Sunday, January 27, 2013

Roots of Risk


I've had the experience twice in my life.  Once was on a Hunter 45 sailing south from Sydney towards the Bass Straits and once was in an Vesper 15 kayak paddling out of the Chilkoot Inlet in Haines Alaska.  The seas were rough but manageable and the thrill of pushing the prow through the rolling spray was intoxicating.  And then, as if knowing that I was beginning to feel a sense of dominion over the wind and waves, on the horizon came the foreboding apparition of swells, vast and terrible running in a cross current to the chop I was navigating.  The impulse to turn back danced with the impulse to rise to the taunting, inviting seas and, in both instances, I had the good sense to let the latter win.  Otherwise, I couldn't write this post.  Crossing the line into that which is so evidently more powerful than one's own capacity is where you learn to dance with the cosmic forces far greater than you.  It's where all faculties are most acute making all senses palatable and incarnate into the deepest sinew.  You're alive!

My experience was harmonic with the 8th century BCE reality embodied in Homer's Rhapsody M.  Here the sea cliffs (Latin: risicum) are fitted with a olive tree root (Greek: rizikon) to which Odysseus clings to save his life when his ships are crushed.  It was the Romans who chose the "cliff" part of this Greek allegory which began framing our ontology of "risk" meaning the possibility of adversity, loss, injury, or harm.  The idea of risk intersecting with finance was born of Mediterranean, French and English traders who used the term to refer to unavoidable losses at sea.  The insurers of modernity are inextricably linked to the Lloyds of London insurers who integrated the Arabic az-zahr for dice into the French game using dice hasart and merged this into the commercial loss at sea (hazard) insurance of today.

This week I encountered financial "risk" on several occasions.  The term is thrown about most often to justify Ignorance Enhanced Usury - one of the most ubiquitously condemned practices throughout ALL human traditions - which is alive and very well today.  The reason why venture capitalists are 'entitled' to higher returns is because start-up ventures are 'risky'.  The reason why the largest 'ethical' fraud on the planet - microfinance - has to be fraudulently laundered as social responsible investing (now, politically correctly called "impact investing") is because this 'risk-distributed' financial source provides capital in 'risky' markets.  The way to understand the 'opportunity' provided by a novel business is to get one's head around all of the 'risks'.

Investing in a country other than a member of the G-20 does not involve more 'risk'.  It involves personal interaction.  That's right, when you become a trusted counter-party in any jurisdiction you: a) make more discernment-filled decisions; and, b) have others who align their interests with your own thereby stabilizing an environment in which mutual benefit is possible.  Rooted in mutual understanding and informed respect, one actually reduces the likelihood for loss and harm.  Investing in a start-up venture does not involve more 'risk'.  Demanding that a new venture yield cash sufficient to pay back effective interest rates at over 25% is lunacy and it is the capital providers - not the ventures themselves - that actually fail in their investments.  Ironically, statistics on business start-ups are horrifically misleading.  Many of them make it.  Tragically, the ones that get usury financing - the venture capital lot that are publicized and therefore counted - fail at an observable scale because the capital was asymmetric to the business productivity.  Rooted in aligned, productive focus, strategic capital actually nourishes the growth of business for greater productivity in the future.  Fear and ignorance in markets do not necessitate more 'risk'.  Providing prudential confidence derived from empirical experience in the form of insurance can root a venture confidently in an environment perceived to be filled with uncertainty.

Listening to an executive from one of the world's over $1 trillion asset banks this week, I was particularly fascinated with his use of the term 'risk'.  Without exception, one could have substituted the word 'ignorance' for every use of 'risk' with exactitude.  An intrepid group - to which this man belonged - within the bank is trying to encourage greater transparency and innovation.  Regrettably, the roots of this bank are in privacy and secrecy - insuring that deposits and transactions happen within occult discretion.  When one attempts to insert transparency and innovation into a structure whose foundation was the precise opposite, the inertial dissonance is self-evident.  Going into 'riskier' markets?  I think not.  They were just going into markets where they have institutional ignorance.  Not sure how to quantify the 'risk' and 'returns' in new assets?  I think not.  They were incapable of considering metrics that were transparency-optimized rather obfuscatory in nature.  I recalled a conversation with my dear friend and, without exception, the most enlightened member of a banking executive team (also over $1 trillion in assets and also European based).  We were sitting in the rain talking about the history of his bank - one that grew from agrarian roots - and I challenged him with the following question.

