December 15, 2008
The Gray Swan
In the theme of the Nassim Taleb dissection of risk systems in the world of finance, the black swan is something extraordinary rare but hugely negative (or positive) to our current strategy and a white swan is the normal mode of operation. It might follow then that the gray swan must be systemic failure of the normal, a platykurtic distribution (a distribution which is peeked and wide around the normal position) where white is not so white when viewed from an External Perspective.
We use an External Perspective to test a system, an anchor if you may that allows us to measure something against a standard not from the system otherwise it is biased to the system. The purpose of course is more than academic because it should allow us to understand if a system is positive or negative in a more celestial way. If you take that External Perspective on the current global markets, equity or fixed income; they are gray swans.
In the unknowingly failing perspective of the avid investor, it is possible in itself (the investors risk response) that the masses and enhanced globalization might have given rise to a new disorder, the mediocrity of the gray swan.
IT WAS ON THE HORIZON
A yield curve inversion often has one of the greatest impacts on fixed income investors as profit margins fall for companies that borrow cash at the short-term rates and lend at the long term rates. Normally long term investments have higher yields because investors are risking their money for longer periods of time. An inverted curve eliminates the risk premium and changes the dynamics of the investor reward system. It is a serious indication of a recession, has always been in the past and has proven to be this time round.
Aubie Baltin puts it this way
Fed Chairman Bernanke like Greenspan before him once again raised the conundrum of the divergence between short term and long term rates. At the end of Jan 07, the yield on the 10-year Treasury-Note stood at 4.4% still below the 4.6% rate in June of 2004
More on Aubi Baltin here and
You heard it here first
HAVE WE LEARNED ANYTHING IN INDUSTRY?
If current market practices, government announcements and general responses to the economy are anything to go by, more or less nothing.
Let`s take a look at the auto industry, save them or let them fry?
Argument for saving them is that millions of employees will be made redundant increasing the unemployment rate and deepening the recession as consumer spending will diminish. This is a one sided argument and to be honest throwing 15 billion, 20 billion or 30 billion at a liquidity problem will be simply that, a liquidity solution not a growth and structure solution. These companies clearly have massive liabilities with relatively little restructure potential as it stands, they aren`t particularly geared on this finance line and are demanding capital expenditure type funding for liquidity issues.
Humbled U.S. automakers pleaded with Congress Thursday for an expanded $34 billion rescue package making a trip from Detroit in new-model hybrid autos made by their respective companies, two weeks after a botched appeal for $25 billion in which they were chided for flying on private jets to beg for money.
- By KEN THOMAS, The Associated Press
Absolutely pathetic, just like class of sweaty pubescent children grabbing daddies legs for pocket money as he worries about what has happened to his banking sector.
If you save them you support the gray swan; keeping what market forces would eliminate, what needs to be liquidated and consolidated so that something fresh and new can take its place.
HAVE WE LEARNED ANYTHING IN THE MARKETS?
While the total amount of U.S. government debt outstanding rose to $10.7 trillion in November, the amount of interest paid in the last two months fell by $10 billion, according to the Treasury Department. Investors can`t get enough Treasuries. Demand continues to increase as investors flee risky assets around the world and put their cash into U.S. bonds paying, in some cases, nothing in yield just to ensure the return of their principal.
- By Matthew Benjamin, Bloomberg
The world has gone mad and while the auto industry doesn`t have to return a profit and still have a chance of survival most investors can`t afford to tie up free cash on non yield bearing investments. If time is money and for many who do bill their time it is, you are asking the investor to work for free. Oh gosh, can`t wait to have my hands on those T-Bills! Let me gaze out the window and contemplate the universe for a while, it is kind of more rewarding and I might be lucky enough to miss out on the deal. Yet these gray swans are lining up in droves just to ensure return of their principal no reward and that is totally lame. Question they should all be asking themselves is, what is the risk?, nothing; then what is the opportunity cost?
HAVE WE LEARNED ANYTHING IN REGULATION?
The current regulatory system consists of the following; a Board of Governor, Federal Open Market Committee, twelve federal reserve banks with nine member boards reporting to the US treasury, an Office of Comptroller of currency, Office of Shift Supervision, Securities Exchange Commission, Federal Deposit Insurance Corporation, Commodities Futures Trading Commission, National Credit Union Administration and a Financial Accounting Standards Board. The most normal response of course is to create new regulation and there have been plenty of rumours to this effect however in an environment which is already heavily regulated would an additional rule set resolve this problem in the future or are the current bunch of regulators redundant?
Perhaps the credit crisis is a cycle response to those that took too large a position. Nothing wrong in that, some overindulge. Do you save them and do you install sterile rules to prevent others in the future of choosing whether to go deep or not?
In reality it is another gray swan, top heavy, politically enabled wanting to please everyone and ensure the investor has a maximum return and NO risk, a place that fits well in ideology but not in reality.
The global financial crisis is perhaps a cyclical event (one to be expected) where those unprepared or overextended are rewarded as they should be; negatively. Saving them delays the inevitable and extends the pain. Saving them rewards them for their foolish oversights and adding stringent regulation or safety nets expunges additional funds which at zero percent and 10.7 trillion in the hole, are running on empty with a limited internal rate of return.
Posted by CausalEvents at 05:34 PM
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