Tuesday, December 30, 2008

A Heating Oil Retailer Comments on Retail Pricing Programs

On NPR's Marketplace, Peter Bourne of Bourne's Energy in Morrisville, Vermont comments on market volatility and customer programs. Hear it here, or read it here.

An excerpt of the conversation follows:
Ryssdal: Did you learn anything this past six months with this wild swing in oil prices that you're going to use this coming summer and fall as you start pricing things?
Bourne: Every year, Kai, it's a different game. It really is never the same. What I did last year is not what I can do this year. But the one thing is, with the markets what they are, and recognize the volatility and try to make sure we don't have customers in positions that are going to be as adverse as some of the ones that locked into a fixed pre-buy this year. That was . . . they're really feeling abused. I understand that. We're feeling abused, but we're buying that oil at a price that's just ridiculous in relation to today's market.
Do you feel similarly to Mr. Bourne? What programs are you prepared to offer to help your customers next year?

The Wizards of Oil (Wall Street Journal)

Vladamir Putin, Mahmoud Ahmadinejad, and Hugo Chavez are powerful world leaders. But they sit on top of economies fueled by petrodollars. If there is one thing positive that may come from this "Great Disruption" it is that the economies of Russia, Iran, and Venezuela are suffering significant budgetary shortfalls - and these world leaders now have problems to tend to with their constituencies.

A great Wall Street Journal op-ed piece is here.

2009 Chinese Growth Prospects

Forecasts for Chinese Growth in 2009. The bullish and bearish cases are available here in this CNBC video.

Monday, December 29, 2008

Sunday, December 28, 2008

The Mainstream Media: Responsibility and Buggy Whips

In an editorial in the WSJ today, Paul Mulshine of the Newark Star-Ledger pines that the era of the newspaper is ending. I agree that it is ending, and feel sorry for folks like Mr. Mulshine - experts in journalism that are experiencing tectonic shifts in the structure of the business model that has provided their livelihood for so many years. But newspapers and buggy whips share one critical similarity. In many cases, they no longer provide a valuable service to the market.

As an example, how many times have you read or heard the mainstream media comment that the current economic crisis is the "worst since the great depression"? Too many to count, most likely. In truth, many economists compare the current recession to the one in the 1960's. By many metrics, that is a more appropriate comparison. Where have I read the information I have used to frame my understanding of the subject? The blogosphere. There are several great economics blogs (written by economists) that choose to describe the problem uniquely, not in trite and overused terms that are chosen at best because the writers are underqualified, and at worst because the paper is looking for a sensational headline in order to sell copies. Blogs are great resources to further democratize the flow of information. Gutenberg had the printing press, and Barry Ritholtz and Greg Mankiw have Blogger.

The folks in mainstream media are forced to meet deadlines and write about a breadth of topics. In many cases, these demands water down their coverage. For many years, the irresponsibility with which my local paper, the Kansas City Star, has reported business earnings has greatly frustrated me. The business page picks up the headline of the quarterly press release announcing earnings and makes a one paragraph story. For companies whose revenue is greatly impacted by commodity cost - like Farmland Industries back in its heyday - top-line revenue growth is immaterial. Yet the KC Star consistently reported about sales growth - not profitability.

In the end, folks will gravitate toward the source for news that they can understand, and which they trust as a resource for responsible information. Years ago, it was possible for journalists like William Randolph Hurst to hold sway over the way a subject was reported. No longer. Because one no longer requires a printing press to memorialize the story, and it no longer requires space on the newsstand shelf to have nationwide clout.

Now all one needs is a command of the subject matter, an articulate nature, and an iPhone.

Foreshadowing The Obama Stimulus

Larry Summers, the Harvard Economist that is heading up Obama's National Economic Council, wrote an op-ed piece in today's Washington Post. It is worth your time, as it probably was a strategic "leak" to the media regarding the proposal that will be headed to Congress in about 30 days.

A few highlights:
1) Similar to Warren Buffett's refrain regarding Paulson's TARP that "It is better to be mostly right than completely wrong," Mr. Summers states "In this crisis, doing too little poses a greater threat than doing too much."

2) As businesspeople, we understand that operating expenses are things to be controlled with fervor. For sure, some OPEX is necessary. Certainly, UPS can't deliver packages without fuel for their delivery planes and trucks. However, frivolous expenditures don't add value to the bottom line, and they represent a place where profits leak out of the income statement. Summers indirectly states that a "stimulus check" alternative would lead to this type of frivolous spending. When "Joe Sixpack" gets his $1000 stimulus and squanders it on consumer discretionary goods like hockey tickets and beer, he probably has had a good time, and he certainly injected his stimulus check back into the economy, but this expenditure represents unnecessary OPEX on the combined income statement of the United States. Likewise, folks in California using their homes as ATM's to purchase new BMW's or renovate their outdoor living spaces with custom stonework hearths also represents this type of spending.

However, we as businesspeople can also recognize the power of spending on a capital asset when that asset can provide a rate of return that is acceptable. For example, purchasing a new delivery truck that costs $80,000 but yields $20,000 of annual cash flow is a very appropriate employment of funds (a 4x multiple of cash flow or roughly a 25% annual return).
Summers attempts to compare the stimulus that Obama will propose to this type of spending. Spending to create jobs and grow the economy. Spending to ensure that the 50 years post 2008 are as prosperous as the 50 years leading up to 2008. The American dream only works in an economy with a growing GDP.

3) Summers also "slips" by mentioning Obama's tax cut plan. (Tax Cuts! That is quite a reversal from President Elect Obama's position during the campaign.)

Cross your fingers that the aptly named American Recovery and Reinvestment Plan can create inertia for entrepreneurship and begin to shift our domestic economy away from consumer discretionary spending.

Thursday, December 25, 2008

In Hoc Anno Domini

This Editorial Has Been Published Every Christmas Since 1934 in the Wall Street Journal.

Oil is a Screaming Buy

According to this analyst. Here is some Oil Price Holiday Reading.

Tuesday, December 23, 2008

Handpicked Articles Sidebar

My handpicked articles sidebar has expanded from 5 items to 10 items. I hope you find at least a few of them worthwhile each day. I sort through a lot of stuff to populate that bar, and try to add material that is well-written, prescient, and unique.

Drop me a line if there are particular article types you would like to see removed, or article types of which you would would like to see more.

As a time waster for this Christmas Eve, you might enjoy this link to a very funny site that I found in a snarky, zeitgeisty corner of the Internet.

Merry Christmas.

Bill

Monday, December 22, 2008

Selling Chryslers in Kansas

There are many indicators of overall economic health. On could look at the A2P2 Spread, LIBOR rates, 3-month treasuries, or the VIX. But there might be a better one, right here under my nose.

I live in Kansas City, a place Dennis Gartman says is a fantastic indicator of the health of the overall economy. We have a balanced economy here, some technology, some agriculture, some transportation, some energy. And Gartman says that he loves to ride with Kansas City cabbies because they will tell him (based on how busy they are) which direction the domestic economy is headed.

Maybe there is another indicator - a Chrysler flagged dealership going long 50 new Chrysler units. Yep, they are upbeat in Kansas (except when referring to the Chiefs).

Saturday, December 20, 2008

Bernie Madoff Expose

A detailed NY Times article on the rise and fall of Bernie Madoff.