"Why is it that we don't have Chief Synergy Officers to insure borrower success in all banks where we have Chief Risk Officers to hedge against borrower failures?"

The answer is self-evident.  Somewhere between the 8th century BCE and Lloyds of London we elected one of the two metaphors given the world by Homer.  And in times of fiscal cliffs, global financial risk, and perils on every side, we are blind to the alternative - the rizikon or root.  If we saw the story for its other narrative - the one where the crushing stones done dash the boats into pieces and send hundreds of men to their deaths - we'd see the story that calls for heightened, total environmental awareness.  An awareness that lets you see the root of an olive tree to which you can cling and rise to new, epic heights.  Abandon that which you've called risk that is fear, ignorance, and in its worst, immoral usury and abuse.  See the root that feeds the succulent olives, cling to it, and truly live!

Sunday, January 20, 2013

Diet Pepsi and Twinkies


In December 2007 as the U.S. and global economies were careening off the cliff, Fed Economist Dave Stockton reportedly stated that the economic outlook for the U.S. economy was "benign…[and projections were] unimpaired and on nothing stronger than many late nights of diet Pepsi and vending-machine Twinkies."  What a prophetically ironic metaphor seeing as Diet Pepsi has succumbed to PepsiCo's collapsing market relevance in the face of their arch-rival Coke and Twinkies, the preservative laden fluffy pastry, is bankrupt.  Add to that the Center for Science in the Public Interest's report in March 2012 that 4-methylimidazole (that caramel coloring that makes cola's their distinctive donkey urine on a Grand Canyon hiking trail color) is a carcinogen with the average soda can containing over 500% of the State of California's public safety benchmark and it's not really surprising that we neither diagnosed the condition leading to the much ballyhooed Global Financial Crisis (GFC) nor have we taken any meaningful corrective actions to fix it.

While most of the Eastern seaboard was dealing with the almost storm that almost happened to almost dump a bunch of snow on us here in Charlottesville (yes, I wanted a bit more than the dusting we received) the Federal Reserve set a new record with U.S. Treasury and mortgage holdings at a whopping $2.946 trillion (with a "t")!  And with Atlanta Fed President Dennis Lockhart's dire prediction that "large scale asset purchases" are likely to be necessitated due to the sluggish economy in 2013, this all-time intervention record is likely merely the qualifying line for records that will be smashed throughout the year.  In the Olympics of financial intervention, we've got our Usain Bolt without the Jamaican charm.  Let the games…begin?...continue?...whatever!

Two wrongs don't make a right.  That goes for Twinkies being sloshed down with carcinogenic Diet Pepsi; a GFC manifest in mortgage debt abuses being resolved with mortgage debt abuse; and the architects of a disaster being entrusted with its remedy.  And while I'd love to delve into the precise economic policy issues illuminated in Fed's January 16th record setting 'asset purchase' report, I thought it might be informative to land this commentary a bit closer home.  The intervention of the past few years (suppressed interest rates and Fed purchase of mortgages) actually have grave implications for all of us.  The penny of pain deferral in the moment comes at a pound of agony later.  And, ironically, this pain will respect no asset class being felt more in its magnitude by those with the horded most.

Many of us hear about the foreign ownership of U.S. debt representing about 1/3 of the total public debt - with popular demonization of certain large Asian holders.  The Federal Reserve and U.S. public institutions including Government Sponsored Enterprises (GSE) hold just over 40% while the individual consumer / investor (represented by pension funds, insurance companies and mutual funds) hold about 12%.  On the present trajectory, we could see the Federal Reserve owning about 1/3 of the mortgage market by 2014 (if it continues its current purchasing policy) and about 2/3 of the longer maturity debt issued by the Treasury.  Unlike investors who invest earned dollars and seek investment returns for actuarial income required in their projection of the monetary future needs they'll face, the Fed's 'asset purchasing' behavior is based on its ability to buy using its own whimsical capacity to buy.   Far from a 'fair market' buyer, the presence of a fiat buyer actually alters price dynamics. 

