Category Archives: Simon Johnson

Investment Articles

Below are some investment articles I am reading this week:

Dividend-Paying Stocks – James Bianco via The Big Picture

Now you can follow me on Stocktwits and Twitter!

Are We Witnessing a Dividend Bubble? Prieur du Plessis

Break Up the Banks –  Simon Johnson

What Investors Are Hoping to Find Under Their Trees – Barry Ritholtz

Your Three Investing Opponents (pdf) – John Mauldin

Are Traders Really Just Driven by the Sun? Tom McClellan

Burton Malkiel: Buy Munis, Foreign Bonds, and Dividend Stocks

Do-It-Yourself Equity-Indexed Annuities – Geoff Considine

Disclaimer: No current positions in stocks mentioned. Please note that Scott’s Investments and its author is not a financial adviser. Please consult your own investment adviser and do your own due diligence before making any investment decisions. Please read the full disclaimer at the bottom of Scott’s Investments.

Weekend Investment Articles & Readings

Below are some investment and economic related articles for this weekend:

Family Feud – Bill Gross

Gold ETF Assets Show Bullish Sentiment – Tom McClellan

Is the Stock Market Cheap? and Crestmont Market Valuation Update –  Doug Short

ECRI Recession Watch: Growth Index Reverses Trend and Declines Further – Doug Short

Can You Get 7% Per Year in Income with Only Moderate Risk? Geoff Considine

Are Corporate Balance Sheets Really the Strongest in History? John Hussman

How Paulson Gave Hedge Funds Advance Word of Fannie Mae Rescue – Richard Teitelbaum, Bloomberg

Crony Capitalism? Hank Paulson’s Extraordinary Meeting , also see On Wall Street, Some Insiders Express Quiet Outrage –  Jesse Eisinger, ProPublica

The Huntsman Alternative – Simon Johnson

Free Daily Market Update from Adam Hewison:

Now you can follow me on Stocktwits and Twitter!

Disclaimer: No current positions in stocks mentioned. Please note that Scott’s Investments and its author is not a financial adviser. Please consult your own investment adviser and do your own due diligence before making any investment decisions. Please read the full disclaimer at the bottom of Scott’s Investments.

Gold Projection & Mid-Week Investment Readings

David Banister has released his new projections for Gold here.  You’ll remember last week I posted a gold forecast projecting a short-term dip.  It’s possible that “dip” could be coming to an end if Banister is correct.  The smarter play, however, may be to look at GDX (Gold Miners ETF) because the Gold to XAU (Gold & Silver Miners Index) ratio is currently at 8.49, high by historical standards. For some background on how to use this ratio, please search my site for “GDX” or see my previous articles here and here.


A Second Lost Decade: an Update of the Secular Bear Market in Equities (pdf) – Pring Turner Capital Group,

Did Tail Insurance Turn South in Recent Market Volatility? Geoff Considine

Brace for a Long Recovery From Global Credit Glut: Simon Johnson

Fed Policy – No Theory, No Evidence, No Transmission Mechanism – John Hussman

Is the US Monetary System on the Verge of Collapse? (pdf) John Mauldin

Preparing for a Credit Crisis (pdf) John Mauldin

Nursing the Patient (Part III): Unwinding the Monetary Mess (pdf) – BCA Research via Cumberland Advisors

Now you can follow me on Stocktwits and Twitter!

Disclaimer: No current positions in stocks mentioned. Please note that Scott’s Investments is not a financial adviser. Please consult your own investment adviser and do your own due diligence before making any investment decisions. Please read the full disclaimer at the bottom of Scott’s Investments.