Radical Debt Restructuring and a Jubilee

I love weekends. Brew some coffee, find a quiet place, and read something compelling. Here is one of the best op-ed pieces I have found since the crisis began, calling for a radical plan of household debt forgiveness - similar to the jubilee time of biblical antiquity. The author? Niall Ferguson. His resume? Harvard/Oxford/Stanford. I quote the following (Bold emphasis is mine):
Added together, the loans, investments and guarantees made by the Fed and the Treasury in the past year total about $7,800bn, compared with a pre-crisis federal debt of about $10,000bn. The Treasury may have to issue as much as $2,200bn in new debt in the coming year...

Is it really plausible that the cure for excessive leverage in the private sector is excessive leverage in the public sector? Might there not be a simpler way forward? When economists talk about “deleveraging” they usually have in mind a rather slow process whereby companies and households increase their savings in order to pay off debt. But the paradox of thrift means that a concerted effort along these lines will drive an economy such as that of the US deeper into recession, raising debt-to-income ratios.

The alternative must surely be a more radical reduction of debt. Historically, such reductions have been done in one of four ways: outright default, restructuring (for instance, bankruptcy), inflation or conversion. At the moment, more and more American households are choosing the first as a way of dealing with the problem of negative equity, while more and more companies are being driven towards bankruptcy. But mass foreclosures and bankruptcies are not a pretty prospect.

That leaves conversion, whereby, for example, all existing mortgage debts could be wholly or partly converted into long-term, low and fixed-interest loans, as recently suggested by Harvard’s Martin Feldstein. (In his scheme, the government would offer any homeowner with a mortgage the option to replace 20 per cent of the mortgage with a low-interest loan from the government, subject to a maximum of $80,000. The annual interest rate could be as low as 2 per cent and the loan would be amortised over 30 years.)

Thursday, December 18, 2008

Energy Policy in China and the United States

China has been aggressively structuring deals to secure crude supply directly with OPEC member states and non- OPEC producers. Here are a few examples of deals that have been struck recently: In January, a $2 billion Kazakh oil field. Recently offering a $10 billion loan to Brazil to aid exploration. And, finally, working with Angola to cooperatively build infrastructure. Similar to ABC's 1980's sports tag line -China is "Scouring the Globe to bring you a wide variety of" energy. Additionally, China is raising its fuel tax.

Based on the above information and other similar stories, it is clear that China is aggressively taking steps to compete in a hydrocarbon economy. Is the US? The nation's first Energy Secretary, James Schlesinger, has been quoted as saying: "The United States is capable of only two approaches to its energy policy, 'complacency or crisis." One might note how the sudden drop in pump price makes folks much more willing to buy SUV's and pickup trucks.

Greg Mankiw is a Harvard professor of economics, and was appointed by President Bush to be the the chairman of the Council of Economic Advisers. Professor Mankiw recommends a significant hike to the gas tax - and has written in the Wall Street Journal and the New York Times about this approach. He calls for a significant increase (a dollar or more per gallon), phased in over 10 years. Folks that agree with him are called members of the Pigou Club. There are many respected folks that count themselves in this club - liberals and conservatives alike.

Allow me to articulate the reasoning behind my decision to formally join this club.

1) A gasoline tax is much easier to monitor than CAFE standards or a cap-and-trade carbon system. If we must regulate carbon emissions, this seems to be the "small government" way to do so.

2) A increase in gas tax, coupled with a decrease in personal income tax, effectively becomes a consumption tax. I like consumption taxes - especially in this case - because they directly impact consumption. When we inhibit consumption, we depress prices - and decrease the amount we are sending to OPEC member nations. Allow me to write this again differently - we can pay ourselves through a tax, or we can pay OPEC through increased commodity costs. Repatriating these funds seems to me to be fundamentally sound for our economy. Let's keep our hydrocarbon dollars here.

3) The market has fallen so far, so fast, we could implement a big gas tax - all at once - without feeling drastic reprocussions. After all, only two months ago the US had retail gasoline prices higher than those that would be the result of such a tax.

I do not like or support the concept of big government. But I do support a domestic energy plan that moderates the two extremes of 'complacency and crisis.'

Tuesday, December 16, 2008

A Shock to Suppliers

Crude is difficult to find and expensive to produce. Modern deep water infrastructure (platforms and gathering systems) cost billions of dollars. So the downturn has been vicious for those companies with projects on the table. Here is a good NY Times article on the subject.
"So much surplus oil is sloshing around the world right now that some companies, including Shell, are using oil tankers for storage."


Sunday, December 14, 2008

“About 2008: Sorry,”

The Economist publishes a predictions issue each year. In retrospect, their 2008 predictions were not accurate at all. In fact, the editors of the 2009 prediction issue (on racks now) felt it would be appropriate to admit this inaccuracy in their new issue. The quote: "About 2008: Sorry."

Here is one thing that they were directionally correct on (just missing on an order of magnitude, really):
“There will be a mad rush back to traditional banking.”
Considering insurance companies, investment banks, and the Detroit three have all applied for bank holding company status, I can't think of a more perfect example of a "mad rush" since the Cabbage Patch doll was the hot Christmas toy.

Oil at $10?

One analyst thinks so...and explains why in this CNBC video.

UAW Contract with Ford


The picture speaks for itself.

Saturday, December 13, 2008

Tuesday, December 9, 2008

A Smoking Gun at Freddie Mac

Check out this scanned email memo from a worker bee at Freddie Mac.

All this time, I have been hoping that the GSE's were dumb - not dishonest or greedy. My hopes were misplaced.

Monday, December 8, 2008


I took this image off of Greg Mankiw's website. (Click on it to zoom.) It is the cumulative returns by year of the S&P since 1828. 2008 is the block on the far left. The worst return on record.

Can't wait till 2009!

Sunday, December 7, 2008

Wave Power

There are prototype experiments going on right now in India. The devices are called Anacondas. you can read the entire article here.

Anaconda tubes are closed systems filled with water placed 40 to 100 meters below the surface of the ocean. The tubes — estimated at 200 meters long and 7 meters in diameter in their production form — are oriented so waves hit the end of the tubes, generating bulge waves that travel along the tube at the same speed as the waves that originated them.

The external wave squeezes the flexible tube, causing the internal bulge wave to grow bigger. The bulge wave eventually hits a turbine at the very end of the tube, generating electricity that is fed to a power system via a cable.

60 Minutes visits Saudi Arabia

In 1974:


And in 2008:

Watch CBS Videos Online

Saturday, December 6, 2008

China to Begin Retail Fuel Tax

Small Burb in Chinese Media:

China is likely to start levying a retail fuel tax from January, said a high-level official with the National Development and Reform Commission (NDRC).

The official also said the scheme prepared by the Commission has already been approved by the State Council.

"I personally think January is a good time to introduce the fuel tax," said Zhang Xiaoqiang, deputy director, NDRC, at a Sino-US Strategic Economic Dialogue meeting in Beijing.

Expectations are that the fuel tax and retail oil pricing reforms would form part of the same package. "If domestic oil prices are linked to global prices, then the government may stop the subsidies to big oil companies," he said.

Friday, December 5, 2008

BCS Computers Determine Winner of World War II

US Ranked 4th 

After determining the Big-12 championship game participants, the BCS computers were put to work on other major contests and today the BCS declared Germany to be the winner of World War II. 

"Germany put together an incredible number of victories beginning with the annexation of Austria and the Sudetenland and continuing on into conference play with defeats of Poland, France, Norway, Sweden, Denmark, Belgium and the Netherlands. Their only losses came against the US and Russia; however considering their entire body of work--including an incredibly tough Strength of Schedule--our computers deemed them worthy of the #1 ranking." 

