Category: Economics & Business

So true

In the book that Pallop was reading by Kahneman and Tversky, for example, there is a description of a simple experiment, where a group of people were told to imagine that they had three hundred dollars. They were then given a choice between (a) receiving another hundred dollars or (b) tossing a coin, where if they won they got two hundred dollars and if they lost they got nothing. Most of us, it turns out, prefer (a) to (b). But then Kahneman and Tversky did a second experiment. They told people to imagine that they had five hundred dollars, and then asked them if they would rather (c) give up a hundred dollars or (d) toss a coin and pay two hundred dollars if they lost and nothing at all if they won. Most of us now prefer (d) to (c). What is interesting about those four choices is that, from a probabilistic standpoint, they are identical. They all yield an expected outcome of four hundred dollars. Nonetheless, we have strong preferences among them. Why? Because we’re more willing to gamble when it comes to losses, but are risk averse when it comes to our gains. That’s why we like small daily winnings in the stock market, even if that requires that we risk losing everything in a crash.

From a good 2002 article by Malcolm Gladwell profiling the investor Nassim Taleb.

What a world

Even when the financial news is good, it speaks to the pending doom of the civilized world. Case in point:

Chief Financial Offer Keith Sherin told analysts on a conference call that he film segment saw its profit rise 40%, led by the performance of “Mamma Mia,” a movie adaptation of the hit Broadway musical, starring Meryl Streep and Pierce Brosnan. The film has grossed more than $500 million worldwide.

MarketWatch

Don’t Watch the Dow

Generations of Americans have been trained to follow the Dow Jones Industrial Average for a quick snapshot of how the economy is performing or is expected to perform. There’s a lot that’s ill-advised about that habit, but, most importantly, attending to the ups and downs in the Dow won’t tell you much about the current financial crisis. Ours is a crisis of credit: Financial firms are unwilling to lend to each other (at all-but-exorbitant rates) for fear that borrowing firms may fail or that they themselves may need the cash to fend off their own crisis.

Whereas the hourly fortunes of the Dow or any stock index are, at best, indirect reflections of this reluctance to lend, the TED Spread measures credit conditions directly. Bloomberg tracks the TED Spread here. What sounds like second-rate Nutella is actually the difference between the interest rate banks charge each other on three-month loans and the interest rate on three-month U.S. Treasury bills.

Why TED? The T comes from “T-bill,” shorthand for short-term Treasury bills, and the ED comes from “eurodollar contracts.” . . .

The Big Money

T-bills are the safest investment. Loaning between banks is riskier. The difference between the interest rates (the TED Spread) shows the perception of the risk. Historically the TED is around 0.5. Right now it’s at 4.23.

Unfortunately true best line of the day

“We are near total financial and corporate meltdown dude.”

New York University economist Nouriel Roubini to Felix Salmon, October 7th

Roubini has been one of the primary doomsayers leading into the current crisis. Alas, he’s been an accurate sayer too as it turns out.

Here’s what Roubini wrote today. Not for the faint of heart. The lead sentence:

“The US and advanced economies’ financial system is now headed towards a near-term systemic financial meltdown as day after day stock markets are in free fall, money markets have shut down while their spreads are skyrocketing, and credit spreads are surging through the roof.”

5,000

Do you like round numbers? Nice round numbers? Then you can impress yourself and your friends by noting that since October 9, 2007, one year ago today, when the Dow Jones Industrial Average had its all time high close, the index has lost 5,000 points.

Give or take a few depending on where it ends up in two hours.

The high close was 14,164.53 on October 9, 2007. (The highest ever was 14,279.96 two days later.)

At Noon MDT today it’s at 9168.50.

Update at Close: So much for 5,000. The Dow closed today at 8,579.19.

So, down 5585 in one year.

And the question becomes, how low can it go?

Now is probably not the time to sell your stocks

Amazing fact: Less than one percent of stock exchange trading days accounted for 96% of the gains over 40 years, 1963-2004.

