car 95" or a "Car NT". But then you'd have to buy more seats.

Macintosh would make a car that was powered by the sun, twice as reliable, five times as fast, twice as easy to drive - but it would only run on five percent of the roads.

The Macintosh car owners would get expensive Microsoft upgrades to their cars which would make their cars go much slower.

The oil, engine, gas and alternator warning lights would be replaced with a single "General Car Fault" warning light.

People would get excited about the "new" features in Microsoft cars, forgetting completely that they had been available in other cars for many years.

We'd all have to switch to Microsoft petrol and lubricants but the packaging would be superb.

New seats would force everyone to have the same size arse.

The airbag system would say "Are you sure?" before going off.

If you were involved in a crash, you would have no idea what happened.

They wouldn't build their own engines, but form a cartel with their engine suppliers. The latest engine would have 1 cylinders, multi-point fuel injection and 4 turbos, but it would be a side-valve design so you could use Model-T Ford parts on it.

There would be an "Engium Pro" with bigger turbos, but it would be slower on most existing roads.

Microsoft cars would have a special radio/cassette player which would only be able to listen to Microsoft FM, and play Microsoft Cassettes. Unless of course, you buy the upgrade to use existing stuff.

Microsoft would do so well, because even though they don't own any roads, all of the road manufacturers would give away Microsoft cars free, including IBM.

If you still ran old versions of car (ie. CarDOS 6.22/CarWIN 3.11),then you would be called old fashioned, but you would be able to drive much faster, and on more roads!

If you couldn't afford to buy a new car, then you could just borrow your friends, and then copy it.

Whenever you bought a car, you would have to reorganize the ignition for a few days before it worked.

You would need to buy an upgrade to run cars on a motorway next to each other.

Every time Microsoft introduced a new car, car buyers would have to learn to drive all over again because none of the controls would operate in the same manner as the old car.

Microsoft would require all car buyers to also purchase a deluxe set of Automobile Association Road maps (now a Microsoft subsidiary), even though they neither need nor want them. Attempting to delete this option would immediately cause the car's performance to diminish by 50% or more.
You'd have to press the "Start" button to turn the engine off.

http://homepage.eircom.net/~nobyrne/ms-cars.htm

Jim Nickerson
12-24-06, 01:04 PM
Finster,

Very amusing the answer from General Motors. I do not know what "apocraphy" means and cannot find it in Webster's Collegiate. Want to give me a hint as to what it means or how it might be better spelled?

Finster
12-24-06, 01:36 PM
Finster,

Very amusing the answer from General Motors. I do not know what "apocraphy" means and cannot find it in Webster's Collegiate. Want to give me a hint as to what it means or how it might be better spelled?

There you go again, Jim ... :rolleyes: ... you just don't need to understand every word to get the idea ...

... but since I'm such a nice Finster ... ;) I'm providing the below link for your amusement ...

Apocraphy (http://www.urbandictionary.com/define.php?term=Apocraphy)

In this sense, I'm referring to an anecdote of doubtful or unverified origin ... as an apocryphal story that may or may not be true ...

Jim Nickerson
12-24-06, 03:16 PM
<TABLE cellSpacing=0 cellPadding=0 width="100%" border=0><TBODY><TR vAlign=top><TD class=def_number width=20>1.</TD><TD class=def_word>Apocraphy</TD><TD class=def_thumbs></TD></TR><TR><TD></TD><TD colSpan=2>A place hidden from view; known only to the initiated.
He lives in Apocraphy, but you won't be able to find it unless he draws a map.


</TD></TR></TBODY></TABLE>
Thanks, Finster, see that is why I could not find it as no one drew me a map. Happy Holidays and good returns for 2007.

p.s. don't worry about my not understanding every word, there are many words that come together, the meaning of which I do not understand, and from time to time I attempt to improve myself by beginning to understand one word at a time.

Finster
12-24-06, 06:53 PM
<TABLE cellSpacing=0 cellPadding=0 width="100%" border=0><TBODY><TR vAlign=top><TD class=def_number width=20>1.</TD><TD class=def_word>Apocraphy</TD><TD class=def_thumbs></TD></TR><TR><TD></TD><TD colSpan=2>A place hidden from view; known only to the initiated.
He lives in Apocraphy, but you won't be able to find it unless he draws a map.


