Monday, October 31, 2011

The Keystone XL Pipeline - A Defining Issue

The goals of growing the U.S economy and protecting the environment are in direct conflict. Achieving a balance between the two is probably an unrealistic goal. At Doom or Boom, our primary filter is "how likely is it to contribute to global weather weirdness". If the answer is we don't think there will be a significant impact, we tend to focus on an economic growth agenda.

The Keystone XL pipeline is a defining issue. While we are sympathetic to the concerns of opponents of the pipeline, stalling this initiative would be a terrible missed opportunity to develop a project that can be an engine of U.S. economic growth. It will provide jobs and reduce U.S. dependence on oil from sources that are easily cut off.

Given the paucity of big ideas on how to jump start hiring, taking a pass on this project leaves open the question of whether there is any substance or conviction behind the Obama jobs plan, or is it just posturing for voters.

Grist has published a couple of articles that offer a good balance in evaluating the pro and con regarding this issue.

Is the Keystone XL pipeline actually worse than the alternatives?

Keystone XL tar sands pipeline would screw over farmers, threaten aquifer

Saturday, October 29, 2011

Making A Dent In The U.S. Economic Crisis

The U.S. standard of living is declining and will continue to decline unless the country gets a handle on the budget deficit and restores growth to the job market. There are only two ways to borrow enough money to fill the deficit hole if it continues to expand at the current rate:

1) crowd other borrowers out of the market, limiting the availability of funding needed by growing enterprises, as well as local governments for construction bonds

2) Turn on the printing presses, which will lead to nasty inflation, and is simply a method of kicking the can down the road by buying some time, but will eventually lead to an economic collapse.

Making meaningful budget cuts is almost impossible with our current dysfunctional political divide. The effectiveness of organizations like the AARP in fighting rationale budget cuts makes it almost impossible to do so. Further, a single minded focus on budget cutting program by itself will not solve the problem. The U.S. economy needs more jobs, which austerity measures alone will not create.

Here is a list of things that can make a dent in the U.S economic crisis:

1) exploit the recently found abundance of natural gas in the U.S. This offers the best opportunity to ramp up the economy in a manner that can generate profits while also replacing other energy sources that are more environmentally damaging. A recent CBS report on natural gas suggested that it could add as many as 1,000,00 jobs to the U.S economy (although the source was from Chesapeake Energy - so take it with a grain of salt). Sustainable energy has cache, but simply does not provide reasonable economic returns, and worse based on current technology is not scalable yet for supplying a meaningful proportion of energy requirements. Fracking has already transformed the economy in Pennsylvania. Utilities have unused capacity for generating electricity from natural gas. Standards and monitoring ensuring that fracking does not pollute the water supply are needed. However, the goal must be to reach a balance between protecting water supplies without going overboard with overly burdensome rules and regulations.

2) Expand support for the development of sustainable energy, but with a realistic understanding that it remains an expensive source of energy. Increase spending on sustainable energy research in a search to make sustainable energy cost competitive with fossil fuels.

3) Ramp up research into thorium reactors. Some think this may be the energy solution of the future. It may be cleaner, safer, and cheaper than nuclear.

4) allow TransCanada build the Keystone XL pipeline

5) require all retailers with more than 10 locations to prominently post their percent of sales accounted for by products manufactured outside of North America

6) increase taxes on financial industry employees making more the $750,000 a year. The share of economic activity represented by financial engineering is wildly out of proportion to its contribution to the economy. The U.S. needs to direct our best and brightest young minds into science, technology, and engineering. However, it should be kept in mind that attempts to "soak the rich" are unlikely to be terribly productive and can backfire. The maxim "money goes where it is treated best" can not be ignored.

7) tax marijuana. By one estimate this could contribute $6 billion in taxes. Further, it would reduce the U.S. contribution to the drug related murders that are devastating Mexico, and also reduce the dollars flowing out of the U.S.

8) Bring U.S. troops back from Afghanistan.

9) push back the age for qualifying for social security even further and increase the retirement age for public service employees. While this will be a painful change, better a delayed pension than no pension at all

10) ban public sector employee unions from using dues for political contributions. End their use of our tax dollars to elect fiscally irresponsible legislators that continue to raise our taxes. The public sector unions are effectively buying control of votes to increase their salaries and pensions, using our tax dollars to do so. Limit the public sector unions to only making contributions from voluntarily collected contributions from their members.

