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Puppy Spam

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Comment moderation has been turned on--it didn't take long for the spammers to flood one of my entries with a couple hundred spam comments advertising what appeared to be puppy spam.

At least the cleanup was quick, thanks to mass delete.

The moderation policy is that any reasonable and unspammy comment will be allowed through, but no promises on the time.  This blog is very much a part-time hobby, so I'll get to comments when I get to them.

Cornering the Market in Money

Cornering the market is a (generally illegal) form of market manipulation where someone buys or controls enough of something--a stock, commodity, etc.--so as to effectively control the market price for that item. It can be very profitable, since the person who has cornered a market can force buyers (at least those buyers who have no alternative) to pay essentially any price.

For example, you might corner the market in frozen concentrated orange juice by going out and buying up all the OJ you can find, then entering into contracts with the OJ plants to buy their production. At some point, someone wanting to buy frozen concentrated orange juice would be forced to come to you, and pay whatever price you ask.

In practice, there may actually be more OJ futures available to buy in the market than actual OJ production, since a significant fraction of the market is not actual buyers or sellers of the physical commodity but speculators who trade futures contracts expecting to close their positions without ever touching any actual juice (except perhaps at breakfast). So when those futures contracts start to mature, the speculators discover that they are obligated to deliver actual frozen concentrated orange juice (which is unavailable) or buy back their contracts at some absurd price. You have, in effect, created an artificial shortage of OJ to your own benefit.

Cornering a market is very expensive, since you have to have enough capital to lock up most of the supply. It can also be very risky, since if you try and fail to corner a market, you can wind up paying too much for a huge amount of something you don't actually need. Nevertheless, every so often someone tries to corner a market; and occasionally someone succeeds.

The most profitable, and most difficult, market to corner would be the market for money itself. Money is in some respects a commodity like any other: it can be bought and sold, you can create derivatives, and you can write contracts which obligate the delivery of a certain amount of money under certain conditions. If you could corner the market for money, you would drive up the value of money (otherwise known as "deflation") by creating an artificial shortage (aka "liquidity crisis"). The people you traded with would be unable to deliver the money they were obligated to under their contracts, so you would be able to demand whatever other hard assets they might have instead.

Cornering the market in money would be hard, but maybe not impossible. The best way would be to buy up a whole lot of some financial contract which is normally relatively inexpensive, but under the right (very rare) circumstances obligates the seller to give you a hundred or a thousand times the capital you invested. Ideally, the seller would view the contract as safe (so the price would be low), but could be triggered by some crisis.

A Credit Default Swap (CDS) fits the bill pretty well: pre-2008, you could buy a contract for a few tens of thousands of dollars per year which would obligate the seller to give you $10 million upon the failure of some big investment bank or blue-chip corporation.

So you buy CDSs on a bunch of big low-risk corporations at 2006 prices (which is to say, dirt cheap). Since the CDS isn't directly tied to an actual bond issued by the company, you can actually buy more CDSs than the company has outstanding debt. Then, recognizing that there's a cascading effect, you also buy CDSs on all the companies who sold you the first set of CDSs--since if Lehman Brothers has to pay out on all those swaps, they'll have a good chance of defaulting as well. Since the CDS market is almost completely opaque, nobody will know how many contracts you've bought up or what the aggregate value is.

At 2006 prices, you could have invested a few billion to buy CDSs which would pay (in aggregate) a trillion dollars or more if the companies started failing. Lots of investors have a few billion to throw around. Almost nobody--other than the U.S. Treasury which prints its own money--has a trillion.

The corner happens when one of the companies you bought CDSs on starts getting into a little trouble. Every company has rough spots, so this is bound to happen sooner or later.  That will make the market value of the CDSs you own go up, and lets you demand more collateral from the companies you bought the CDSs from.

That, in turn, requires those companies to come up with cash quickly, and hurts their financial stability--which drives up the value of the CDSs on those companies, and lets you demand more collateral from a different set of counterparties.

If it all plays out right, in fairly short order every company which sold you CDSs is selling every asset they can get their hands on in order to meet their contractual obligations to you. Cash becomes the most valuable commodity because nobody can find enough of it. It's financial armageddon, but you win big.

The only flaw--and it's a big one--is that the government can create new cash any time they want.  Normally they don't like to do this, because it can lead to inflation.  But if the government discovers what's going on early enough, they can print more money, give it to the foolish companies who wrote those CDSs (like AIG) to make good on their promises, and break the cycle of collapse by making money less scarce.  This excess cash can (at least in theory) be taken out of the system at a later date once things have stabilized, in order to prevent hyperinflation.

So....do you bet on the Federal Reserve being on top of things and pumping the cash to the right place at the right time? Or do you bet that nobody will figure out what's going on until it's too late?

Optimistic Sign #6: Housing Starts Bottoming?

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Today's big economic news was that February's housing starts--the number of new homes which began construction during the month--jumped in a big way from January.  One month does not make a trend, but a lot of people smarter than I think that housing starts are a leading indicator for when we enter or exit a recession.

The pessimistic counter-argument would be that housing starts have fallen almost 80% from the peak, and since they can't go negative there has to be a bottom somewhere.

Which would also be my point: there has to be a bottom somewhere.  We may be at that bottom right now, though we won't know for sure for several months to come.

You Are Hereby Sentenced to Life in California

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Sara Jane Olson, the middle-aged Minnesota housewife and convicted terrorist, is scheduled to be released on parole soon and she wants to return to Minnesota.