</TD></TR></TBODY></TABLE>
Thanks, Finster, see that is why I could not find it as no one drew me a map. Happy Holidays and good returns for 2007.

p.s. don't worry about my not understanding every word, there are many words that come together, the meaning of which I do not understand, and from time to time I attempt to improve myself by beginning to understand one word at a time.

:)

;)

Have a Merry Christmas and Happy New Year!

DemonD
12-28-06, 12:50 AM
I can underscore the point about dwindling domestic opportunity for technical people and invention. I have a computer science and math background, but have failed to find domestic backers and partners for a number of start-up ideas -- most of which I actually have prototypes for. The investments required are not large, but it's almost as if this economy has forgotten how to support and invest in grassroots innovation. Technical people have become an "underclass" that don't get much attention from the financial world.

The one brightest prospect I have now for a major investment partner? A Chinese software company.

With all due respect, finding backers for speculative investments should not be easy... without being privy to what your inventions are, I can't comment, but I cannot take this anecdote as a guilty verdict for the USA being "anti-innovation."

There are still many, many, many US-based companies leading the world in technical, computer, biotech, nanotech, etc. There are still many, many, many US-based institutions of higher learning doing cutting-edge research.

Here are a few nominal numbers for you (added bold for emphasis):
http://ocm.od.nih.gov/contracts/contract.htm



Through its acquisition activities, the NIH buys products and services to support, conduct and acquire both basic and applied behavioral and biomedical research. Product acquisitions range from basic office, medical and information technology supplies and equipment to sophisticated state-of-the-art biomedical equipment and systems. Service acquisitions range from building construction and management consulting, to complex clinical trials. NIH acquisitions exceeded
$2.77 billion in fiscal year 2001 and involved contract awards to universities, hospitals, state and local government agencies, non-profit and commercial organizations.

Total NIH Acquisition Dollars for FY 2002: $3,417.9 M

and here is a more recent, up to date informative article (again emphasis added):

summary: NIH budget = 28 billion.

http://wistechnology.com/article.php?id=3382


One barometer of research and development in the United States is the National Institutes of Health (NIH) annual list of spending in grant money by states. The NIH's annual budget, some $28 billion, not only funds research activities in its own institutions in the Washington, D.C./Maryland area, such as the National Cancer Institute (NCI) and the National Institute for Allergies and Infectious Diseases (NIAID) - in fact there are 27 different institutions - but funds many universities and research institutions around the country to the tune of about $23 billion per year through extramural almost 54,000 annual grants.


And please realize, the NIH is just the federal research supporting institute. States, counties, local municipalities, universities, family trust funds, places like Hughes and Shriner's...

The point I'm making is that there is A LOT of freakin money out there being put into technical, scientific, medical research. While the stem-cell research may spring ahead in china, korea, europe, and japan due to our presidency having been hijacked by a bunch of right-winged extremists, it is not a death-knell for the biotech and nanotech research. Embryonic stem cell treatments are still at least a decade or more away, and the long-term effect of Bush the Idiotic is that stem-cell based therapies will have been pushed out 5-10 years further than they should have been.

I can also get into a whole argument on why the US is still the best place for a company to do biotech research - the US as a whole basically subsidizes medications for everyone outside of the US.

In any case, I just don't see all the bearishness on US intellect. If you want to make a case about education in general, graduation rates for high schoolers, literacy rates... that I can see. But there has been a high-level of commitment to research and science in the public and private sectors and that is not going to wane. Slower growth does not mean a waning of interest or funding.

DemonD
06-22-07, 01:52 PM
5. Reliance on liquidity, leading to likely future period of mass redemptions and fund closures when liquidity inevitably declines as with VC funds 2001 - 2003.


http://www.itulip.com/images/VCtrends.jpg


1990s VC funding bubble


The phrase "When the wind blows hard enough, even turkeys fly" applies as much to many of today's hedge funds as to the low grade VC funds that sprang up in 1999 and 2000 and the uneconomical companies they funded, all of which subsequently fell to the ground after the wind died down. No doubt the hedge fund old timers are looking on in horror as liquidity rewards even the most careless behavior of some of the newly established firms and carries capital off to certain demise from high net worth individuals and institutions that apparently didn't learn their lesson in liquidity driven VC boom that ended in 2000. When these USIPs inevitably fail, they will for a couple of years drag down hedge funds as an "asset class," and I use that term loosely, for as Markov points out, most behave too much like stock mutual and stock index funds to qualify as a distinct class. However, just as with the case of VC funds, the top quintile hedge funds will survive the downturn and attract the bulk of new investment for the class, leaving a few thousand low grade funds to die out.