11) Increase taxes on imported oil. There is terrific conflict between protecting the environment and unleashing the economic vitality of Americans. Our goal is to find a balance between the two that promotes economic growth. Cap and trade is a rube goldburg-ish substitute for the much simpler solution of increasing taxes on CO2 emitting fossil fuels. We cannot let the fear of labeling a tax as a tax to lead to an incredibly complicated new set of rules that artificially establishes winners and losers while damaging the economy. Taxing imported fossil fuels raises revenue, create incentives to reduce oil consumption, and promotes job creation for domestic energy producers.

12) Strikes offer a weapon that tilts the playing field too far in favor of labor. Further, everyone loses in the short term from a strike, including labor, stockholders, customers, and taxpayers. Arbitrators should have more authority to require workers to go back to work. However, in order not to tilt the playing field too far in favor of management, the greater of all profits or 5% or revenue generated during a period when workers are required to go back to work should be held in escrow. The allocation of the escrowed funds would be a subject for negotiation between management and labor and would be paid out after a new contract had been agreed upon.

13) The U.S. suffers from too much red tape and bureaucracy. As Jim McNerney recently stated in a Wall Street Journal editorial "the tsunami of new rules and regulations from state and federal agencies is paralyzing investment and increasing by tens of billions of dollars the compliance cost for small and large businesses". However, while the overall goal should be to reduce red tape, it should also be kept in mind that deregulation that does not take into account human avarice can leads to disastrous consequences. While there are many factors that caused the housing bubble, one of them was the overturning of Glass-Steagal legislation restricting banking activity. Also, as the BP spill in the gulf and the poor design of the Fukushima nuclear plant prove, individuals and businesses have a tendency to make surprisingly stupid decisions. Thus, while eliminating needlessly burdensome red tape should be a priority, regulations that offer significant protection should not be recklessly overturned.

14) Develop the equivalent to the personnel AMT for corporations that utilize foreign subsidiaries in tax haven as a tax avoidance strategy.

Both the Tea Party and Occupy Wall Street have identified problems with current policies. However, neither of them is focused enough on restoring vitality to the U.S. economy. There is no reason that the U.S. economy can not boom again if we unleash it from current burdens. While some of the changes required to restore growth to the U.S. economy will be wrenching, if changes are not made, we our headed for an economic calamity. U.S. voters have to choose between a doomed economy or a booming one.

Friday, October 28, 2011

Scary Results of 7 Year Note Action Knocked Off Front Page By Stocks Surge

The following post from the Wall Street Journal did not get much attention due to attention being focused on the record breaking rally in stocks following the agreement that may temporarily move the European debt crisis off the front page for a while:

Treasurys Continue Their Terrible, Horrible, No Good, Very Bad Day.

"The Treasury Department’s auction of seven-year notes this afternoon fared miserably compared to the 2-year and 5-year sales earlier this week.

With investors cheering the eurozone debt deal, there’s been a broad selloff in safe-haven bonds all day, and the sloppy seven-year auction pushed bond prices to fresh session lows.

The 7-year notes were sold at a yield of 1.791%, higher than 1.759% traded right before the sale.

Overall demand, as reflected in the bid to cover ratio, was 2.59, the smallest since May 2009, compared to 2.75 from the previous four sales.

A gauge of foreign demand, the indirect bid was 33.9%, compared to 41.3% from the past four auctions.

While it is way to soon to sound the panic button, rising rates for U.S. debt will someday become a vicious circle. As the U.S. has to pay higher rates to fund the debt, the debt increases faster, and rates go up in a continuing cycle.

Thursday, October 27, 2011

Can The Euro Really Keep Rallying?

Now that even Alan Greenspan has gotten into the act of predicting the disintegration of the Eurozone, it seems bizarre that the Euro has been rallying for the past 3 weeks. At some point soon, shorting the Euro is likely to be a very profitable trade. The exuberant relief over European leaders having cajoled bondholders into accepting 50 percent writedowns on Greek debt and boosting their rescue fund’s capacity to 1 trillion euros ($1.4 trillion) is likely to lead to a nasty hangover if there turns out to be difficult finalizing the deal. As pointed out in a Reuters article on the agreement, “key aspects of the deal, including the mechanics of boosting the EFSF and providing Greek debt relief, could take weeks to pin down, meaning the plan to rebuild confidence after two years of crisis could unravel over the details”.

The outcome of the negotiations to finalize the details of the deal may be a win/win for a short position in the Euro. Either: 1) there is trouble finalizing the details, and the Euro declines in value, or 2) they reach a deal that shows that German fiscal discipline has cratered due to their insane desire to hold the Eurozone together, and due to its stagflationary risk, the Euro declines in value. Either way, shorting the Euro may be a winning trade.

