designing better futures

An anthropologist looks at Transaction taxes. Why 2014 might look like 1914.

There is a lot of talk about a transaction TAX in the US.  One can argue whether it is punitive, driven by vigilante populism or a legitimate safety mechanism a la Tobin.  One of the sub-fields of anthropology is archaeology, the science of looking through dead people's  junk in an act of guessing how people believed, behaved and organized themselves into cultures. 

Stamps are a useful way to revisit transaction taxes. 

One of the more recent US transaction taxes on stocks was initiated in 1914 and then increased later in the 1930's to help pay for the Great Depression.  New York state itself imposed a tax on stock transactions in 1905.

The stamps for the federal transfer tax are affixed to this document shown to the left.  This documents records the sale of 33,973 shares of Stutz Motor car company.  My great grandfather used to own a Stutz Bearcat, in small town Iowa.

For those interested in Philatelic fiscal self-flagellation visit this site with more tax stamps.

The  1914 US transactions tax of %0.20 stayed in force until 1966.  Any good tax is food for politician zombies and won't be rescinded easily. Today's proposal would see a %0.25 tax in place.  That is equivalent to $50 per $10,000 worth of shares bought and sold.  

The gold bugs may want to look back at the past and have a look at the silver tax stamp to the left.  A spike in gold is one thing, a sustained price level reflecting a decline in the dollar may seem like low hanging fiscal Fruit for the tax man.   $3,000 gold for a sustained period could bring the label hoarder thrown at the gold owner.  A gold tax would not be surprising.

In the book, The Leopard, the old prince watching the empires of feudalism falling and the new empires of industrialist Italy rise, says that, "all things must change so that they may remain the same."

When the federal transaction tax was repealed, California decided to keep it. One could easily imagine that happening again.

The current and looming fiscal challenges will most likely mean govt. self justification for new forms of taxation. 

French royalty used to say the goal of taxation was to pluck as many feathers from the goose as possible with minimal honking, today one has to keep the populist pundits confused and tax indirectly and with slight of hand.  a bit of stimulus here and there and then some obscure slight of hand, such as the AMT, which slowly captures everyone. 

The Romans invented tax outsourcing by hiring tax farmers. 

The protesting of transfer taxes has taken many forms including tea parties.  One of the more passive forms of protesting the transfer tax was to affix a stamp next to the tax stamp indicating that the original stamp was affixed under protest as seen in this image. Source here.

 

Derivatives traders should be wary.  CDSs with their huge notional amounts probably have politicians licking their lips.  The CDS tax seems almost like winning the political trifecta for politicians of a certain ilk. The CDS tax arguments which I don't support or refute would read something like this:

• Large taxable notional amounts
• Slows down the mega trillion dollar derivatives machine
• Forces the more questionable players offshore
• AIG et. al retribution
• Too complicated for the general public to argue the case against

Here is an old grain futures tax stamp from the Updike grain company.  Source image here.

Archeology today involves trowels, brushes and patience.  The future archaeologist will probably spend time digging around server logs, which seems like less fun than looking at stamps.

The mother of all transfer taxes is the federal Value Added Tax.  For those advocating a federal securities transfer/transaction tax, be careful what you wish for as precedents set can be powerful things. The US has  a dangerously short debt duration and looming mandated fiscal deficits.  A federal VAT gets easier to justify in DC with a AA debt rating, but that is something to be discussed in 2011...2-3% federal VAT sounds about right.

Full Disclosure:

1. I am just finishing up work on High frequency trading strategy in c# with +3.0 Sharpe ratios  so would suffer directly from a transaction tax. 
2. I would like to have seen my great grandfather riding in his Stutz Bearcat, it sounds swanky.

Talk to the hand...of the free market.

More quality tom tommorrow here.

Hedge Fund mortality approaching 30%

Just looking at some 12 month rolling data charts from Hedge Fund Risk Monitor. 

I thought mortality would get to 40% based on back of the envelope calculations.  Running a fund isn't as easy as it looks, the magic numbers are 36 months solid operations and $100m assets under management before the Fund of Funds start looking around.  Here are some crude estimates I compiled on the business of running a fund what incomes have been like lately.

Here are some graphs about the industry from earlier in 2009 courtesy of Deutsche Bank.

My own opinion that inflation adjusted strategies will be relevant in the coming years and a view in regards to hedge fund half lives.

Hedge funds are famously opaque and the major databases all kind of overlap, but it is a foggy industry so take everything with a pinch of salt.  Most hedge funds don't explode etc. they quietly fold and return investors money.  We only hear about the ones that don't go quietly into that good night.  It is important to note that with the exception of outright frauds, no funds posed systemic risks since LTCM in 1998.  Everyone weathered the storm pretty well.

It was those hedge funds in drag (AIG, Bank with SPV's etc. that caused the problem).  Like the saying about about risk  It ain't what you don't know, its what you know that ain't so.  Those regulated institutions AIG, BEAR, etc. weren't big banks and insurance firms with AAA ratings, they were really something else altogether.