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Weekend Reads

Rocking-Horse Winner – Bill Gross

Swap Tango: A Derivatives Regulation Dance, Part 2 –  Satyajit Das

Wall Street Dead? No, Just Moving – Jim Jubak

China’s Red Flags (free registration required for GMO’s website in order to view article) – Edward Chancellor

Volcker and Bernanke: So Close and Yet So Far – Simon Johnson

Weekend Reads

Cumberland Advisors Global Asset Allocation in 2010:

In sum, we favor fully invested positions at present, with just a small amount of cash being maintained for possible use during market dips.  As suggested above, we are concerned that markets could become less favorable in the second and third quarters as the rally matures and markets assess the prospect of tightening monetary conditions. We may well wish to take some risk off the table when we get closer to that period. Careful selection of individual ETFs will become increasingly important. Diversification globally and across asset classes would be expected to provide some downside protection.  As always, close monitoring of developments will be essential.

Ambrose Evans-Pritchard of the London Telegraph: Global Bear Rally of 2009 Will End With Japan [kind of a depressing, dramatic article and I don’t necessarily agree with the doomsday prediction]:

By mid to late 2010, we will have lanced the biggest boils of the global system. Only then, amid fear and investor revulsion, will we touch bottom. That will be the buying opportunity of our lives.

 Global Boom Builds for Epic Bust:

For now, it looks like the course for 2010 is economic recovery and the beginning of a major finance-led boom, centered on the emerging world.
But look a little farther down the road and you see serious trouble. The heart of the matter is, of course, the U.S. and European banking systems; they are central to the global economy. As emerging markets pick up speed, demand for investment goods and commodities increases — countries producing energy, raw materials, all kinds of industrial inputs, machinery, equipment, and some basic consumer goods will do well.
On the plus side, there will be investment opportunities in those same emerging markets, be it commodities in Africa, infrastructure in India, or domestic champions in China…

…The boom will be pleasant while it lasts. It might go on for a number of years, in much the same way many people enjoyed the 1920s. But we have failed to heed the warnings made plain by the successive crises of the past 30 years and this failure was made clear during 2009.

The most worrisome part is that we are nearing the end of our fiscal and monetary ability to bail out the system. We are steadily becoming vulnerable to disaster on an epic scale.

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Wake Up!

Good post from Simon Johnson at The Baseline Scenario which I thought was worth reproducing in full (for a second post by Johnson along the same theme, click here):

The guiding myth underpinning the reconstruction of our dangerous banking system is: Financial innovation as-we-know-it is valuable and must be preserved. Anyone opposed to this approach is a populist, with or without a pitchfork.

Single-handedly, Paul Volcker has exploded this myth. Responding to a Wall Street insiders‘ Future of Finance “report“, he was quoted in the WSJ yesterday as saying: “Wake up gentlemen. I can only say that your response is inadequate.”

Volcker has three main points, with which we whole-heartedly agree:

  1. “[Financial engineering] moves around the rents in the financial system, but not only this, as it seems to have vastly increased them.”
  2. “I have found very little evidence that vast amounts of innovation in financial markets in recent years have had a visible effect on the productivity of the economy”

and most important:

3. “I am probably going to win in the end”.

Volcker wants tough constraints on banks and their activities, separating the payments system – which must be protected and therefore tightly regulated – from other “extraneous” functions, which includes trading and managing money.

This is entirely reasonable – although we can surely argue about details, including whether a very large “regulated” bank would be able to escape the limits placed on its behavior and whether a very large “trading” bank could (without running the payments system) still cause massive damage.

But how can Mr. Volcker possibly prevail? Even President Obama was reduced, yesterday, to asking the banks nicely to lend more to small business – against which Jamie Dimon will presumably respondthat such firms either (a) are not creditworthy (so give us a subsidy if you want such loans) or (b) don’t want to borrow (so give them a subsidy). (Some of the bankers, it seems, didn’t even try hard to attend – they just called it in.)

The reason for Volcker’s confidence in his victory is simple – he is moving the consensus. It’s not radicals against reasonable bankers. It’s the dean of American banking, with a bigger and better reputation than any other economic policymaker alive – and with a lot of people at his back – saying, very simply: Enough.

He says it plainly, he increasingly says it publicly, and he now says it often. He waited, on the sidelines, for his moment. And this is it.