Much of the rally in the Euro has been due to short covering. Once this rally finally fizzles out and the short covering is eliminated, the value of the Euro could be in for quite a fall. I certainly would not jump into the teeth of the strength of the today's upward surge with a short position, but would not rule out shorting the Euro in the very near future.

Is The Near Euphoria Today About A Deal To Take A Writedown Really Warranted?

The markets are staging a relief rally today over the new European debt deal. Thus the downward pressure on the markets from the Europe debt crisis removed for at least a few days. However, writing down debt does nothing to solve the enormous budget deficits and soft economies in southern Europe.

The problems in Greece certainly have not been solved. Public sector workers have announced occupations of ministries and public sector buildings for Wednesday 26 October. Lawyers will have a four day strike on 26-27 October and 3-4 November. Teachers have a 24-hour strike on Wednesday 26 October. The unpopular austerity measures will do nothing to stimulate the growth Greece desperately needs to get out of their severe recession.

It is only a manner of time before the European debt crisis is back in the news and exerting downward pressure on the markets.

Wednesday, October 26, 2011

Too Much Optimism The EU Leaders Have Succeeded In Kicking The Can Down The Road?

The U.S stock market certainly reacted positively to reports that European leaders were working toward a greatly leveraged bailout fund and that China may invest in the rescue fund. The S&P 500 rose 12.95 points, or 1.1%, to 1,242. So based on today's news, optimism prevails again. Time will tell if an agreement is really in the works. My prediction is that even if agreement on a debt plan for the European Union is within reach, there will be some twists and turns before we get there. Stay tuned.

Over at New Economic Perspectives, they also fail to share in the optimism. Check out the post by Marshall Auerback that addresses Europe's Non Solution.

Are So Called "Catastrophe Portfolios" Sufficiently Leveraged For A Deep Crisis?

A recent Reuters article stated that "The Rich Are Running For Cover As Turmoil Hits Wealth". It describes how some wealthy families have embarked on damage limitation rather than seeking to boost their fortunes. However, the "catastrophe portfolio" as described by Ivan Adamovich, head of the Geneva operations of Swiss bank Wegelin, seems more of a difficult times portfolio than a catastrophe portfolio. It allocates one third of money to gold, one third to defensive and internationally diversified blue chip company shares and a third to the debt of ultra safe developed countries.

In my opinion, this portfolio does not provide nearly enough protection in the event of a deep crisis.

1) The allocation to gold may or may not work out well in a global economic crisis. Gold is not a crisis proof investment. Unlike basic necessities needed for survival, the value of gold is artificial. It is desirable because it is scarce and because we think it can be resold for an even higher price than it's purchase price. However as pointed out over at Business Insider, "think of a financial crisis as basically a period in which everyone is scrambling to raise money to pay their debts. There's basically no gold-denominated debt (as fas we know). Thus gold is a really great thing to sell (to raise cash). Very few people have an acute need to own more of it".

2) Stocks for traditional defensive plays and internationally diversified blue chip companies will get trashed in a deep crisis and do not provide any protection at all.

3) I question whether there is really such a thing as "debt of ultra safe developed countries". As shown in this list from Wikipeia of countries by external debt, developed countries for the most part are carrying high debt loads and a world wide bout of inflation causing bonds to lose value is a possible consequence of a deep crisis.

Thus, while this so called catastrophe portfolio is not terribly risky if the world wide economy continues to muddle along, I am doubtful that it would perform particularly well in a deep crisis. My model catastrophe portfolio would be much more highly leveraged, and also much riskier.

What We're Reading - Wednesday

Numerous commentators have noted that the negotiations over Greek debt are simply about kicking the can down the road and will likely just exacerbate future problems. However, the following article illuminates that the 50% haircut being considered will do absolutely nothing to solve the structural problems with the Greek economy, and much of the pain will be borne by already weak Greek financial institutions.

Also, I think it noteworthy that so little is being posted about the reaction of Greek unions to the passing of the austerity measure last week. News and opinions about the potential for continued economy sapping strikes have faded from view. Stunning that media attention has moved almost completely away from reporting on the economic meltdown in Greece and the impact of the past week's shutdown of transportation on critical economic activities including tourism.

A Haircut For the Bold or the Bald

How difficult will it to get the U.S. back to a balanced budget? As pointed out by Karl Denninger, the size of the cuts required seems overwhelming. And despite the Republican's attempts to pin all the blame on Obama, the party cannot escape the culpability of Republican legislators and presidents for the explosion in U.S debt.

The Republicans Bear Present UNITARY Responsibility

Barry Ritholtz posted an interesting synopsis a couple of days ago from an interview with Felix Zulauf. Given that he has a pretty good track record, the interview makes for an interesting read.

Felix Zulauf: The Die Is Cast