Questioned about the #4 ranking of the United States the BCS commissioner stated "The US only had two major victories--Japan and Germany. The computer models, unlike humans, aren't influenced by head-to-head contests--they consider each contest to be only a single, equally-weighted event." 

German Chancellor Adolph Hitler said "Yes, we lost to the US; but we defeated #2 ranked France in only 6 weeks." Herr Hitler has been criticized for seeking dramatic victories to earn 'style points' to enhance Germany's rankings. Hitler protested "Our contest with Poland was in doubt until the final day and the conditions in Norway were incredibly challenging and demanded the application of additional forces." 

The French ranking has also come under scrutiny. The BCS commented " France had a single loss against Germany and following a preseason #1 ranking they only fell to #2." 

Japan was ranked #3 with victories including Manchuria, Borneo and the Philippines.

Tuesday, December 2, 2008

Crude Settles Down $100/bbl from July High (The Saga of Kurt Warner - Part II)

Today crude oil price finally eclipsed a level that I had been marking time for it to move through. On it's close today, it is now down over $100 since settling at $147.25 in July. The ferocious, unmerciful bear! Crude's fair value was doubted on the way up past $85/bbl- folks said "no way it should be this high." It was further discounted in its fall from the stratosphere to current price levels.

It made want to think of other examples of things or people that had unexpected success - or way overshot what onlookers deemed to be their potential - and then suddenly reverted back to the mean. Take a look at Kurt Warner's Bio:

Kurt Warner's baseline:
  • Attended College at the University of Northern Iowa
  • Graduated in 1994
  • Undrafted
  • Worked at an Iowa area HyVee grocery store for a year (until)
  • 1995 - when he got the call to quarterback the Iowa Barnstormers
Kurt Warner's Unexpected Success:
  • QB'd the Barnstormers for 2 years
  • Plays Backup on an atrocious St. Louis Rams team for 2 years
  • In 1999, Trent Green (the starting Rams QB) blows out his knee in the preseason, and Warner takes over
  • Has one of the most prolific seasons in the history of the NFL, including 4,353 passing yards, 41 passing touchdowns, NFL MVP, Super Bowl Champion and Super Bowl MVP
Kurt Warner's Mean Reversion:
  • In 2002, Warner broke the pinkie of his throwing hand
  • Through 2006, a series of injuries significantly limited his playing time
  • Over this stretch, Warner became a turnover machine - if he didn't fumble, he was likely to throw an interception
  • Warner had 4 more interceptions than TD's in that 4-year stretch
Warner has really turned it around in 2008 - maybe crude will too (again). And you might think that this is a weak example when related to the recent crude oil volatility. Can you think of any better worst-to-first metaphors? Post them, and let me know.

4 + 1 Market Overview

Featuring 4 things that matter a bunch to energy market prices, and one thing that should matter but is generally being missed by the market.

1) The Economy: It is official, the NBER called the recession yesterday - and post-dated it to December of 2007. The government has committed $7.8 trillion to prop up the economy - and the patient is still red-lining on the operating table. Without signs of life from the economy, it will be hard for energy prices to break the bearish trend of the last 5 months. Indeed, even China is having problems.
Currently, The Economy is bearish for energy prices.

2) Inflation/Deflation:
For years, we have been worried that low interest rates might cause inflation - that is, too much aggregate demand for a finite pool of resources which causes prices for goods and services to move higher. Currently, many observers are claiming the domestic economy is going through a deflationary period. Greg Mankiw discusses this economic phenomenon - the reduction in aggregate demand - in the NY Times. Commodities are bearing the brunt of the this deflation, with crude price decreasing $98 in the last 5 months.

However, with Ben Bernake's Fed trying to stimulate our economy with injections of cash, and inflation is an accepted side-effect. The question is: How far will prices need to fall before Bernake's policies begin to prop up the economy?
Deflationary pressure is bearish short-term for energy prices. Inflationary pressure is bullish intermediate-term for energy prices.

3) The Price of Crude:

OPEC member nations are going into budget shock - they had never anticipated that price could fall THIS FAR, THIS FAST. They will be forced to cut production at some point to gain control of the situation. Further, many of the tar sand projects at Fort MacMurray have been idled, as crude price has sunk below the marginal cost of production.
This is bullish (long term) for energy prices.

4) Inventory Balances:

The EIA reports that crude and unleaded product balances have been building for 10 weeks straight and that the inventories now sit on the high side of the 5 year average. Consumption has taken a significant hit - even in the face of lower prices.
This is bearish for energy prices.

And the one thing no one seems to be noticing:

+1) Future Growth

The world is still growing its population at an almost geometric rate, and the economies of China and India continue to develop. Certainly, the last 6 months have altered original near-term demand projections...but that does not change the fact that in the longer-term outlook, our world economy is still addicted to oil. And no one seems to be noticing!!!

Monday, December 1, 2008

Models Don't Kill Banks, Bankers Kill Banks

A post on quantitative risk analysis and its role in the current crisis at The Big Money:
Wild-eyed number crunchers, the theory goes, have unleashed monsters that they are unable to control. Buffett himself has branded derivatives as "financial weapons of mass destruction." George Soros—cited with equal frequency in the emerging genre of crisis-lit—has added that he has long avoided the use of derivatives on the grounds that "we don't really understand how they work."

Well, with all due respect to the billionaire financial geniuses of the world, I just don't buy it. Modern financial models are highly imperfect, to be sure, and we the modelers are insufferably arrogant. But models don't kill banks; bankers kill banks. We geeks may grunt a lot (we want the world to know how laborious our calculations are), but the truth is that our models aren't that hard to build, and they aren't that hard to take apart. When bankers and their advisers fail to question the premises of these models, it's usually because they find those premises quite congenial. The models merely provide an excuse to exercise a faculty for which human beings have always shown a special talent, namely, wishful thinking. What's worse, they also provide the financial community with a rhetorical device for persuading government officials that banks are, by virtue of their purported technical expertise, capable of achieving that audaciously oxymoronic state of being known as "self-regulation."

Thursday, November 27, 2008

China's Problem was Made in China - Not Imported

I am a sucker for a really good China story (I like the General Tao's chicken at Panda Express, too). There is a good piece on China HERE. The chicken, unfortunately, I cannot help you with.

Happy Thanksgiving.

Tuesday, November 25, 2008

Why Volatility is Here to Stay

The world is a dangerous place these days. Market participants in the stock market, the energy markets, or in agricultural commodities have seen it all - from all time high prices to crashes – in the last year. And inter- and intra-day volatility is increasing – as I mentioned in my previous post, The Vomit Comet.

Volatility makes life difficult to manage. It materially impacts the bottom lines and business plans of households and executive suites alike. I previously quoted Charles Dow in this blog by writing, “The one thing pertaining to all markets is that they will change.” I am going to break that rule in this posting, and put forward an argument as to why volatility is here to stay.

With world supply and world demand in relative equilibrium in the short run, the variables that most drive price are future demand and future supply of oil – since the world needs a lot of it and it is relatively difficult to know with certainty how much we have. (The International Energy Agency actually did a bottom up study of the productivity curves of major known fields in their World Energy Outlook. A summary of this analysis is available here.)

So assuming that the future supply/demand balance is the important metric for calculating oil price, allow me to stagger you with some really big numbers. Let’s talk population. In 1975, world population was estimated at 4.0 billion people. By 2010, world population is expected to be 6.8 billion. This staggering change is causing all sorts of problems for those economists who try to estimate consumption activity. The United Nations predicts there will be 8 billion people in the world by 2030. And the IEA says that in 2030 the world will use 125 million barrels of oil per day. Implicit in that consumption figure is a worldwide growth rate of about 1.8%. If the annual growth rate is inhibited by worldwide recession and instead is 1.6% over this timeframe, the estimate would be 3 million barrels off per day. If the industry builds infrastructure to meet the 125 million barrel forecast, prices will be depressed and bankruptcies will ensure as exploration and production companies will not be able to pay the debt service on their asset loans.