Potential Energy revolution

I used to be Chief Analyst for Starlab an Advanced research lab modeled on the MIT media lab in Europe.  I have also spent 2 years researching renewable energy investments for hedge funds etc. 

The major issues of energy are storage density, distribution, availability and cost.  My own personal storage bias for the future is ultra-capacitors.  The energy technology shown below is remarkable in terms of cost, storage potential and the ability to remake the world.  

If the technology is stable and distributed it will change the power industry globally and most likely in non-grid dense countries first, where adoption of feasible storage means off grid power from an intermittent source becomes viable.  If you sell power why compete with existing infrastructure that delivers @ $.10/KwHr when you can find small off grid villages willing and happy to pay $0.40.

Here is perhaps the most interesting video on energy I have seen in the last 5 years.  If you are interested at all about energy it is worth the 20 minutes.  Here is the company  Sun Catalytix that has been formed to commercialize the technology from Dan Nocera.

Warning this is subtle and the impact won't register with most. ht Paul Kedrosky.

Norwegian Krone and Gold Overlay

I have been advising hedge funds and others about considering a Gold and/or Norwegian Krone position as an overlay for their dollar based portfolios for some time now.  

This isn't a trade etc. per se, it is a multi-year way of protecting purchasing power and expressing less faith in the US Dollar due to an accelerating shift in behavior towards more debt at the federal, state and municipal levels.  The Norwegian Krone overlay portfolio idea appears to be working.

Rolfe Winkler did a nice follow up piece on the Norwegian Krone idea and how it is playing out.   Here are some photos of Oslo.

Black Swan Goggles

So the holiday season is here and you have just received a pair of Black Swan goggles.  These allow you to spot Financial black swans safely from any distance.  Unfortunately  due to the warranty restrictions you aren't allowed to profit from your new super powers.

Now imagine you could also travel back in time with your swanky swan goggles.  What could you do to prevent the crisis?

Think about it.

It is the regulators dilemma in retrospect.  But imagine you are a quant, professor, CEO, banker, legislator etc. 

What role could you play?  How far would you go to prevent the current problems. 

When would you start?  and whom would you need to convince to change behaviour, rules etc.? 

Over $6 Trillion in "wealth" was being "made" by a freight train of "winners" and before that home ownership was slowly seen as a right that all were entitled to via tax breaks, incentives etc.

So who will you be with the stylish shades to change things for the better?

Those advocating better models, or tighter thinking are indirectly posing such a conjecture.  So what would you do and when would you do it? 

If you want you can continue the conversation at the Linkedin BlackSwan Group.

Bad bonds auctions & SIC code identity politics?

The 30 Year bond auction was a bit disappointing. According to Bloomberg:

Treasury 30-year bonds declined after a record $16 billion sale of the debt, the last of this week’s three offerings totaling $81 billion, drew the weakest demand since May.

The bid-to-cover ratio, which gauges demand by comparing total bids with the amount of securities offered, was 2.26, the least since May and below an average of 2.39 at the last 10 auctions. The bonds drew a yield of 4.469 percent, higher than the forecast of 4.424 percent in a Bloomberg News survey of five of the Federal Reserve’s 18 primary dealers.

The fact remains that the US has roughly a 4 year debt duration with north of 40% due to mature within a year is a serious issue.  The worlds bond markets aren't quite used to the $100b in auctions week in and week out.  This figure is equivelent to $5.1 trillion for nexts years issuance.  This supply could seriously challenge the demand for more US debt.

Current US cultural behaviours and beliefs strongly indicate that more economic trouble will beget more stimulus etc.  The flawed stimulus doom loop will keep going until the world decides to stop funding the party. 

Shock and awe no longer accompany domestic bailouts, stimulouts etc.  Every new announcement of federal activity seems to create the belief in the public that we all need a bailout so get in line.  The rhetoric is capitalism is for the other guy.  I am a victim. 

The new Identity politics is defined by SIC code .

Trained as anthropologist, I treat economics as a bounded belief system.

The US is now challenged as many actors in the culture are rapidly adopting defeatist and self defeating beliefs.  Accountability and a sense of responsibility go out the window. The dangerous doom loop thinking goes like this:

I am a member of industry/group X. I am important or at least my local representative tells me this when I fund his/her campaign.

Everyone else got bailed out, why not me.  Soon the positive feedback loop will accelerate as people feel "cheated" for not being stimulated.  I am a victim.

The heart of the Keynesian argument for counter cyclical injections of liquidity and stimulus is based on loose assumptions of the multiplier effects.

In my opinion The Keynesian stimulus thesis rests on one of two flawed assumptions.

1. Officials are expert at stimulating or allocating efficiently.

2. It doesn't matter where liquidity goes as it will multiply and create demand.

The only paper I trust these days is either labeled Charmin or produced by the Norwegian central bank, good luck with those insured muni's the fun isn't going to stop at the federal level, it could bubble up as well.  MBIA, AMBAC etc. bond insurance may not be a backstop, of course the state of New York can help out.