Imagine the following scenario.  You and I go to the grocery story to buy a $1 loaf of bread (o.k., seriously, we know that it's not even a muffin at today's prices but work with me!).  When you pay for your bread, you use a dollar from your wallet.  When I pay for my loaf, I use a dollar from a Monopoly game.  Both 'dollars' are accepted by the grocer who, in turn, deposits both in the retirement account for her employees.  By having non-par 'dollars', the immediate effect on the asset (the bread) is that I have effectively devalued it.  But worse than that, when, in the future, the employees withdraw their retirement account, they'll have far less than expected.  In fact they'll have not just half but the half less the unearnable return that they did not receive on the non-par dollar.  And this is the good news.  The bad news is that the Monopoly money actor - not investing for retirement or future returns, will liquidate their non-investment as a function of their extenuating need - not as a function of the asset appreciation.  This yield decoupled sale could artificially flood supply onto the market and drive down the price.  In the case of the Fed, there is the added complexity in that they have competing financial instrument interests.  Depending on the timing of their sale of Treasuries or mortgages, their sale of one (given the fact that they are holding long-dated Treasuries and long-dated mortgages - both 30 year), the price drag of their sales will decrease the book value and liquidity of pensions, insurance payment capacity, and other cash flow considerations of the average citizen.

In the Panic of 1893, President Grover Cleveland turned to J.P Morgan to loan gold to the U.S. Treasury to keep it from collapsing in exchange for 30 year bonds with a 4% interest rate.  Twenty years later this private capital means of financing the public debt was institutionalized with the formation of the Federal Reserve.  During this tumultuous time, private investors wielded considerable advantage as they not only owned the operation of the government but they also controlled the means of production and commerce (the actual productivity of the U.S. economy).  Setting aside the morality of this dynamic - I know, that's a bit hard to swallow, but bear with me - the good-old-days model concocted by J.P. Morgan and his allies was far more robust than the unimaginative approach taken by the Fed today.  Morgan could actually insure his repayment by aligning his self-interest to the industrial production of the country.  By purchasing competing, non-productive assets at equivalent durations, the Fed is doubling down on the exact same factors that triggered the GFC in the first place.  Remember that the GFC - mislabeled a 'mortgage crisis' - was the consequence of pairing consumer debt (accessed through cheap money second mortgages) actuarial risk with real estate asset risk.  While the symptom showed up looking like mortgage influenza, the actual virus was unsustainable debt fueled consumption.  By suppressing interest rates through contrived purchases and by effectively undermining real asset value, we're actually building a bigger risk than the GFC of 2007-2008.

There's a 'real value' super-storm brewing.  While the leading bands of the storm will be filled with the windy bluster of debt ceiling posturing, the real eye of the storm is brewing around the paired devaluation effect of Fed balance sheet intervention.  If unaltered, the resulting illiquidity for pensioners, the insured, and investors alike will directly harm the economy for the actuarial debt maturity horizon - the next 30 or so years.  Once again, it's time for each of you, and those about whom you care, to become more conscious about the harm being done by passivity in your investment management and start aligning the capital you steward to things that actually unleash the productivity of yourself and others.   The last time the private banking sector managed this process, we got a Great Depression and a World War.  If a few self-serving actors can co-opt the system for their nefarious purposes, it's reasonable to assume that a few actors with good intent can achieve equal effect with a more laudable outcome.

Sunday, January 13, 2013

Illumination Becoming Dark


Archimedean Theorem VII

I am indebted to the intersubjective signal encoding of language and the metaphoric abuse of the global patent system for the title of this post and for the portal it affords this week's commentary.  In Asahi's U.S. Patent 6,001,058 issued in December 1999, Hiroshi Sano and his colleagues claimed to invent an interchangeable power supply for a surgical endoscope.  In their patent, they describe the dimming of a light when the battery dies with the following embellishment:

 there are cases where the battery runs down, and hence the illumination becomes dark

In a week where Aaron Swartz ended his tormented life at the age of 26 partially as a consequence of his exasperation at a system that locks information behind contrived economic monopolies after being funded by public research; and, in the same week that public officials seriously discussed defrauding the world with a platinum coin, I'm sympathetic to the prophetic irony in this Japanese patent.  Contemporaneously, I was delving into the works of several philosophers in a quest to disentangle my inexorable conviction that our present manic systemic failure is entirely a function of the optics with which we observe ourselves and the world in which we live.  And, courtesy of the platinum coin option (the legality of which hinges on the fact that our laws only govern coinage limits on gold, silver, and copper) I was struck by the irony that our moral and financial default could be 'solved' courtesy of the periodic table.  