By fleeing for the comfort of safe and insured, however, investors with a time horizon beyond a few years may be doing real damage to their long-term finances. If you’re tempted to make a big move to cash right now, you’re doing something called market timing. It’s an implied statement that you’ve figured out the right moment to get out of stocks — and will also know the right time to get back in.

So let’s dispense with the first part straightaway. The right time to move out of stocks was a year or so ago, before various stock indexes the world over fell by one-third or more.

If you missed that opportunity, you’re hardly alone.

But if you sell now, you’ll be locking in your losses. And once you’re in cash, there isn’t much upside. In fact, with interest rates low, you’re likely to lose money in cash, because inflation will probably eat up the after-tax returns you earn from a savings or money-market account.

From Switching to Cash May Feel Safe, but Risks Remain, an article in today’s New York Times.

If you sell now, when will you get back in? You may miss the memo.

A good article.

Government by Dow

Last week, the Dow was on the skids, and the media was SCREAMING that Congress “do something!”, even if that something was mortgaging future generations to the tune of $700 billion. The markets were ANGRY that the House had rejected the bailout! Why was Congress dilly dallying?

And no, there was NO TIME to spend devising a better solution to our economic ills. It was the bailout OR NOTHING! Didn’t we know that this was the only way to PROTECT PEOPLE’S 401Ks?????????

This week, the Dow is still crashing, and …. oh well. Oh, are people’s retirements going up in smoke? Shrug.

Forgive me, but I still don’t get how government by Dow works.

kos

“There’s an old saying in Tennessee — I know it’s in Texas, probably in Tennessee — that says, fool me once, shame on — shame on you. Fool me — you can’t get fooled again.”

I guess we got fooled again.

Oh, and this, from the BBC at 6:26PM MDT:

“Asian markets plummet in early trading after Wall St stocks closed at their lowest levels for five years.”

Plummet — to fall or drop straight down at high speed.

What a bunch of fools we’re being made into

Less than a week after the federal government committed $85 billion to bail out AIG, executives of the giant AIG insurance company headed for a week-long retreat at a luxury resort and spa, the St. Regis Resort in Monarch Beach, California, Congressional investigators revealed today.

“Rooms at this resort can cost over $1,000 a night,” Congressman Henry Waxman (D-CA) said this morning as his committee continued its investigation of Wall Street and its CEOs.

AIG documents obtained by Waxman’s investigators show the company paid more than $440,000 for the retreat, including nearly $200,000 for rooms, $150,000 for meals and $23,000 in spa charges.

ABC News

Another Frightening Show About the Economy

This American Life was about the economy last weekend. It’s excellent and you will definitely understand more about what is going on and how it extends well-beyond the sub-prime problem we’ve been told to blame. Sub-prime loans may have been the virus, but the disease is much more.

I highly recommend that you download the mp3 or the iTunes podcast this week while it’s available.

The last 12 minutes is the Was The Bailout Bill A Good Idea? segment I’ve already highlighted.

Stocks

You may have noticed I haven’t been singing the praises of Apple and Google stocks lately. Apple is at $89 and Google at $363 at the moment.

Google was at $711 when I mentioned it last November.

Apple got to $202 last December.

I bought none of either.

FDIC

The limit on insured accounts under the Federal Deposit Insurance Corporation (FDIC) was raised to $250,000 by the Emergency Economic Stabilization Act (which the President has signed). The increase is effective immediately but returns to $100,000 after December 31, 2009.

The increase applies to federal credit unions as well.

What Is Insured?
You are probably familiar with the traditional types of bank accounts – checking, savings, trust, certificates of deposit (CDs), and IRA retirement accounts – that are insured by the FDIC. Banks also may offer what is called a money market deposit account, which earns interest at a rate set by the bank and usually limits the customer to a certain number of transactions within a stated time period. All of these types of accounts generally are insured by the FDIC up to the legal limit of $250,000 and sometimes even more for special kinds of accounts or ownership categories.