Let’s bring macroeconomics into perspective with an example almost everyone can get their hands around. My wife and I like hosting parties, and we have learned several lessons after hosing parties over the last few years. First, it always seems easier to have enough of everything when there are fewer guests. Second, it is difficult to predict how much of any particular party treat we will need. A few years ago, during the Atkins diet rage, we might have had leftovers from one bag of chips after a party of 30. But at that same party, we might have run out of mixed nuts. As our guest’s tastes have adjusted, we have had to adjust too – for fear of facing the wrath of party goers that have been inappropriately supplied with snacks.

The move from $147 to $48 in crude was based on the realization of decreasing worldwide consumption. And this major price shift affects production plans and capital projects throughout the world. The tremors associated a predicting future behaviors on a growing, crowded earth have just begun.

Merrill Lynch Economic Outlook Comments

On Deflation:
We are on the verge of entering the eye of the hurricane. The big story is that the savings rate appears to be rising from 1.3% now to over 3% by year-end, and is probably on its way to north of 5% by the end of 2009. How anyone can be talking about inflation as a “near-term” threat (please don’t talk to us about the long-run when we’ll be joining Keynes in the afterlife) at a time when the savings rate and the unemployment rate are going up in tandem? We can’t think of a more deflationary aggregate demand backdrop.
See the entire analysis here.

Saturday, November 22, 2008

Commodity Volatilty Impacts Farming

The old adage is that "Farmers Hold Out for More, but Settle For Less" when marketing their crop. Today the New York Times has a piece on the remarkable market volatility impacting wheat farmers. Here is a quote:
The Kinders still have about 40 percent of their wheat, stored on the farm and in commercial grain facilities. “Farmers are terrible marketers,” said Jimmy Wayne Kinder, 50. “We fall in love with our crop.”

It was the same misguided optimism that caused homeowners to think their houses would always keep increasing at a 20 percent annual clip. Farmers across the country fell prey to it.

David Kanable at the Oregon Farm Center, a mill near Madison, Wis., was paying $7.25 a bushel for corn in June. “We never had a farmer lock in at that price. They wanted $8,” Mr. Kanable said. On Thursday, the mill was paying $3.17 a bushel.

Friday, November 21, 2008

"It's Not a Tumor!"

Infectious Greed blog reports:

"while watching the Charlie Rose interview with the automotive industry's David Cole, something occurred to us: the United States has become the world's leading authority on creating inoperable, metastasized industrial tumors. Not only this, but the creation of, maintenance of and discussion surrounding these tumors has become so integrated in the economic fabric and incentives system of the United States, that it doesn't even occur to participants that their behavior is part of a highly developed, multi-generationally optimized, metastasized tumor growth system."

Wow...I never thought of it that way. (But he's got a point.)
Sent from my Verizon Wireless BlackBerry

Thursday, November 20, 2008

Jim Cramer on the MLP Asset Class

What you really need to worry about are dangerous members of a third kind of MLP: the gathering and processing MLPs that are unsafe. In general these companies collect the natural gas that comes out of a well, dehydrate it, treat it, make it worthy of long-distance pipeline transmission, and sometimes convert it into natural gas liquids, which are the feedstocks like ethane used in chemical plants.

A company like Kinder Morgan Energy Partners has a safe business because it just gets paid for pretty much running a toll road-for the volume of gas that goes through its pipes. Not so for these other, more dangerous MLPs.
Cramer's targeted sells are Duke's MLP and Williams' MLP. Personally, I think he is crazy and wrong. Fractionation is fee based - similar to pipeline ownership.

Decide for yourself. See his full "Sell Block" column here.

Christmas Comes Early



Other glorious headlines from Accuweather tonight are:
  • Cold Is King
  • Let's Talk About Snow
  • The Lakes Are Angry
  • Another Whopper of a Storm
Yes, Virginia - there is a Santa Claus and his name is Joe Bastardi!

Should We Bail Out Detroit?

Consider this article from Newsday:
The danger we face at this fork in the road is the conventional wisdom that associates more regulation with better regulation and more restrictive policies with less risk. History teaches us that the opposite is usually true and that the costs of getting it wrong can last for decades.

Bullish and Bearish Predictions - Win Some and Lose Some

The R-Squared Energy Blog has a great post about crude oil prices and the nature of predictions. The focus of the commentary is the extreme difference between the predictions of the Goldman analyst Arjun Murti (The BULL) and Deutsche Bank's Paul Sankey (The BEAR). The entire post and its links are worthwhile. This is a statement that struck me as precient.
There are some things to be said about predictions. If a person makes enough predictions, they are going to miss some - no matter how well they know their subject matter. On the other hand, when many people are making predictions, some will inevitably get it right for the wrong reasons.



Wednesday, November 19, 2008

Bond Family Schoolhouse Rock

See the video here, and then reminisce about Conjunction Junction.

I had to pull down the embedded video from the original post - it was about 1/2 inch too wide for my screen format.

Monday, November 17, 2008

A Heating Oil ETF for End Users

A post from Seeking Alpha talks about buying a heating oil ETF (UHN) as a proxy hedge for a prebuy:

In the summer, my local heating oil services let me "lock in" the price of heating oil if I want. At $4.25/gallon, I passed. But with oil down at $2.50/gallon, locking in the price is more attractive. Trouble is, my oil supplier ends its "lock-in" window in August.

With UHN, however, I have a chance. I'm guessing I'll spend about $1,625 this year on heating oil. Right now, UHN (which tracks the price of near-month heating oil contracts on the NYMEX) is trading for $28.20/share. So all I have to do to lock in my fuel costs is buy 58 shares of UHN, stick them in my brokerage account, and sell out in May.

Of course, it's not a perfect hedge. Local oil costs don't match perfectly with national costs, and the timing when I get oil deliveries will influence my expenses. But if oil goes back to $3.50/gallon or more, I'll make a tidy profit on UHN to counteract the rising costs of my heating bill. Is that worth a $20 round-trip on commissions? Maybe.

Daniel Yergin on Charlie Rose

National Gasoline Price Map

A fantastic graphic. Zoom out and you can see prices by state. Zoom in and you can find your county, city, or street.

OPEC November Oil Market Report

Highlights are as follows: Slowing Demand, Strengthening Dollar, Volatility Increasing in all Markets, Synchronized Recessionary Phase brutally effecting all global economies

Listen to all four minutes here.

Statistics are for Losers

Allow this post to be a little from the commodity/economy talk.

Check out Urban Meyer's take on Statistics in Football.
They say statistics are for losers, but losers are usually the ones thinking that," Meyer said. "Statistics are great. Our whole game plan is based off statistics. Our management of the game is based off statistics. Our recruiting is based off statistics. Everything we do is analyzed.

Consumer Concern with Price Programs

Delaware Online has this article, about buyer's remorse in volatile times.
[Monica Harvey] agreed to a price-cap contract with Burns & McBride this summer after reading stories that projected prices would only go up.

The program, common among oil dealers, has customers pay a fee equal to 50 cents a gallon for however much they want to reserve at a price cap of $5.60 a gallon. The price couldn't go up, and if it came down they would pay the market price -- now $2.89 a gallon.