Whether we give Empedocles or the Babylonian Enûma Eliš credit for the notion of essential elements (fire, air, water, and earth) or expand our view to include the Buddhist and Hindu insight of the animating fifth aether or akasha, our present thinking is inextricably linked to the work of Russian scientist Dmitri Mendeleev.  Mendeleev began classifying elements based on their atomic mass in 1869 and presented his findings to German scientists who appreciated the quantifiable discipline of his approach.  But it's English physicist Henry Gwyn Jeffreys Moseley's X-ray spectroscopic analysis in 1913 that actually illuminated the path to our precise understanding of elemental differentiation by understanding the diffraction of energy through crystals.  Regrettably for Moseley, his inquiry was abruptly ended on August 10, 1915 when Atomic Number 29, propelled by a rapid interaction between Atomic Number 8 and Atomic Numbers 16, 6, 19, and 7, ripped through his body in the Battle of Gallipoli.  Another bright 20-something communicator and scientist, like Aaron, exterminated for the noble cause of…?  It's not the guns that kill people, right?

Now by now you're probably wondering what this meandering missive has to do with the economy or the usual InvertedAlchemy fare.  Bear with me my intrepid friend.

Somewhere around 1668 we began segregating light with greater fervor than the 15th century early Renaissance glass and paint masters who allowed life to reflect in their expressions through a deeper understanding of light.  Newtonian optics, inspired by nearly three centuries of inquiry, sought to understand stellar light by enhancing the powers of observation.  While Himalayan masters aspired to cosmic reunion through ascension, European occultists sought to reel the light in.  Ironically, both introduced a common Archimedean obstruction - dimension.  Essential Light, both literal and metaphoric, does not transform when we obstruct it through geometric forms.  By placing a prism in a coherent flow of energy, we don't understand light more fully.  In fact, through diffraction, we actually create the illusion of uncommonality and by segregating perceptible boundaries, we actually more clearly apprehend less.  Christiaan Huygens 1678 postulate that spectral waves travel "forward", and Francesco Grimaldi's (the progenitor of the term "diffraction" in the 1660's) notion of directionality discerned through interference entirely ignore the persistence and dynamics of the energy of that light (or other energy) that is not subject to our introduction of obstructions.  

Here's where I hope a few of you have the 'ah-ha' moment.  Those places where we're drawn into the complexity of our 'problem space' are likely also those places where we've introduced obstacles of segregation which, when removed, also render the problem ephemeral.  Swapping out prisms, while more precisely clarifying the pathetic segregating dissociation of ourselves to our ecosystem, is actually not the solution.  Further contributing to our confusion is our incapacity to observe phenomenon in motion.  I am sympathetic to Max Karl Ernst Ludwig Planck's lifetime effort to rationalize action quantum into static representation ultimately representing his insights with a precisely infinitesimal number 6.62606957(29) x 10-34 J•s.  When taking the periodic table elemental atomic stasis and turning it into the animated motion picture called reality, you need the Planck constant shutter speed to see life happen.  Talk about I-MAX, Dolby-Surround Sound!  It would be virtually reality!  Or you could just walk out of the theater of illusions and experience…wait for it… REALITY!

So here comes Archimedean Theorem VII (for those counting):

The greater the segregation of diffracted categories in an observation of intractable problems, the more dimensional obstruction is being placed in the path of unconstrained energetic emission.

Charles II was King of England, Oliver Cromwell was posthumously executed, the Qing Dynasty was dealing with small pox with vaccination technologies, the Hudson Bay Company was making 'lasting treaties' with the North American tribes, and we formalized the breaking of light for its understanding nearly 350 years ago.  As I consider the present situation, I could infer that, to quote my Japanese inventor, the "illumination becomes dark."  We are, in fact, in Plato's Allegory of the Cave.

Plato wanted a philosopher to come into the cave to enlighten the prisoners who were chained to the wall and forced to watch the illusion of reality played out in shadows on the blank wall.  But herein lies the irony.  The shadows in Plato's cave are now actually cast by the prisoners and, if one casts light into the cave, we'll have to come face-to-face with the reality that we've been blocking the light and projecting our own illusions.  Our separations, our conflicts, or struggles are of our own animation.  When we want the drama to end, we merely need to stop the show.  That would involve accountability.  That would involve each of us acknowledging the role we've played in deceiving ourselves and others into thinking that crisis and resolution is the mandatory cyclical monotony of life.  It isn't.  Let there be Light!