Are we finally there yet with the meltdown of two of Bear Stearns' funds?

I am really afraid the Fed is just going to pony up a 100 bil in electronic dollars and just bail out all these fools, and it makes me sick to think of it like that.

WDCRob
06-22-07, 03:28 PM
Could someone comment on how many events like the one below it would take force an industry-wide mark to market of assets?


"Apparently this bailout is only for the less leveraged Bear Stearns Hedge fund: High-Grade Structured Credit Strategies Fund.

Assets are apparently being sold from the other fund - High Grade Structured Credit Strategies Enhanced Leverage Fund. CNBC is reporting that Cantor Fitzgerald has circulated a bid list for $400 million in debt securities from the Leverage Fund, and some bids are 10 cents on the dollar."

Sapiens
06-22-07, 03:47 PM
CNBC is reporting that Cantor Fitzgerald has circulated a bid list for $400 million in debt securities from the Leverage Fund, and some bids are 10 cents on the dollar."

Wow! Beautiful! Do you have a link?

WDCRob
06-22-07, 03:49 PM
http://calculatedrisk.blogspot.com/2007/06/bear-hedge-funds-update.html

grapejelly
06-22-07, 03:51 PM
Brian Pretti in his excellent letter contraryinvestor.com wrote yesterday about how he senses panic buying of US equities amongst hedgies who are showing, in the main, below index returns over the past few years. The managers see real estate cratering, interest rates rising and every other issue, but the market keeps going up (if you exclude the past week or two) and they have been buying regardless, jumping in, he says, after "capitulating", and they will be even more eager to hit the sell button the moment anything turns south. FWIW.

WDCRob
06-22-07, 03:56 PM
http://calculatedrisk.blogspot.com/2007/06/if-its-friday-fitch-ratings-cut-may.html

Something about barn doors and missing horses, I think.

WDCRob
06-22-07, 04:12 PM
And while we're on the subject...just how big a deal is this:

"Standard & Poor's Ratings Services today took various rating actions on 133 subordinate classes from 62 different transactions from 23 different issuers. We downgraded 45 classes backed by closed-end second-lien collateral. ... The downgrades and CreditWatch placements reflect early signs of poor performance of the collateral backing these transactions."

Sapiens
06-22-07, 04:15 PM
And while we're on the subject...just how big a deal is this:

"Standard & Poor's Ratings Services today took various rating actions on 133 subordinate classes from 62 different transactions from 23 different issuers. We downgraded 45 classes backed by closed-end second-lien collateral. ... The downgrades and CreditWatch placements reflect early signs of poor performance of the collateral backing these transactions."

Aw, yeah! Music to my ears, ahem, eye candy in this case.



Thanks for the links!

DemonD
06-22-07, 10:26 PM
Something tells me that EJ is hard at work collecting information and analyzing data on the Bear Stearns CDO Hedge Fund catastrophe. Just a hunch. :)

FRED
06-29-07, 10:35 PM
Something tells me that EJ is hard at work collecting information and analyzing data on the Bear Stearns CDO Hedge Fund catastrophe. Just a hunch. :)

Shsssss! Not so loud! Look for the article next week.

WDCRob
07-04-07, 04:55 PM
Five cents on the dollar! From today's FT:

"Buyers avoid Bear Stearns’ cut-priced sale

By James Mackintosh and Gillian Tett in London

Published: July 3 2007 21:46 | Last updated: July 3 2007 21:46

Investors in the worse-hit of two stricken Bear Stearns hedge funds are offering to sell their holdings for as little as 11 cents on the dollar but still finding no buyers, according to unfilled trades on Hedgebay, a secondary market for funds.

Vulture funds and others have been quick to bid for holdings in the two funds, but the best bid for Bear Stearns High-Grade Structured Credit Strategies Enhanced Leveraged Fund, the more geared of the two, is just 5 cents on the dollar.

