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The Calculus of Lockdown

Lockdowns have become commonplace as a way to prevent or stall a flare-up in Covid-19 infections.  The justification for a lockdown must be more than just saving the life of the 1% or so of those who get infected since there are significant costs placed on the broader community.  These costs can be as minimal […]

The US Presidency: from shock to horror

If there was one thing that we could all agree upon about the Trump Presidency is that it was entertaining.  One could not wake  up in the morning without reading about the latest Trump gaffe/embarassment/disgrace from a leftist media seeking to undermine his authority. Whether he was commenting on the attractiveness of fellow President’s wives (‘she’s in good shape’ was his comment about the French President’s wife) or advising Americans to use anti-malaria pills to fight Covid or some development relating to the Mexican wall, the daily news feed from Washington was rarely without its shock value. Plus it was entertaining…

Trump  has gone and Biden has taken over.  The ‘fun’ has left the Presidency and a smug media corps are basically keeping mum about the HORROR that is unfolding in Washington.  From an economic standpoint, one of the most destructive policy regimes imaginable has been unleashed on the US and they are pressuring the rest of the World to follow suit or suffer reprisal.  Joe Biden and his trusty henchperson, Janet Yellen, are rapidly orchestrating a death-dive for the US economy.

In short, Biden and Yellen have decided to raise the Corporate tax rate from 22% to 28% AND are pressuring their allies to collectively adopt a minimum corporate tax rate of 23%.  The first leg of the policy is the standard Socialist wealth redistribution. The second leg is designed to stop  the incentive for US wealth creators from opting out by migrating to another, lower taxed jurisdiction.

The surprising villain in the horror movie is Janet Yellen.  Her comments and public appearence as Governor of the Federal Reserve did not, on the surface, appear radically left wing.  In hindsight, however, Yellen displayed a penchance for unjustifiable policy actions when she uniformly raised interest rates from zero to 2.5% even though there was no hint of inflation.  At the time it never occured to me that this was an act of a radical Socialist. At the time she reasoned with the markets that she was reloading the policy canon in case the US suffered a negative shock.  She could not stimulate the economy, she argued, if interest rates were already zero.  She needed room to lower rates and that could only be attained by raising them. But now that looks like a fabrication. The real objective was to force higher borrowing costs on US corporations.

One of the great insights of New Classical economics is that monetary policy is largely benign whereas Fiscal policy (taxes and spending) is extremely potent. Yellen has armed herself with the canon that she craved at the Fed.  A further insight from the New Classicists is that tax-and-spend policies will have strongly negative effects on growth when the taxes reduce the marginal rate of profit and the spending does not compensate for the negative incentives.  This ‘killer-combination’ is exactly what the Biden-Yellen combination are delivering. We are witnessing a train crash. 

Donald Trump may have been a national embarassment but at least he cared about the little man.  Biden and Yellen want to drive businesses broke and put people out of work.

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Robinhood, the Efficient Markets Hypothesis and the Gamification of Investing

30 years ago, investing was a serious business.  (Actually, it was no more serious than it is today, just harder to access.)  Opening a brokerage account required minimum balances that were beyond the reach of the average twelve year old, placing orders was manual requiring multiple telephone calls, settlement was T+5 for equities and commission rates were high and non-negotiable except to the most well-heeled investors.  These days, technology has wiped out several layers of human intervention to the point that an individual school girl – lets call her Marion – can buy a fraction of a share in her favourite Chinese Dance-Tok company using her mobile phone during play-lunch.  Robinhood is the market leader in this astonishing technological advance allowing Marion to spend $5 on Dance-Tok shares without any trading fees whatsoever.

Robinhood has made Marion’s investment experience into something resembling a mobile phone game.  A successful trade is trumpeted with a congratulatory rift, confetti streams across the screen and happy faces report profits.  Robinhood is also accused as one of the major brokers involved in the Gamestop ‘rocket event’ where a group of like-minded investors began purchasing the company’s stock at higher and higher prices for FUN.  Gamestop was ripe for a short-squeeze on account of some high profile hedge funds being negative on the stock.  As the stock rose from $8 to $50 the shorts were forced to cover and onward went the shareprice to $460 at its height.  Unlike the traditional approach to squeezing shorts where a small group buy the majority of the outstanding float of a stock, this was a ‘crowdfunded’ voluntary coordinated effort that drove Gamestop’s price far beyond its arbitrageable limits without attracting arbitrage.

The Gamestop – rocket has largely come back to earth and the regulatory post-mortems have begun.  Robinhood’s gamification of the investing experience is directly in the sights of the SEC, congressional lawmakers and various agencies.  Is an app that opens up the investment markets to the Marion’s of society such a bad thing and should it be allowed to be ‘FUN’?