Harvey now gets the $2.89 price, but she's out the $150 she put up to "protect" 300 gallons.

"They made it seem like, seriously, do or die, you'll be out in the cold," she said. "Let's have some common decency here and return this money."

That's not possible for the 4,000 or 5,000 customers who took advantage of the offer, said Tom McBride, the president of the company that serves Delaware, Maryland and New Jersey.

McBride said his company used the upfront fee cash to buy options and hedges to keep prices reasonable in the event they exceed the cap. His company doesn't make any more money on the deal, no matter how high or low prices go, he said.

The frustrating thing about this article is the quotation marks around word "protect." Ms. Harvey spent 50 cents a gallon to receive a benefit (through reduced oil costs) of OVER $2.00/gallon! That she has the lack of understanding is understandable - our customers are uneducated when it comes to the "insurance premium" type nature of program enrollment fees.

However, I think it is incumbent upon a responsible journalist to report that Ms. Harvey received a four-fold return on her invested enrollment fee. Not a bad deal in these markets.


Thursday, November 13, 2008

The End of Wall Street

One of my clients told me to read Liar's Poker. So I did. And now, I recommend it to everyone I can - as a great insight into the world of Wall Street Investment Banks during the heyday of junk bonds.

Later, the author (Michael Lewis), wrote Money Ball (about the Oakland A's GM Billy Beane). Now, he has penned an article called The End of Wall Street. It is excellent. You can find it here.

Chinese Construction Not Adding to GDP???

A significant amount of this blog has been spent investigating China. That is because Chinese consumption was the most significant driver to the 5-year bull market (and the most bullish component to the bullish IEA World Energy Outlook that was released yesterday). For example, before the Olympics, it was said that the Chinese government was hording heating oil (and thereby contributing significantly to the price rally of over $1.00/gallon). There have been news reports of how China is bringing 1 coal-fired power plant online each day for 8 months. All bullish considerations for commodities...all demonstrations of the emerging power of the Chinese Dragon. Now consider these comments from James Chanos, a hedge fund manager, which can be found in video form on CNBC -

"I don't think things are that stable. I think it's worse, and I think it's going to get worse. Depending on your estimate, 35 to 50 percent of China's GDP is construction, and that's a very important thing to remember, and if we are still building things that we don't need in China, like factories, are you really adding wealth to the country? Like any capital project has a rate of return associated with it, and in China, I'm afraid, a lot of projects, as well as in south Asia and the Middle East, do not have economic returns associated with them, yet, during their construction, they contribute to growth.

"Remember our telecom boom, when people were building out things, left, right and center? Then the building stopped. It was the Wile E. Coyote moment. All of a sudden, we looked down, and there was no there there."

I saw Field of Dreams....I thought the mantra was "If you build it, they will come"?

The Grizzly Bear Market

At Seeking Alpha, it is reported that the current bear market is the biggest the market has ever seen on a percentage basis. And it only took 51 days.

Monday, November 10, 2008

Timeless Wisdom from Another Time

"There is always a disposition in people’s minds to think the existing conditions will be permanent. When the market is down and dull, it is hard to make people believe that this is the prelude to a period of activity and advance. When prices are up and the country is prosperous, it is always said that while preceding booms have not lasted, there are circumstances connected with this one, which make it unlike its predecessors and give assurance of permanency. The one fact pertaining to all conditions is that they will change."
Those are the words of Charles Dow, from 1902. The emphasis (as always) is mine. Consider the tech bubble, energy prices, or this equities bear market. Aren't there more trend followers than folks that say "this lunacy will end at some point?"
"Be fearful when others are greedy and greedy when others are fearful."
- Warren Buffett (approximate quotation - 2008)

Propane Inventory Concerns

From This Week In Petroleum:
Propane Inventories Post October Draw
Total propane inventories reported an atypical 0.5 million-barrel stock draw during October, the first since 2002, despite nearly normal temperatures during the month. In comparison, the most recent 5- year period showed inventories gaining an average of nearly 1.9 million barrels. The final week of October saw inventories remain relatively flat at an estimated 60.4 million barrels.
Inventories are nowhere near where they typically are (and arguably where they need to be), but the chem consumption rate is abysmal, too. Right now, propane to crude values are at ~50%. This is because when the chems aren't running at a high percent of capacity, there just aren't enough buyers of NGL's - we run a surplus of NGL's in the country. But the forward curve of prices has the propane to crude spread in the 50% range well into the future.

If one assumes that the economic downturn that we are experiencing will be handled by the loose monetary policies of the US central bank and the central banks of the civilized world, then chem operating rates will rebound at some point in the next year, and that percentage of propane to crude will improve.

What does that mean for the dealer? Well, often a low percentage value in the propane to crude relationship helps indicate (along with other factors) a potential buy-point in the marketplace. What retail price can you sell to your customers for Winter 2009? If you can take the current hub price, and your differential and your retail margin and make your customers happy - maybe this is a price that you should own for your business.

OPEC's opinion

Check out the Market Fundamentals Podcast that OPEC released last month.

OPEC's Market Fundamentals Podcast

The audio is 4:00 minutes long. It is 50% press release, 50% market overview, and it comes directly from the business office of OPEC - no intermediaries or folks to color the facts.

8 days to the November OPEC meeting...

Monday Reading Links

A few articles worth your time:

From NY Times:
Merrill's Downfall
Lax Risk Controls Led to aggressive CMO and CDS deals

China's Problems with Slowing Growth
And aggressively fixing the problem, with a stimulus package worth $586 billion

From the New Republic:
Meet Tim Geithner, He Might be Your New Treasury Secretary
The NY Fed Governor is young, aggressive, and qualified.

Wednesday, November 5, 2008

The Propane to Crude Spread Gone Really, Really Wrong

Atlas Pipeline Partners reports 3q08 earnings. Lookie here at one of the disclosures (bold emphasis mine):
The Partnership's financial results for the third quarter 2008 include a $71.5 million cash derivative expense resulting from the completion of the early termination of approximately 85% of its crude oil derivative contracts that it entered into as proxy hedges for the prices it receives for the ethane and propane portion of its NGL equity volume. The Partnership funded this transaction through its June 24, 2008 sale of 7,140,000 common units for aggregate net proceeds of approximately $262.1 million, including a capital contribution of approximately $5.4 million from its general partner to maintain its aggregate 2% general partner interest in the Partnership. These hedges...became less effective as a result of significant increases in the price of crude oil and less significant increases in the price of ethane and propane. The Partnership terminated these derivative contracts during June and July 2008 at an aggregate net cost of approximately $264.0 million. The Partnership's $71.5 million cash derivative expense recognized during the third quarter 2008 resulted from July 2008 net payments of $93.6 million to terminate the remaining portion of these derivative contracts. The attached hedge schedule reflects the current hedge position of the Partnership, adjusted for the crude oil derivative contracts that were terminated in June and July 2008. As a result of the termination of these hedge contracts, the Partnership's future cash flow should more accurately reflect the revenues generated from its ethane and propane volumes produced in its natural gas processing operations.
Translation: Propane and Ethane are hard to hedge (due to liquidity), and there's lots of data showing that these commodities trade in a relationship with crude. So Atlas did a little cross commodity hedging (sometimes called a "dirty" hedge). But the correlation broke down this year, and they incurred significant unexpected losses as the percentage of propane and ethane to crude got hammered in the extreme volatility.

