Tag Archives: risk management

Psychology and Econoblogging

Edward Harrison wrote a really good missive on the nexus of psychology and the econoblogosphere (Confession: I need more coffee before I try to say that again).  Back then, here’s what he said:

Over the past few months, as the evidence of a potential bottoming has grown stronger, I have moved away from the bearish view toward a more bullish stance. Yet, I do get the distinct impression that many commentators in the blogosphere do not share my renewed optimism. Their view is rather dark. Mind you, I am no out-and-out wild eyed bull. Nevertheless, I do think my increasingly upbeat views stand in contrast to most of what you read in the blogosphere about the economy, the market and the banking industry.

via Through a glass darkly: the economy and confirmation bias in the econoblogosphere | Credit Writedowns.

Which was definitely warranted, for a trade.  My concern then, as it is now, was the possibility of sudden disappearances (and more importantly, reappearances) of the liquidity trap door.  Perhaps it wasn’t as justifiable then as it is now, but each of us have different risk profiles.  That’s just a fact.

And when it comes to the stock market, Kevin Depew offers this reminder from a piece in October of last year (emphasis mine):

It’s always good to remember that the stock market is not the economy. Every day I come into the office to find literally dozens of emails complaining that the market is ignoring the relentlessly bearish news flow. But that doesn’t bother me. What will bother me is when we start getting good news. Markets tend to reach exhaustion on good news, not bad.

via How Much Longer Can This Bear Market Rally Last? | Business & Markets | Minyanville.com.

Mood and sentiment.  They drive so many of our actions and reactions, but I don’t think we are always that well attuned to them.  Numbers are meaningless in an environment devoid of context.  Which makes dealing with the issue of confirmation bias so problematic.  Going back to Edward’s post, here’s what he said and my two cents follows:

Here’s my take.  Humans are naturally pre-conditioned to seek confirmatory evidence once they have made a conclusion.

Indeed.  Never let the facts get in the way of your conclusions.

He also offers up this thought, which I think we can all relate to:

Think about this for a second.  When you have bought a car, a house, quit a job, gotten a divorce, taken on a new job, what have you – did you sit around looking for ways to figure out why those decisions were wrong? Unless, you are a masochist or in need of some serious therapy, the answer is no.

Well, maybe I’m a masochist because I do spend some time doing this.  I don’t think I ever have full confidence in my thought process, partially because I’m willing to accept my own limits, partially because of a number of other things.  I don’t obsess over my decisions, but I do look at them and wonder what I could’ve done differently.

Also, because it seems like these days there don’t seem to be any clear-cut decisions.  They just seem to be choices that offer bad and worse outcomes.  And again, each person’s definition of what’s “bad” and what’s “worse” depends on how we define them individually.

So whose right? And whose wrong?  Sadly we’re not going to know the answers to those questions for years to come.  The best we can do is be willing to challenge ourselves.  To do, as the ancient Greeks used to say, “know thyself.”

But make no mistake.  That’s not an event.

That’s a process…

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Filed under About me, finance, macro, Markets, risk management, Way Forward

What if the Next Shoe to Drop is Oil?

File this under “buses you don’t see coming.” I’ve been giving the Dubai/UAE situtation some thought, trying to map out scenarios and possible second and third order effects. So far, I’ve been thinking mostly of the credit problems, but in an effort to keep an open mind about the relationships between asset classes and their risks, I’ve been trying to piece together an entirely different scenario… and I think I’ve got it.

Looking at the newsflow out of the Persian Gulf region, things don’t seem all that cheery on the Arabian peninsula. The folks at the Financial Times and FT Alphaville have been talking a lot about the problems with investments by Dubai/UAE (nothing new, but read this and this), and now Kuwait. Apparently, Kuwait has been guilty of the using the same tragic investment strategy as Dubai: real estate, private equity, and stocks.

Funny, but I’ve heard that before… I think it was in Larry McDonald’s book, where he talked about how much risk the company was taking. How much risk they were oblivious to…

But let’s get back on point. To talk about scenarios we need some data, some plausible linkages between the data, add in the current situation and the options available to respond, and voila you have a scenario.

So first, let’s look at some data. I’m going to throw in a few charts I have that show the incomes of these government sponsored enterprises in Kuwait and the UAE:

Here’s a Y-o-Y chart of the same data from the UAE:

At the same time, oil/hydrocarbon exports have literally been fueling growth:

So while these GSEs are starting to rack up losses on their investments, dependence on oil exports has only gotten stronger.

All the while, the “cheap” credit they used to buy all of those assets is getting more and more expensive. So now if we think about the possible ramifications of asset deflation in the real estate, private equity & stock holdings these government-backed enterprises have, we arrive at some real stark choices really fast. There’s defaulting on the debt, liquidating the assets, extending and pretending, or selling oil.