The Efficient Markets Hypothesis (EMH) has a lot to say about this issue.  In its simplest form, the EMH posits that the current price of a security is an unbiased predictor of the range of future outcomes for the stock.  Another way to think about it is that the price of the stock reflects all publicly available information so that there can be no advantage to any individual investor from studying what is already known in the market.  This is great news for Marion and her friends who decide to purchase IBM, JPMorgan or Dance-Tok during play lunch.  The EMH promises that her investing experience will be just as safe as any other investor in the markets – she is on a level playing field with all other investors.  The EMH also posits that the expected return on a stock must be positive in order to induce investors to hold it (there are exceptions to this rule) so that Marion’s investing game actually has an expectation of making money whereas most other games require in-app purchases which are costly to keep playing.  Robinhood therefore finds a lot of support for its app from the EMH.

The EMH, on the other hand, has a tougher time defending the cohort driving Gamestop’s rocket experience.  $460 is a long way from a fair-value range for the stock of $5 to $10 as some analysts had posited.  As the stock price rose many times short sellers must have been tempted to sell.  However, this risked being slammed by the cohort of rocketeers that simply bid up the stock at every opportunity.  In its strictest form, the EMH requires that a self-financing portfolio should not have a positive return.  This is the rule against a money-machine that costs nothing to operate but spits out money at various points in time with no risk of a negative outcome.  On this logic Gamestop’s rocket did not violate the EMH since there was always a chance that some rocketeer would push the stock price higher for FUN thereby causing a loss to short sellers.  At some point, of course, the rocketeers run out of money and the FUN stops.

I doubt that stopping the bells, whistles and confetti on Robinhood will make the app any less appealing or relevant to the new breed of investor.  Forcing Robinhood to charge a fee per trade, on the other hand, will kill the rocketeers but also force the Marion’s of society to seek their thrills in Roblox.  This would be such a shame

 

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SPAC’s place in the world

As its name suggests, a Special Purpose Acquisition Company (SPAC) is a listed cash box that acquires a private company to take it public.  At the time of its creation, the SPAC may state a broad purpose to source and acquire companies in a particular industry but the actual target is unknown when it lists.  Initial investors place their trust in the promoter to find a ‘good’ target however they have an option to redeem their investment if the proposed target is unsatisfactory.  The SPAC promoter has 2 years to find a suitable target or it liquidates.  The promoter, for their part, in general receive 20% of the target company once acquired. 

SPAC’s have been around for many years in various forms but they have become popular recently as a way for private companies to bypass the traditional IPO process in a post-Private Equity world.  The traditional IPO process has historically underpriced companies going public by 27% on average leading to criticism that the process is run by Wall St for the benefit of Wall St.  In 2020 and 2021, moreover, the degree of underpricing of IPO’s has been significantly more than that average where it is not uncommon for newly listed entities to double in price on listing day or more within a week.

Wall Street’s claim that a ‘successful IPO’ is one that delivers a stag-profit to favoured customers is at the core of the search for an alternative financing vehicle.  Stags’ gains are subsidised by the pre-IPO shareholders (founders, angels, venture capitalists and private equity investors) since these stakeholders receive less than the opening day market price places on the company.  For instance, an IPO which prices at $100 and raises, say, $100m in new capital, but then lists the next day at $127 per share delivers $27m to the new investors.  This $27m is money that long-standing pre-IPO investors don’t receive despite bearing much greater risk.

Disgruntlement with the traditional IPO process gave rise to the market for private capital.  ‘Private is the new Public’ enabled the likes of Spotify, Uber, AirBnB and a host of other new companies to grow much larger without accessing the public capital markets by drawing on pools of private capital entrusted to expert deal makers in the private equity and venture capital space.  These private structures were successful in meeting capital demands but could not provide either pricing or liquidity to shareholders.  This is an inescapable function of the public markets.  Is there a way to achieve a public listing without having to suffer the underpricing of an IPO?

Enter the SPAC.  To my mind the main difference between a SPAC and an IPO are the incentives for the promotors/lead managers.  IPOs have an incentive to underprice whereas the SPAC promoter takes 20% of the target so that they have an incentive to overprice.  Indeed, this seems to be the case with something like 60% of SPACs trading at a discount of 20% or more 6 months after completing their acquisition.  Wall St points to these numbers as failures but pre-listing shareholders who sell early are smiling. 

Of course the best result from a market efficiency standpoint is a listing mechanism that delivers a fair price at listing for existing shareholders without either subsidising Wall St or paying a large fee to a promoter.  This mechanism is a ‘direct listing’ which simply takes a private company into a public market and lets risk-takers  (real buyers and real sellers with real money) determine the market clearing price.  This was Spotify’s approach and everybody except Wall St and the SPAC promoters were smiling.