Price correlations have been breaking down everywhere in the energy sector this year. (As I have written in previous blog posts, Nasim Taleb is not surprised.) More on the breakdown of price correlations in an upcoming post. Interestingly, had management not busted those trades when they did, the losses would have come close to doubling. My philosophy professor always told me: "correlation does not imply causation." Likewise, Warren Buffett cautions to "be wary of geeks bearing models."

Tuesday, November 4, 2008

Helicopter Ben and the Economic Stimulus

Here are some interesting money supply comments from the Fed Chief. Apparently, he has no reticence to move the fed funds rate to zero, and has more tricks up his sleeve after that. (This is from a speech given in 2002.)
"As I have mentioned, some observers have concluded that when the central bank's policy rate falls to zero--its practical minimum--monetary policy loses its ability to further stimulate aggregate demand and the economy. At a broad conceptual level, and in my view in practice as well, this conclusion is clearly mistaken."

"But the U.S. government has a technology, called a printing press (or, today, its electronic equivalent), that allows it to produce as many U.S. dollars as it wishes at essentially no cost."
And they can drop those dollars to folks using helicopters.

Sunday, November 2, 2008

Oil Megaprojects Get Sand in the Gearbox

This from RigZone:
Oil sands companies were the first to feel the pain of plunging oil prices and the credit crisis. Mining tar-like bitumen and shipping it to refineries costs more than extracting hydrocarbons from more conventional fields, bumping up the oil sands' price threshold. Analysts estimate some projects may need a long-term oil price of $100 a barrel or even higher to make a decent return.
The high upfront capital costs often lead to heavy reliance on the credit markets, especially for start-up firms with no independent cash flow. But this option has slammed shut amid the global liquidity crisis, and oil sands developers have already started rejiggering project plans as a result....

Five years ago, the capital cost of building a project that mined bitumen and processed it into high-quality crude was around C$40,000 per barrel of production, reckons Andrew Potter, a UBS Securities analyst. The same project today could cost C$180,000 per barrel, or around C$18 billion for a typical 100,000 barrel-a-day development....

"Companies indicated they were comfortable with costs around C$100,000 (per barrel of production) but when we started getting estimates of C$160,000 or C$180,000, then we heard a collective gasp," First Energy's Lacey said. "That's when investors put their foot down and said, 'Enough.'"
You know what they say...High prices cure high prices and low prices cure low prices.

Long-Term Weather Forecasts

Accuweather

Farmer's Almanac

NOAA

Price and Volatility Strain Dealers

The broader news media is starting to report about the challenges that price volatility has created for our industry:
Borrowed cash infuses nearly every step of the supply networks that bring heating oil from refiners to individual homeowners and businesses. For wholesale suppliers and door-to-door distributors, loans cover the weeks or months between when fuel is purchased and when it is sold to the next step on the chain.

Most companies managed to secure fresh loans to carry them into winter, despite the global credit crisis that has made it difficult for even solid businesses to borrow. But evidence is emerging that not every company succeeded.

"A lot are starting to bounce checks," said a trader at a wholesale heating oil supplier, who requested anonymity to protect the supplier's standing in the physical fuel market. "Credit lines are definitely strained."

Shift Happens



This is a presentation created by some Colorado high school teachers discussing the demographic and technological shifts the world is undergoing. If it doesn't surprise you at least once, email me and I will issue a written apology.

Friday, October 31, 2008

TGIN: (Thank Goodness it's November)

This via CNN:

"One of the most stomach-churning and fear-inducing months that stock investors have ever experienced comes to a close on [today].

As of Thursday's market close, the S&P 500 had plunged 18.2%, or 204.8 points, for the month.

That's the worst-ever monthly point decline for the S&P, and it's the eighth-worst percentage decline."

But let's look on the bright side. For one thing, the loose-money policies that were put in place this month by most every nation's central bank have kept the world's economy from imploding like a super nova. And, I caddied once for the Dali Lama and he told me "gunga, gunga, la gunga." So I got that going for me...which is nice.

Thursday, October 30, 2008

IEA Part Deux: Return of the Permabull

It has been about four months now since the last time the IEA (International Energy Agency) has made a bullish commotion. During the protracted move higher, it always seemed that T Boone, Goldman, and the IEA took turns stoking the bull market. Goldman has rolled already (as I have previously noted) and T Boone has backed off his bullish drumbeat.

But here is the IEA's latest take. They are back at it again, discussing decreasing supply (due to the depletion of existing oilfields) and increasing demand from the Far East (due to the modernization of the economies of China and India). The text below is from the Financial Times:

Without extra investment to raise production, the natural annual rate of output decline is 9.1 per cent, the International Energy Agency says in its annual report, the World Energy Outlook, a draft of which has been obtained by the Financial Times.

The findings suggest the world will struggle to produce enough oil to make up for steep declines in existing fields, such as those in the North Sea, Russia and Alaska, and meet long-term de-mand. The effort will become even more acute as prices fall and investment decisions are delayed.

The IEA, the oil watchdog, forecasts that China, India and other developing countries' demand will require investments of $360bn (£230bn) each year until 2030. The agency says even with investment, the annual rate of output decline is 6.4 per cent.

Monday, October 27, 2008

Sequoia Capital's Take on the Current Environment

Sequoia Capital is one of the most well respected venture capital firms in the world. They have been involved with hundreds of companies...you might recognize a few. Apple, Google, Cisco, Yahoo, and YouTube are some of the more significant brands they helped launch. This is a 56-page Powerpoint slide show they showed their venture CEO's two weeks ago. There are lessons in this slideshow for all business men and women - whether you own steel tanks or your business model is technology based.

There are graphs in this analysis I have not seen anywhere else, and a great portion of it is worth your time.

Thursday, October 23, 2008

Friday Fun

The recently released documentary King of Kong proves that real life is stranger than fiction.

See a clip here.

Do You Yahoo? Moody's Employees Did...

The folks at the ratings agencies are (in my mind) the culpable party behind this debacle. The investment banking community was just misled by blind overconfidence in a model. The ratings agencies that issued AAA ratings on bundles of crap securities are the group who really need a flashlight shone in their direction. And that is happening. Yesterday, the government began a public hearing regarding the ratings agencies role in the mess. A great post at the Financial Times' Alphaville blog shows how the hearings are must see TV (even more so than Mark Maguire and Raphael Palmeiro's perjury).

A conversation via instant messenger:

Thursday, April 05, 2007 3:58:42 pm EDT Shah, Rahul Dilip (Structured Finance - New York): btw that deal is ridiculous

Thursday, April 05, 2007 3:59:05 pm EDT Mooney, Shannon: i know right…model def does not capture half of the risk

Thursday, April 05, 2007 3:59:09 pm EDT Shah, Rahul Dilip (Structured Finance - New York): we should not be rating it

Thursday, April 05, 2007 3:59:17 pm EDT Mooney, Shannon: we rate every deal

Thursday, April 05, 2007 3:59:30 pm EDT Mooney, Shannon: it could be structured by cows and we would rate it

Thursday, April 05, 2007 3:59:54 pm EDT Shah, Rahul Dilip (Structured Finance - New York): but there’s a lot of risk associated with it - I personally don’t feel comfy signing off as a committee member

A presentation to the BOD of Moody's:

Ideally, competition would be primarily on the basis of ratings quality, with a second component of price and a third component of service. Unfortunately, of the three competitive factors, rating quality is proving the least powerful given the long tail in measuring performance. Were that the extent of the problem - that it is hard to measure quality and hence price and service are disproportionately weighted - it would pinch profitability, forcing rating agencies to spend more on service and take less in fees. But that is no different than for most other businesses and we can cope. The real problem is not that the market does underweights [sic] ratings quality but rather that, in some sectors, it actually penalises quality by awarding rating mandates based on the lowest credit enhancement needed for the highest rating. Unchecked, competition on this basis can place the entire financial system at risk....