Black Swan group on Linkedin & the lo-fi finance model

For those interested, I manage the Black Swan group on Linkedin.  You can join here. 

The general discussion is in regards to systemic risk and how to think about extreme events.  My own biases are for the implementation of  Lo-Fi finance (low fidelity), the idea being a loosely coupled financial system is safer by design than any focus on strengthening individual components via micro-management.  

Lo-fi works on 2 levels, one is that it is the opposite of high fidelity a highly engineered system and it is based on individual units not trusting each other too much so they are more cautions.  Counter intuitively ratings agencies made things riskier.  After all nobody got fired early on for buying a AAA rated CDO tranche. 

Lower trust would have meant more independent thought.  Lo-Fi is safety at the expense of efficiency and innovation. The slow movement in finance if you will.

Instead of focusing on weak links in the chain such as specific instruments, participants or markets, I argue we should focus putting more space between the links via regulation.

If you want safer roads, don't put ever more airbags in the cars, make sure there is enough space between the cars, (more roads, fewer cars, slower speeds that sort of thing).  Yes this goes against most cultural values that push for ever greater speed and the role of the individual as independent unbounded actor. 

Glass-Steagall was an example of lo-fi finance, sub-optimal in terms of efficiency of scale but safer and thus more stable in the long run.  Lo fi would lead to more work on the analysis side of the business in smaller institutions and regulated boundaries to growth defined by either product or market niche.

Inside the US debt bubble

Any business or organization that depends on the charity of others is vulnerable to that charity being withdrawn.

The US debt outstanding is just under $12 Trillion dollars.

Roughly 43% of that debt has a maturity of less than one year according to The Economist. 

This equates to $5.16 trillion that needs to be rolled over or approximately $100 billion every week. 

If one assumes that the maturity of foreign holders is equivalent to the average maturity outstanding then the US and the world are playing a large game of chicken. 

The Treasury currently has the luxury of cheap money 3.5% on the 10 year and 4.40% on the 30 year, but can't be seen to go to far out on the curve in future issuance as it might kill the golden goose, but the rate of roll overs and amount of debt issuance is most likely to be stimulating in the next few quarters, pun intended. 

In case you are wondering about who plays the world largest game of chicken with us, here is the data from the Treasury of Foreign US Debt Holders.

 

I would recommend reading Nial Fergusson's The Cash Nexus to see how this game of Chicken has usually played out in the previous 300 years of debt and empire, then reach your own conclusions.

China or Japan doesn't have to sell debt to crash the price, the merely stop showing up at the auctions for a year and roughly half of the debt expires, with payments due.   As Japanese or Chinese populist it is a tough message to swallow, that you can't stimulate your own economy, because, there is some requirement to purchase more debt.

And yes Japan is in the same boat, just 20 years ahead of us.  It looks to be race to see whose bubble pops or melts first, the Japanese with a DEBT to GDP ratio of 190% or the US with a current debt to GDP ratio of roughly 80% but a legislated ratio almost 4 times that.  

He who pays the piper calls the tune and the music is starting to change.

Black Swan author is an awkward bird

Nassim Taleb is a mixed blessing, part cheerleader for ignoring the false rationalism of statistics in the realm of human folly we call economics and part self indulging jester for being "mis-understood" and protesting too much.  I think he suffers a case Roubini syndrome.

Roubini syndrome involves being right once about a big thing and therefore attributing every utterance and opinion subject to that opinion and framework.  Having only a single mental hammer seems to have forced both men to see all problems before them as nails.   

The risk in Roubini syndrome is that of the one hit wonder pop star who slowly fades away.  Both men have more to contribute but seem bent on correcting the media with ever more shrill voices.  They have an analog version of SIWOTI syndrome which currently keeps them from more interesting and lasting contributions to thought on economics.

Take a look at Taleb's latest paper Oct 18,2009 entitled Common Errors in Interpreting the Ideas of The Black Swan and Associated Papers.

The paper's first pages are a tiresome tirade, but he has some solid points in the back end of the paper.  My own opinion is that his overly emotional rebuttals to prior rebuttals to his work cheapen his voice and muddle the waters. Don't feed the trolls.  A good idea stands the test of time and the best of ideas attract the strongest of criticisms early on before being accepted.

New paradigms are rarely acknowledged as such immediately, that is the role of fads masquarading as innovations.  History and ideas of historical note are only acknowledged correctly in the breech.

My recommendation is that the Black Swan should sink or swim in the sea of ideas.  The author needs to let it leave the nest to defend itself and fly on its own.  Ideas once submitted for consideration are no longer their author's property, but rather become a part of a useful collective consciousness or fade away.   Paradigms are a group phenomenon whether true or not.

The gifted Anish Kapoor creator of the Cloud Gate sculpture in Chicago long ago accepted that it would forever forward be known as "the bean", such it is with all creators and their creations in the public domain.