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Socialism fails once again in distributing the Covid vaccine

Reuters headline: “New York and Florida tell hospitals to dispense vaccine faster or lose supply” Jan 4 2021 Which of the following would you expect to see during a pandemic? A.  Unused vaccine serum sitting idle; or B. Shortage of vaccine supply It would seem that the natural tendency would be toward B – that […]

Covid Notepad 3…plus a comment on Brexit

If there was one thing that was certain to flow from the Covid-19 pandemic, it is the volume of fascinating new research into the way people and governments react to the danger that the virus creates. You may recall that early on in the crisis there were dire predictions of breakdown in the health systems’ […]

Why do political opinion polls seem like rubbish? PLUS the First Degree US election Special PLUS the latest release from DJ Dr Fish​

I have seen many electoral events where opinion polls uniformly over many months or years say the same thing. The Brexit polls, Boris Johnson’s landslide victory, Trump’s success in the US Presidential race in 2016 and Scott Morrison’s triumph in Australia in 2019 are recent examples of where opinion polls predict one thing yet on polling day a completely different result occurs.  Why is this?

The statistical theory is more damning than you think…

The problem is far more serious than most people understand.  There is very strong statistical sampling theory that says a relatively small sample from a large population will approximate the true population with, say, 95% confidence. Suppose that the preferred candidate has 53% support from the population of 200million voters.  Then a sample size of 1000 respondents should deliver an estimate of this mean between 50% and 56% and achieve this 19 times out of 20.  The probability of the sample mean falling outside this range is not a coin toss.  The probability of 2 polls being wrong is 1 chance in 400, not 1 chance in 4.

Therefore, if a succession of polls say the same thing but are wrong, the statistical likelihood of systematic error is negligible. Put anther way, polls are not worth the paper they are printed on.  

Sampling bias is a cop out…

The polling organisations blame sampling bias for their errors.  By this they mean that their respondent selection mechanism systematically omits a critical component of the population.  The favourite explanation for the US 2016 error is that dumb white people who voted for Trump don’t have phones.  I personally don’t buy this sampling bias argument due to the long term consistency of polling errors and the cross-section of consistency of all polling organisations saying the same thing. 100 polls with 1000 respondents each giving the same result is statistically equivalent to capturing the population in its entirety.  So how can the opinion polls be so wrong?

Maybe the opinion polls are right?…

My theory is that the polls are not wrong at all.  In fact, they are actually incredibly accurate at the time they are taken. When asked what their voting intention is a few months or even the week before an election, the respondents answer honestly.  My theory, however, is that the small number of swing voters don’t actually decide who they will support until they get into the voting booth. Once there, the gravity of the situation suddenly weighs heavily on their conscience and they do something different to what they told the phone pollster 5 months earlier or even the day before.

I support my theory with the fact that exit polls are incredibly accurate – “who did you vote for?” is a factual question as opposed to “who do you intend to vote for?”. The exit polls that were announced as soon as voting stopped over Brexit, Boris’s landslide, Scott Morrison’s underdog triumph and many other election events were shockingly correct. This suggests people go in to the voting booth thinking one thing but exit having done another.

Underdogs rule…

Related to this propensity to decide who to vote for while standing in the voting booth is the advantage of being the underdog.  If opinion polls uniformly predict one candidate as favourite then why not vote for the other guy? It can’t hurt can it? Achieving hot favourite status going into an election is a real handicap.  I vividly recall the Victorian Premier Jeff Kennett in Australia in 1995 entering an election with a massive 85% approval rating from the opinion polls.  How could he lose?  He lost simply because voters expected him to win!

First Degree’s US Election Special : Biden v Trump…

All this brings me to the Biden-Trump rumble that will be decided shortly. Biden and his supporters are in big trouble.  The political opinion polls are uniformly predicting Biden to be elected next Tuesday.  The pre-poll voter turnout is massive and from all reports the majority are in favour of Biden since they are registered Democrats.  Were I a ‘…thoughtful swinging voter…’, I would walk into the voting booth next week expecting Biden to win and probably expecting to support the Blue Tide.

But what has Trump actually done?  Unlike every other politician, he delivered on his promises.  He built a wall, he pushed back on China, he fought Congress – he turned out to be the maverick that people voted for 4 years ago.  Biden has “a plan” for everything but what has he done?  50 years in elected office and nothing – no bridges, no tunnels, no foreign policy successes, nothing.

What’s in it for me?  Trump wants to cut my taxes, protect my job and he talks my language.  Biden has a plan…am I going to pay for that, and why does the New York Times like him so much?

What will happen in the voting booth?…

The US election is all about Trump.  A vote for Biden is not excitement about his vision for America blah blah blah…it is a vote against Trump. The voters know Trump…and despite what they may have said before they arrived to vote, there’s no compelling reason to vote against him.

Trump will get re-elected. 

 

…and don’t forget the latest release from DJ Dr Fish

 

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Tossing coins: The Vaccine v The Fed

AstraZeneca, Pfizer, Moderna and other drug makers are finalising their ‘warp speed’ vaccine trials in order to stop the infection and spread of the dreaded Covid 19.  Simultaneously, the Federal Reserve in the US is set to roll out its new Monetary Policy operating procedures for all to behold. Both the vaccine designers and the […]