Moody’s has struggled for years with this dilemma… For the most part, we hand the dilemma off to the team MDs to solve.



Tuesday, October 21, 2008

Reverse Oil Shock

Russia, Iran, and Venezuela are having trouble adjusting to cheap oil. This article is from today's NY Times.

“Now, the producers are experiencing a reverse oil shock,” Mr. Yergin said. “As revenue went up, government spending went up and expectations of a continuing windfall led to greater and greater ambitions. Now they are finding how integrated they are into this globalized world.”

Monday, October 20, 2008

A Conversation with Doctor Death

No, not Jack Kervorkian....Nouriel Roubini.

Beware, after listening to this guy I wanted to take several long cleansing breaths in an airtight garage (while my car was idling).

Charlie Rose's 50 minute interview with the economist currently experiencing his 5 minutes of fame is here.

The Foremost Expert on Monetary Policy

Is a 92 year old woman named Anna Schwartz. Here's another WSJ article worth reading, click thru here. Below are a few excerpts:

Most people now living have never seen a credit crunch like the one we are currently enduring. Ms. Schwartz, 92 years old, is one of the exceptions. She's not only old enough to remember the period from 1929 to 1933, she may know more about monetary history and banking than anyone alive. She co-authored, with Milton Friedman, "A Monetary History of the United States" (1963). It's the definitive account of how misguided monetary policy turned the stock-market crash of 1929 into the Great Depression.

Ms. Schwartz thinks that our central bankers and our Treasury Department are getting it wrong again....

To understand why, one first has to understand the nature of the current "credit market disturbance," as Ms. Schwartz delicately calls it. We now hear almost every day that banks will not lend to each other, or will do so only at punitive interest rates. Credit spreads -- the difference between what it costs the government to borrow and what private-sector borrowers must pay -- are at historic highs.

This is not due to a lack of money available to lend, Ms. Schwartz says, but to a lack of faith in the ability of borrowers to repay their debts. "The Fed," she argues, "has gone about as if the problem is a shortage of liquidity. That is not the basic problem. The basic problem for the markets is that [uncertainty] that the balance sheets of financial firms are credible."

So even though the Fed has flooded the credit markets with cash, spreads haven't budged because banks don't know who is still solvent and who is not. This uncertainty, says Ms. Schwartz, is "the basic problem in the credit market. Lending freezes up when lenders are uncertain that would-be borrowers have the resources to repay them. So to assume that the whole problem is inadequate liquidity bypasses the real issue."

How did we get into this mess in the first place? As in the 1920s, the current "disturbance" started with a "mania." But manias always have a cause. "If you investigate individually the manias that the market has so dubbed over the years, in every case, it was expansive monetary policy that generated the boom in an asset.

"The particular asset varied from one boom to another. But the basic underlying propagator was too-easy monetary policy and too-low interest rates that induced ordinary people to say, well, it's so cheap to acquire whatever is the object of desire in an asset boom, and go ahead and acquire that object. And then of course if monetary policy tightens, the boom collapses."


Performance Reviews Get Trashed

This Wall Street Journal Editorial crushes the modern concept of an annual performance review. It calls them one-sided and intimidating, and says they spend too much time dredging up past employee inadequacies. The alternative is a "performance preview" where the manager and employee have a conversation and discuss future expectations. The writer is a management professor at UCLA.

I have been in some performance reviews that left me flat (an anti-climax to a year of very hard work), and I have been in some performance reviews that left me angry or disappointed. I am pretty certain that I am not alone in these opinions, so I thought there might be other folks out there that would find it interesting.

Let me know if you do....

Thursday, October 16, 2008

Friday Fun

21 years ago, Wall Street was released. Does Michael Douglas's quote at the end of this clip blow your mind? Like, maybe we took Oliver Stone's advice and 20 years later found out he was wrong?

A Car in Every Chinese Garage

Time Magazine Online has a piece of perspective here (emphasis mine):
The last time global oil prices collapsed on such a scale — in the early 1980s — they stayed down for almost a decade and a half. That's unlikely to happen this time. Oil demand in countries like China and India may be slowing down right now, but it's not going away, and economic growth in those countries will, over time, again drive sharp price increases. Gasoline consumption in China is certain to soar over the next 10 years. This year alone up to 25,000 new cars have hit the streets in China every day. And a global financial crisis and economic slump won't change the fact that nothing denotes middle-class status in China as much as ownership of an automobile, which, for the foreseeable future, will be gas-powered.

Hedging Cuts Both Ways - Southwest Airlines

Jet Fuel Hedges Keep SWA In The Money from USA Today on 7/24, (when heating oil was over $4.00)

Southwest Posts Loss on Hedge Charge from NY Times 10/16, (after the biggest price retreat ever)

Southwest Airlines has been heralded for its hedging choices. It is important to remember that hedges can make you look both smart and dumb before they are done. However, they are put in place for a reason - to manage volatility or to lock in profitability.
"Throughout this decade, Southwest has been the airline industry’s most aggressive player in purchasing contracts to guarantee the price of fuel. It has contracts covering part of its fuel purchases through 2012, and has begun buying contracts for 2013.

The practice seemed particularly prescient earlier this year, when fuel prices nearly doubled compared with 2007.

In past quarters, Southwest has booked millions of dollars in gains because it paid far below market price for fuel.

At the end of the second quarter, those contracts, which stretch through 2010, were worth $6 billion. But at the end of the third quarter, the value of the contracts had dropped to about $2.5 billion."


Southwest just posted the first quarterly loss in their history.

Monday, October 13, 2008

The Goldman Roll

When I first got started trading, I was taught about the Goldman roll. Goldman Sachs had one of the first long-only index funds for commodities. It was invested in a basket of commodities - but always in the front month. The fund would have to roll positions from one month to the next as the front month contract was about to expire. So folks would position themselves to take advantage of the roll - where Goldman had to sell the front month and buy the next month out. If they did this in size it could affect the spread dramatically.

Now, years later, Goldman is just one of many index fund market participants. But over the past several years, they have become more and more famous for their oil forecasting. They are no better at it than any other firm. The new "Goldman Roll" was present today, as they "rolled over" and accelerated their shift from being bullish on energy to being bearish on energy. Let me demonstrate:

In this article from May, they revised their estimates upward to $141 from $107.

In this article from today, they lowered their price forecast from $115 to $70.

A few years ago, I worked for an economist. He was fantastic. And well respected. And after watching him, I ascertained the three great characteristics that every good economic forecaster must have:

1) They write, speak, and present well. (Much like the weatherman...if they are right but incompetent they do not get credit for their predictions, but if they are wrong and smooth they are able to divert the blame.)

2) Many choose to follow trends. (If they make predictions against the trend which do not come to pass, they get called out much more easily.)

3) They make bold predictions. (A conservative prediction is forgettable, a bold prediction is gutsy, and much more easy to explain away if proven wrong..."Chinese demand did not grow the way we expected" or "No one could have anticipated the global economic meltdown.")

The crazy thing about economic forecasts is that they can move commodity markets...and it is not illegal for those who issue forecasts to hold positions in the markets they cover. This fact was not lost on any of the well respected houses that issued price forecasts in the last two years.

Now, Goldman has "rolled" over on their price forecasts of the oil markets. And T. Boone has lost billions for his customers. But they were bold, they caught a trend, and they were consummately professional and believable in their forecast presentations.