Private sales of stakes are the only way investors can exit the two Bear funds, after the bank suspended redemptions in May amid a wave of withdrawals.

“There are buyers but they can’t agree on price,” said Jared Herman, co-founder of Bahamas-based Hedgebay.

The less-geared Bear Stearns High-Grade Structured Credit Strategies Fund, which the bank has rescued with a $1.6bn loan, is being offered at about 70 cents on the dollar. The fund is only attracting bidders at about 30 cents, according to people who use the system."

EJ
07-04-07, 09:45 PM
Five cents on the dollar! From today's FT:

"Buyers avoid Bear Stearns’ cut-priced sale

By James Mackintosh and Gillian Tett in London

Published: July 3 2007 21:46 | Last updated: July 3 2007 21:46

Investors in the worse-hit of two stricken Bear Stearns hedge funds are offering to sell their holdings for as little as 11 cents on the dollar but still finding no buyers, according to unfilled trades on Hedgebay, a secondary market for funds.

Vulture funds and others have been quick to bid for holdings in the two funds, but the best bid for Bear Stearns High-Grade Structured Credit Strategies Enhanced Leveraged Fund, the more geared of the two, is just 5 cents on the dollar.

Private sales of stakes are the only way investors can exit the two Bear funds, after the bank suspended redemptions in May amid a wave of withdrawals.

“There are buyers but they can’t agree on price,” said Jared Herman, co-founder of Bahamas-based Hedgebay.

The less-geared Bear Stearns High-Grade Structured Credit Strategies Fund, which the bank has rescued with a $1.6bn loan, is being offered at about 70 cents on the dollar. The fund is only attracting bidders at about 30 cents, according to people who use the system."

Who are these "people who use the system"? We have conducted several interviews of fund managers. 70 percent? 30 percent? No. There are no bids. None. As of yet, there is no price.

WDCRob
07-17-07, 05:31 PM
"The assets in Bear's more levered fund, the High-Grade Structured Credit Strategies Enhanced Leverage Fund, are worth virtually nothing, according to people familiar with the matter. The assets in the other larger, less-levered fund are worth roughly 9% of the value since the end of April, these people said. The April valuations weren't immediately available but in March, before their sharp losses, the enhanced leverage fund had $638 million in investor money, while the other fund had $925 million.

The two funds have been in the spotlight for weeks after suffering heavy losses in the subprime market. Late last month, Bear helped stabilize the less-levered fund with a $1.6 billion secured loan; the enhanced fund began trying to unwind its remaining $1.1 billion in debt. "

Jim Nickerson
07-17-07, 11:12 PM
Bear credit hedge funds almost wiped out: sources
Leveraged fund worth nothing; larger fund reportedly loses 91% of its value
By Alistair Barr (http://www.marketwatch.com/news/mailto.asp?x=65+66+97+114+114&y=Alistair+Barr&z=marketwatch.com&guid=%7B4465b0d7-f76f-4735-be8a-fc6038afa93c%7D&siteid=yahoomy), MarketWatch
Last Update: 7:13 PM ET Jul 17, 2007 http://www.marketwatch.com/news/story/bear-credit-hedge-funds-almost/story.aspx?guid={4465B0D7-F76F-4735-BE8A-FC6038AFA93C}&siteid=yahoomy


One cent bid
The reported 91% loss suffered by Bear's larger High-Grade Structured Credit Fund may be bigger than some investors were expecting, judging by recent activity on Hedgebay, a secondary market for hedge fund stakes.

A few weeks ago, activity on the Hedgebay market suggested investors were willing to sell their stakes in the High-Grade Structured Credit Fund for roughly 50 cents on the dollar, according to a person familiar with the market.

That dropped to 20 cents on the dollar more recently.

Late Tuesday, one investor was bidding one cent on the dollar to exit their position in the High-Grade Structured Credit Fund, the person said.


Does anyone think such as this is already discounted by the markets?

Finster
07-18-07, 09:41 AM
Who are these "people who use the system"? We have conducted several interviews of fund managers. 70 percent? 30 percent? No. There are no bids. None. As of yet, there is no price.

Once again, we heard it here first. Bear Stearns has apparently fessed up:

Bear Stearns Tells Fund Investors `No Value Left' (http://www.bloomberg.com/apps/news?pid=newsarchive&sid=ajzRNcPOZAdI)