The local police want none of it.  They want her to have to serve her parole in California, where she was tried and convicted of her crimes.  (Apparently it is routine for parolees to be allowed to move to other states if they want.)

Not because she's dangerous.  Far from it: she may have been involved in a violent militant group back in 1975, but by all accounts her radical impulses faded with disco and polyester suits.  Since then the wildest thing she seems to have done is maybe put a drop or two of Tabasco in her hotdish for the lutheran potluck.

Rather, as the head of the local police union said, "She should serve her debt where she committed her crimes."  In other words, letting her return to Minnesota wouldn't be punishment enough.  Justice can only be served by forcing her to live in California.

Minnesotans like to make fun of California sometimes (and I suspect the reverse is also true), but this is the first time I can remember a member of Minnesota's law enforcement system actually seriously suggesting life in California as criminal punishment.

Optimistic Sign #5: Retail sales bottoming?

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Retail Sales statistics for the month of February were released this morning, and they are down only 0.1%.  Just as important, the January number was revised up (1.8% growth from the original 1.0% growth).  Some sectors were better than others, and car sales were among the worst.

This relatively stable statistic--still subject to revision of course--suggests that some of the fear we saw in the last few months of 2008 may be starting to subside.

Optimistic Sign #4: Wholesale Used Vehicle Prices Rebound

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According to Calculated Risk, wholesale prices for used cars and trucks rebounded significantly in February, after a huge drop in January.  Indications are that buyers are making larger down payments and taking out shorter duration loans.  It appears that many people are switching from buying new cars to used.

I view this as optimistic for several reasons.  First, it shows that these durable assets (cars, that is) do have value and are not plummeting to zero.  That gives more confidence to both buyers and lenders that they're not just throwing their money down the toilet.  Second, it shows that there is still fundamental demand for vehicles despite the inventory overhang, and there is a price where people will buy.  Third, it indicates that the demand for used vehicles is matching the supply, and some of that demand will eventually spill into new vehicles as the supply of used cars diminishes.

Optimistic Sign #3: CEO Roundtable

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Every month or so, I sit down with a small group of CEOs of other small technology-based businesses here in the Twin Cities.  It's an informal place to talk through our problems, share experiences, etc., in a confidential and safe environment.

This month we started the meeting by going around the room sharing our views of the economy; naturally I shared my determination to seek out optimistic indicators no matter how foolish it makes me seem.  Pretty much everyone was gloom-and-doom.

But at the end of the meeting, one of the other CEOs made an interesting observation: "Remember how we started the meeting talking about how bad the economy is?  Isn't it interesting that nearly every one of us said that our business right now is picking up, and some of us are doing better than ever."

Optimistic Sign #2: Buying a Suit

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This week, for the first time in about ten years, I had to buy a suit.  I only need to wear a suit a few times a year, and I had been living off the inventory I collected during my investment banking days.  That inventory finally ran out, so back to the menswear store I went.

(Incidentally, the new suit today, in 2009, cost less than a new suit of similar style and materials ten years ago even though it had to be special ordered.)

While at the store, I happened to chat with the owner and asked him how business was doing.  His response: January and February were brutal, but things seem to be picking up just a little now.  (They did have some deep discount items, but it was end-of-season stuff like sweaters.)

High end men's clothing is a very discretionary item, so when that starts to tick up, it means that some people are finding the money to update their wardrobe, or that they can't defer it any longer.

Optimistic Sign #1: Media Defaults to Pessimism

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I've been optimistic that we're nearing the bottom of the recession since January 2008.  Long enough that I'm starting to feel foolish.

But you know what?  I've decided that I don't care.  My company is doing OK (never better, in fact), and the only way to deal with this murk we're in is to keep your head down and push forward.

So I decided a couple weeks ago that I would make a point of looking for signs that the economy is bottoming out, or even maybe starting to improve a little.  Maybe this is early, maybe we've got years to go before the recovery starts, but in the meanwhile I'm going to search for the signs of hope.

And someday the economy will recover, and when it does, you heard it here first.

On to my first Optimistic Sign: The Media Defaults to Pessimism

All through 2008, the media (and especially the financial media like the Wall Street Journal) wrote articles about looking for the bottom: how great the stock market prices were, the great deals you could get on a foreclosed house, etc.

Since January, however, I've noticed the tone of the articles change.  Now they say that things could get much worse, don't buy into a sucker rally, the recession will last much longer.

On NPR a couple weeks ago, there was an interview of a government official (I think it might have been Gordon Brown, Prime Minister of the UK) where the interviewee mentioned a forecast that the economy would bottom (that is, stop getting worse) sometime in the second half of 2009 and show some modest growth in 2010.

The striking thing was how hostile an skeptical the interviewer was to this pronouncement: "Really?  Do you honestly think we're going bottom out any time before the end of 2010?" (or words to that effect).

Remember, Gordon Brown does not know when we'll hit bottom.  Neither does the interviewer.  Nobody does.  We could be at the bottom right now, and we would not know it for months.

But the default position seems to have become that this recession will last at least until the end of 2010.  That's almost two more years of recession, and a recession lasting over three years total--exceptionally long in postwar history.  Is it possible?  Sure.  Plausible?  Maybe.  Certain?  No way.

I consider this irrational gloominess (the opposite of Alan Greenspan's famous irrational exuberance) an optimistic sign, if for no other reason than the pundits are always wrong.

But less cheekily, it means that we are emotionally accepting the fact of the recession which is an important step to moving on.  It's the moving on which produces a recovery.