Default prospects are rather fuzzy at the moment, since there is some debt that might be defaulted on while other debts will not be. Liquidating the assets? In this market? Extending and pretending won’t work in this case either because a number of the projects are unfinished and won’t cash flow as projected.

So that leaves us with the possibility of selling oil to pay off the debt. And these won’t be small bite-sized sales, but rather large oil sales to cover the debt that needs to be rolled/paid off. Next is the weekly chart of the nearby crude oil contract (hat tip: CME Group):

There’s no point in looking at a 15 minute chart, a release of oil reserves the size these two countries need to execute for debt payoffs would put a lot of supply in the market. And looking at the weekly chart, crude has been drifting higher. Price action is more like dawdling, actually, but after bouncing off of last year’s lows it has meandered higher. Based on this, I don’t think the market could easily absorb that kind of supply.

And as I alluded to in weeks past, a drop in oil prices would hurt some countries, just not the ones you’d think.

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Dubai Bailout Rally Evaporates on Standstill Silence (Update2) – Bloomberg.com

So, where do we stand on the, well, standstill agreement?

Dubai World, in talks to reschedule $22 billion of debt, failed to present an offer in a meeting with lenders in December and declined to say when a deal may be struck. Dubai Electricity & Water Authority said Jan. 17 it delayed a $1.5 billion bond sale as borrowing costs were too high.

Lack of clarity on Dubai World’s restructuring plan “is creating uncertainty that is weighing heavily on the market,” said Rami Sidani, the Dubai-based head of Middle East and North Africa investment at Schroder Investment Management Ltd., which oversees about $230 billion worldwide. “We’re not out of the woods yet and we know Dubai will continue to struggle with a debt burden.”

via Dubai Bailout Rally Evaporates on Standstill Silence (Update2) – Bloomberg.com.

So there’s nothing being said, nothing be done. The article continues:

“The Dubai World restructuring is going to be a long and tedious process,” said Shehab Gargash, a managing director at Dubai-based Daman Investments who’s holding half of his $1.5 billion under management in cash. “That’s the main reason we decided to stay out” of Dubai’s “bear market rally,” he said.

A proper, conservative stance given the uncertainty and lack of details.

But the debt refi/roll parade isn’t over. Apparently, there’s another $13bn in debt that matures throughout this year, according to the article.

So while the world waits to hear and outline the strategy going forward to handle Dubai World, time keeps on slipping into the future.

And with it, so do the values on that Dubai debt…

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Frank Rich Op-Ed: Were The “Aughties” The Age of Willful Ignorance? – One City: A Buddhist Blog for Everyone

This is rather cogent:

Frank Rich is a great writer, whether you agree with him or not. It struck me that so little notice has been paid so far to this decade coming to a close, and maybe that’s because we all want to forget it. Why dwell on the negative, after all?

So, if there was a primary klesha (mental affliction) of the aughties, what was it? My vote goes to ignorance, a willful and deep-seated habit to avoid looking truth in the face, even if the false brand creates more havoc than simple honesty ever would.

via Frank Rich Op-Ed: Were The “Aughties” The Age of Willful Ignorance? – One City: A Buddhist Blog for Everyone.

Recently, I read this blog about risk management. One of my tweeps, Lawrence MacDonald had a comment that got me thinking:

I think that’s been a common perception. Because risk management is just like any other skill: if you don’t practice it, you’ll eventually lose the ability to do it. Just look at Lehman. Or you can choose from this list if you need more examples of what not to do.

But is that all there is to it? Risk managers were just being blown off? I wonder if there was more to it. I’m inclined to believe there was a lot of ignorance going around. Largely because people just wanted to avoid facing problems.

Consider family members: how many of us have a member of our family with a chronic health condition that they must control on a hourly/daily basis, yet they refuse to do so? Ignorance and denial are very powerful if left unchecked. As an example, my family’s health history includes fun conditions like cancer (3 folks died of lung cancer, 1 had liver also), high cholesterol, Type I & II diabetes, and high blood pressure. Not pretty. But I don’t smoke, I’m not an alcoholic, and the other risks I control primarily through diet & exercise (although I did a poor job this year). I don’t bring this up to toot my horn or pat myself on the back, but the truth is, I felt it was important enough for me to know what my risks were and how to control them while I still had a choice in the matter.

And that’s the whole point behind effective risk management. Always putting yourself in position to control your response to situations – not have them dictated to you by the choices/actions of others.

I’ve said it before, I’m sure I’ll say it again: collectively, we need to get ourselves and this economy into rehab. The pain will be great as we subject ourselves to the withdrawal symptoms of breaking our habits that have been brought on by cheap liquidity and moral hazard, but we’ll be better off for it once it’s done.

Until then, I just hope we – like a junkie whose been ravaged by the availability of cheap opiates but truly sees themselves in the mirror for the first time – admit we have a problem and admit the way out of this mess will be different than the way we got into it.

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