Paul Volcker wants to stop the financial system before it blows up again. And when he persuades you – and people like you – he will win. You can help – tell everyone you know to read what Paul Volcker is saying and to pass it on.

By Simon Johnson

Sunday Night Reads

Harvard Risked Its Cash (from The Big Picture):

The Boston Globe’s Beth Healy writes what looks like another Lawrence Summers bashing Harvard Endowment story–with an extra helping of unnamed Robert Rubin-kicking on the side–when she reveals that Summer fought with Harvard Endowment head Jack Meyers over his decision to add the University’s operating cash account to the general endowment pool. Meyer, and his successor Mohammed El-Erian, both warned that the university’s president was doubling down on the endowment and creating excessive risk. The warnings proved true when the school lost $1.8 billion from that cash account last year.

Will Increased Capital Requirements Kill a Recovery? Morgan Stanley Wants You to Think So (Simon Johnson):

size:85%;">The bottom line, translated: Let us adjust our balance sheets (downwards to some degree) and continue with our existing business models (including unconstrained bonuses), and we will bring you back to growth eventually. If you mess with us, unemployment will stay high for a long time. And any future crises that may befall us are just a cost of doing business, and making us whole is just what you have to do.

size:85%;">But this is all wrong. The essential premise of the Morgan Stanley reasoning (heard much more widely on Wall Street) is that the size of our biggest banks cannot be constrained–because it would raise the cost of equity for these smaller units. This misses three points:

size:85%;">1) If you are sufficiently small, you can take more risk without jeopardizing the system. So the expected risk/return combination can attract investors and be fine for society. Most successful venture capital funds, hedge funds, and private equity funds are in the right size range from this perspectives and don’t have trouble attracting capital–except when the big banks blow up. As long as you are small enough to fail, go for it.

size:85%;">2) Morgan Stanley’s pricing of risk model implicitly assumes that big banks still exist as a comparison point and an alternative for investors. But if you put a size cap on the largest banks (e.g., assets cannot exceed 1% of GDP), this defines the asset class available–so investors don’t choose small vs. medium vs. large; they choose small vs. medium. Yes, this removes a choice for investors, but we routinely constrain investors ability to put money into activities that are potentially dangerous for society (e.g., try proposing a “new” high risk/high return approach to nuclear power).

size:85%;">3) There will always be financial shocks, but these do not always need to have such devastating effects. Our financial system worked fine in the post-World War II period, with a great deal of risk-taking and much nonfinancial innovation–our biggest banks were much smaller, in absolute terms and relative to the economy. The notion of “let us take any risks we want and, if it all goes bad, bail us out so we can make it up to you later” is simply preposterous and completely at odds with the historical record of U.S. economic development.

size:85%;">The big banks’ bonuses undermine their legitimacy. Every time these banks CEOs speak or write in public, they just underline their hubris and the danger this poses to financial system stability. And their own research strengthens the case for breaking up the megabanks.

Why I am an Optimist – pdf (John Mauldin – most of the article is on optimism despite the excerpt below):


size:85%;">When anything as relatively small as Dubai spooks the market, it should serve as a warning sign. The world has priced in 5% GDP growth for the US and much of the developed world in the equity and commodity markets. Either we have to get that or the markets are going to have to come back to the reality of what I think is going to be a much lower growth figure.

But in any event, one of the lessons to be learned is that investors should pay attention to where the leverage is. Unsustainable debt trends end in tears. They always do. Spain, Greece, Italy, the UK, and Japan will all have to face major restructuring in the next decade due to leverage. And we in the US will also find that we cannot grow debt at our current levels. Will we pare our debt willingly or be forced to by the market? Either way, it will make for a less than optimal economy over the coming years. Muddle Through, indeed.