Saturday, January 5, 2013

Color of Poverty


 King of Beers, Lords of Litter, what's up with Blue?

I ride my bike on the back roads of Virginia as many days as the weather and my crazy schedule permits.  On these rides I frequently contemplate life's puzzles and today was no exception.  As the icy cold air pierced my pulmonary epithelial lining…o.k. I'll keep it real.

I had barely turned down Old Lynchburg Road to climb the first 100 ft of the 1,000 ft. of undulating grades I'd traverse today when the bright blue litter of a Bud Light can caught my eye.  A few feet further, another Bud Light can.  Over the past several years, I've been intrigued by the proliferation of roadside litter and I've been puzzling over why it seems that Bud Light cans, with their bold blue blaze, seem to outnumber all other forms of litter by a considerable margin.  So today, after my ride, I enlisted my environmentally aware son to do a little roadside recycling cleanup and litter research.  The results (now in our recycle bin) were staggering.  Bud Light is far and away the favored litter for drivers who drink while driving on our local roads.  Check out the cool graph below!

 But what was more cool than confirming my hypothesis was where my brain had gone as I rode past miles of Anheuser-Busch artifacts of moral bankruptcy and sociopathy.  I was intrigued by the fact that the blue of the Bud Light can - a remarkably unnatural blue when strewn among leaves and grass - bears an uncanny proximity to the blue of another symbol of moral bankruptcy and collective sociopathy.  The blue polypropylene tarpaulin.  If you've traveled around the world as I have, you undoubtedly have observed the ubiquitous blue that provides shelter to hundreds of millions of people around the world.  The blue tarp, a legacy of the 1954 innovation by Italy's Giulio Natta and Germany's Karl Rehn, has become the iconic shelter for those who society has thrown to the side of the proverbial road.  From Mumbai to Cuzco, from Cape Town to Ulaanbaatar, you can learn a lot about a nation by the approach into the international airport.  When you look out the window and see the blue tarps, you know that global economic injustice is alive and well.  (I think that's it ironic that the Federal Reserve used the acronym TARP to name its response to the persistent financial crisis given the euphemism of tarps being transient shelter in times of disaster).

Why blue?  Well, according to David Hudson, Vice President of Government Affairs at Strategic Materials Inc, "…blue is perceived by consumers as being a premium in the marketplace."  This, among other reasons, is why Anheuser-Busch selected blue as their iconic (and easily identifiable in roadside litter) color.  Blue in polypropylene serves as a nucleating agent and actually assists in the mechanical properties of tarps giving them more elongation and UV-resistive properties.  For beer, blue is better.  For keeping the elements off suffering humans, blue is better.  But in both instances, blue is not the natural blue of water or sky.  It's an industrial contrivance that says, "I'm not natural."

But that's the interesting bit that I pondered while I rode off the last of the holiday calories during my frigid ride.  The tarps that provide fleeting shelter from the sun, the cold, the rain, and the snow can be seen as an aesthetic assault on the landscape.  They can trigger a judgmental, "There but for the grace of God…" faux sympathetic impulse as we speed to our more suitable confines in hotels and homes.  Or, like the litter on the side of the road courtesy of consumers of Anheuser-Busch's products, they can invoke a call to action.  They can animate an impulse that acts to bring genuine shelter to those who storms of nature or storms of economic injustice have harmed.

Bud Light cans and Bombay tarp slums are more alike than one might think.  Both remind us of the unnatural malignancy of indifference.  A can thrown from a car window and a family huddled against the monsoon both exist in a broader consensus neglect of a conscious engagement with humanity and the environment in which we live.  Both evidence a personal disregard for the consequence of consumption at all cost.  Both are discarded in a moment with, at best, the fleeting thought that somebody else will clean up the mess.  But both of them are… blue.  Blue, the color associated with serenity, sadness, peace, aloofness, contemplation among western psychologists and social scientists, serves in Himalayan and Asian traditions as the color of sky and heaven for sutras and prayers.

Poverty exists in dimensions far outside of monetary status.  It is not merely a lack of material possessions.  Its yawning jaws stretch around lack of sensitivity, human awareness, environmental intelligence, self-care, and engagement.  And as we reflect on the parable of today's ride, I trust that you allow the blue of neglect to become your chromatic signal to engage with humanity.  Rush headlong into action - building houses for those without, inviting the homeless into your shelter, recycling refuse from the roads you transit - and in so doing, you'll be the richer!