FDIC-Insured

  • Checking Accounts (including money market deposit accounts)
  • Savings Accounts (including passbook accounts)
  • Certificates of Deposit

Not FDIC-Insured

  • Investments in mutual funds (stock, bond or money market mutual funds), whether purchased from a bank, brokerage or dealer
  • Annuities (underwritten by insurance companies, but sold at some banks)
  • Stocks, bonds, Treasury securities or other investment products, whether purchased through a bank or a broker/dealer

FDIC

Was The Bailout Bill A Good Idea?

“‘And the more I report it, the more scared I have been,’ Davidson tells This American Life host Ira Glass as part of a one-hour special report on the last week of financial turmoil.”

I strongly urge you to take 12 minutes and listen to the exchange between Ira Glass and Adam Davidson about the bailout. It’s a down-to-earth review of what the bill does, what it should have done instead perhaps, and its importance.

Listen online or iTunes Podcast.

The last six minutes of the 18 minute podcast are interesting too, but the first 12 minutes are essential.

Do yourself the favor of listening. 12 minutes.

The Depression before The Depression

Scott Reynolds Nelson, a professor of history at the College of William and Mary, finds a precedent for the current financial crisis a little further back in time.

As a historian who works on the 19th century, I have been reading my newspaper with a considerable sense of dread. While many commentators on the recent mortgage and banking crisis have drawn parallels to the Great Depression of 1929, that comparison is not particularly apt. Two years ago, I began research on the Panic of 1873, an event of some interest to my colleagues in American business and labor history but probably unknown to everyone else. But as I turn the crank on the microfilm reader, I have been hearing weird echoes of recent events.

. . .

In fact, the current economic woes look a lot like what my 96-year-old grandmother still calls “the real Great Depression.” She pinched pennies in the 1930s, but she says that times were not nearly so bad as the depression her grandparents went through. That crash came in 1873 and lasted more than four years. It looks much more like our current crisis.

Nelson has the details. Fascinating. Scary.

Who Caused the Economic Crisis?

The House easily passed the bailout rescue bill this afternoon. It seemed a good time to look at who contributed to this mess. FactCheck.org takes a stab at listing the co-conspirators.

  • The Federal Reserve, which slashed interest rates after the dot-com bubble burst, making credit cheap.
  • Home buyers, who took advantage of easy credit to bid up the prices of homes excessively.
  • Congress, which continues to support a mortgage tax deduction that gives consumers a tax incentive to buy more expensive houses.
  • Real estate agents, most of whom work for the sellers rather than the buyers and who earned higher commissions from selling more expensive homes.
  • The Clinton administration, which pushed for less stringent credit and downpayment requirements for working- and middle-class families.
  • Mortgage brokers, who offered less-credit-worthy home buyers subprime, adjustable rate loans with low initial payments, but exploding interest rates.
  • Former Federal Reserve chairman Alan Greenspan, who in 2004, near the peak of the housing bubble, encouraged Americans to take out adjustable rate mortgages.
  • Wall Street firms, who paid too little attention to the quality of the risky loans that they bundled into Mortgage Backed Securities (MBS), and issued bonds using those securities as collateral.
  • The Bush administration, which failed to provide needed government oversight of the increasingly dicey mortgage-backed securities market.
  • An obscure accounting rule called mark-to-market, which can have the paradoxical result of making assets be worth less on paper than they are in reality during times of panic.
  • Collective delusion, or a belief on the part of all parties that home prices would keep rising forever, no matter how high or how fast they had already gone up.

The U.S. economy is enormously complicated. Screwing it up takes a great deal of cooperation. Claiming that a single piece of legislation was responsible for (or could have averted) is just political grandstanding. We have no advice to offer on how best to solve the financial crisis. But these sorts of partisan caricatures can only make the task more difficult.

Thanks to Byron for the link.

There are more important economic indicators than stock price gyrations

Another credit market indicator, the “TED spread,” rose to yet another record high of 3.68 percentage points. The higher the spread, the more likely banks are to avoid risk. The TED spread was only 1.04 points on Sept. 5.

The TED spread measures the difference between 3-month Libor and the yield on the 3-month Treasury, considered by many investors to be the safest investment. The spread is a key indicator of banks’ willingness to lend to one another.

CNN

Libor is the acronym for London interbank offered rate, another key indicator of interest rates.