They learned the three rules early, and used them for incredible gains over the last 24 months.

Saturday, October 11, 2008

Simple Overview of the Crisis

This is a post from Barry Ritholtz's blog, The Big Picture. It was short and high quality, so instead of linking to it, I just copied it in to this site.

From a speech back in 2004 comes this telling quote:
>

"One other thing I've done, is I've called on private sector mortgage banks and banks to be more aggressive about lending money to first-time home buyers. And the response has been really good. There's a lot of people in this -- our communities around the country that deeply care about the issue of homeownership, and they've been responsive."

- George W. Bush, U.S. President, March 26, 2004.

>

Its important to understand how this situation occurred in the first place, if we want to be able to fix it. Blaming the CRA and Fannie/Freddie is a total misunderstanding of how the problem occurred, and what we need to do to fix it now, and avoid doing it again in the future.

To repeat my prior arguments, the proximate cause of the Housing crisis were 1) Ultra-low rates; and 2) Abdication of traditional lending standards, thanks to 3) originators ability to resell mortgages for securitization purposes, and hence, 4) not have to worry about loan defaults.

The credit crisis was caused by 1) the above securitized mortgage paper, that was 2) rated triple AAA by Moody's and Standard & Poors, which then 3) Which was then "insured" by credit default swaps (CDS) -- the unreserved for, shadow insurance products 4) whose exemption was made possible by the Commodities Futures Modernization Act. That legislation exempted these derivatives from any supervision or regulation. The lack of reserve requirements is why there is now $62 trillion in CDS, many of which will never pay their counter parties the promised insurance.

If you are going to blame Fannie/Freddie/CRA, or George Bush or Barney Frank, you are missing the big picture.

Thursday, October 9, 2008

Two Multimedia Recommendations

Here are two worthwhile pieces:

One is a graphic from the Wall Street Journal about home prices, here.

The other is Charlie Rose's show from last night, including Princeton Economist Alan Blinder, here.

Friday Fun

Since no one has the stock market beat these days...how about Judge Smails' zen comments for inner peace?



Have a great weekend!

Wednesday, October 8, 2008

The 4 + 1 Market List

This is my second installment of the 4+1 Market List. It discusses the four things affecting the market, and one thing that doesn't matter at all. Things that matter:

1) The credit markets.
Until banks trust each other again, economic progress in this country will be halted. No development by business, no consumption by the retail sector. And until trust and confidence are restored throughout the world, oil will fall. This is bearish for energy prices.

2) Bank de-leveraging and hedge fund redemption.
Investment banks were leveraged 30 to 1 in some cases. Even commercial banks have deployed borrowed money into commodities in massive amounts. Now, as banks try to hold cash (cash is king), financial positions throughout the universe of available investments are being unwound. Until 6 weeks ago, money was pouring INTO hedge funds. Now, folks can't get their money out fast enough. Will the last one on wall Street please turn out the lights? This is bearish for energy prices.

3) Growth in China and India.
It was assumed even up to 6 weeks ago that China and India would continue on their torrid growth rate in oil demand. Now, it is common thinking that continuing that rate of growth is impossible. This is bearish for energy prices.

4) The value of the dollar
The fed keeps minting money. They will stop the market's hemorrhaging at some point, and everyone will take a deep breath when this crazy time is over. But the injection of that much money into the economy sets us up for significant inflation, and might devalue our currency with respect to other sovereign currencies worldwide. This is bullish for energy prices.

+1) The thing that doesn't matter?
Inventories. The domestic inventories are adequate, and the market is concerned about other stuff right now. There is a low likelihood that the market will make much fuss over the inventory report.

The Fed's Balance Sheet

Here is a good post from Econbrowser, detailing the Fed's balance sheet. Ben Bernake has promised billions and billions of dollars to the market, by securitizing assets and making derivatives markets more liquid. It seems that every day, the Fed makes a statement that it will help in a new area of the market. The post graphically demonstrates the magnitude of the commitments.

This is a pretty academic post, but I chose to put it here since the Fed seems to have run to the aid of the market on a daily basis lately.

Monday, October 6, 2008

Warren Buffett on Charlie Rose

This was a highlighted article on the sidebar last week, but I think it deserves a more prominent place than the sidebar.

Charlie Rose Interviews Warren Buffett

It is a candid interview with the Oracle, and I just got finished listening to it.

What I took from it:
1) "You should be fearful when others are greedy and greedy when others are fearful"
2) The treasury plan is really an attempt to create liquidity in a broken market, and if done correctly it may very well make the government a good deal of money.
3) Trust and Confidence are what is missing in the market right now - and those attributes are like "oxygen." You can live for 50 years without thinking about the oxygen you breathe to sustain your body. But the minute there is no oxygen....it is the only thing you think about. We must restore trust and confidence.
4) Once we do this, and spend some time patching the holes we made in the system over the last 12 months, everything will be fine in the economy.
5) But (big "but" here) the treasury plan is inflationary. Price inflation was the lesser of two evils...either we allow the credit markets to seize like a engine without oil....or we have a functioning credit market with some potentially nasty inflation.

I hope you enjoy it, it is 54 minutes, but it is worth a listen - especially in this volatile time.

Thursday, October 2, 2008

Friday Fun

There is no reason for this post, other than to have fun. (And they are racing in Talladega this Sunday...)



Have a good weekend.

The Perils of Prediction

In the television show Cheers, Frasier Crane was always trying to bring a little culture to the patrons of the bar. It made for some of the more comedic moments in the program. Once, Frasier read the introductory sentences to the Dickens classic A Tale of Two Cities to the aloud to his friends.
"It was the best of times, it was the worst of times, it was the age of wisdom, it was the age of foolishness, it was the epoch of belief, it was the epoch of incredulity, it was the season of Light, it was the season of Darkness, it was the spring of hope, it was the winter of despair, we had everything before us, we had nothing before us, we were all going direct to heaven, we were all going direct the other way - in short, the period was so far like the present period, that some of its noisiest authorities insisted on its being received, for good or for evil, in the superlative degree of comparison only."

After hearing this into, Cliff Clavin said "That Dickens guy really knew how to cover his butt."
And so it goes with predictions! In January, when crude was hovering around $100/bbl, the NY Times released an article on the difficulties that economists and traders have placing fair value on the price of crude. There were several comments in this article that struck me.

“Predicting oil prices continually demonstrates the perils of prophecy, because oil prices are the derivative of what happens in the global economy and global geopolitics,” said Daniel Yergin, chairman of Cambridge Energy Research Associates. Mr. Yergin said he could foresee oil prices surging as high as $150 in the next few years or falling as low as $40.

John Richels, president of the Devon Energy Corporation, an international oil and gas company based in Oklahoma City, said $150 a barrel was possible, but so was $55. “We have to make investments based on our outlook over a long period of time,” he said. “It is tough.”

The reason I remembered these comments is that the ranges were very wide, and that both analysts took the current price as the midpoint of their range. I began to ask folks that I worked with and folks that I talked to what kind of range of prices they expected for the upcoming year. Very few had a $100 dollar range from low to high, but almost all of them placed the then-current price in the middle of their low-to-high range. Interesting huh?

I guess the reason I choose to write a post on that article 10 months later is that here we are...having hit very close to $150 in the seven months since the original publication. And...with a very good chance to hit $50 oil in the next year, at least based upon the commentary of Nouriel Roubini.

Yergin and Richels both hedged themselves by estimating a wide range of prices. I bet neither of them ever thought that we might run through BOTH the top and bottom of their estimates in a twelve or eighteen month period.

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