Weekend Reading

Last post before the weekend – if you have not visited The Baseline Scenario, I recommend it. It is focused more on economics and policy then investing. Two recent posts caught my interest, the first being The Problem That Won’t Go Away [foreclosures] and the second which I will paste below, How To Blow A Bubble, by Simon Johnson, former International Monetary Fund’s Economic Counsellor (chief economist):

Matt Taibbi has rightly directed our attention towards the talent, organization, and power that together produce damaging (for us) yet profitable (for a few) bubbles. Most of Taibbi’s best points are about market microstructure – not the technological variety usually studied in mainstream finance, but more the politics of how you construct a multi-billion dollar opportunity so that you can get in, pull others after you, and then get out before it all collapses. (This is also, by the way, how things work in Pakistan.)

In addition, of course, all good bubble-blowing needs ideology. Someone needs to persuade policymakers and the investing public that we are looking at a change in fundamentals, rather than an unsustainable and dangerous surge in the price of some assets.

It used to be that the Federal Reserve was the bubble-maker-in-chief. In the Big Housing Boom/Bust, Alan Greenspan was ably assisted by Ben Bernanke – culminating in the latter’s argument to cut interest rates to zero in August 2003 and to state that interest rates would be held low for “a considerable period”. (David Wessel’s new book is very good on this period and the Bernanke-Greenspan relationship.)

Now it seems the ideological initiative may be shifting towards Goldman Sachs.

As Bloomberg reported on August 5th, “Goldman economists, led by Jan Hatzius in New York, now see a 3 percent increase in gross domestic product at an annual rate in the last six months of this year, versus a previous estimate of 1 percent. The new projections were included in a research note e-mailed to clients.”

Goldman’s public thinking, of course, has been that we face such slow growth that interest rates should be kept low indefinitely. There is, in their view, no risk of inflation – and no such thing as potentially new bubbles (e.g., in emerging markets). The adjustment process will go well, as long as monetary policy stays very loose – it’s back to Bernanke’s 2003 line of thinking.

This line of reasoning has been very influential – reinforcing Bernanke’s commitment not to tighten monetary policy in the foreseeable future and fitting in very much with the Summers model of crisis recovery. Just a couple of weeks ago, in his July 14 report, Jan Hatzius argued, “further stimulus remains appropriate” and “the appropriate debate is not whether fiscal and monetary expansion is appropriate in principle but whether it has been sufficiently aggressive.” I don’t know if he has revised this line in the light of the big upward revision in his growth forecast or whether he is still saying, “Ultimately, we do expect further stimulus, but it may take significant disappointments in the economic data and the financial markets before policymakers move further in this direction.”

Much faster growth than expected is, of course, in today’s context a good thing. But it also brings complications. If you keep monetary policy this loose for much longer, you will feed bubbles. And if you encourage even looser monetary and fiscal policy, there will be a costly reckoning not too far down the road.

Monetary policy orthodoxy under Greenspan did not care about bubbles in the least. Now we (led by Greenspan) have massively damaged our financial system, our real economy, and our job prospects, this view is under revision.

Of course, in principle you should tighten regulation around lending but, just like 2003-2007, who is really going to do that: the US, China, the G20? On this point, all our economic leadership is letting us down – although they are getting a powerful assist from people like Goldman (and Citi and JP Morgan and almost everyone else on Wall Street.)

Next time, our big banks will take another massive hit – quite possibly bigger than what we saw in 2008. Goldman and its insiders are ready for this. Are you?

By Simon Johnson

Simon Johnson: Bank Lobbyists and Obama

Simon Johnson asks an important question, Did Bank Lobbyists Write Obama’s Reform Proposal? Johnson’s conclusion is a resounding yes…

What is the essence of the problem with our financial system–what brought us into deep crisis, what scared us most in September/October of last year, and what was the toughest problem in the early days of the Obama administration?

The issue was definitely not that banks and non-banks could fail in general. We’re good at handling some kinds of financial failure. The problem was: a relatively small number of troubled banks were so large that their failure could imperil both our financial system and the world economy. And–at least in the view of Treasury–these banks were so large that they couldn’t be taken over in a normal FDIC-type receivership. (The notion that the government lacked legal authority to act is smokescreen; please tell me which statute authorized the removal of Rick Wagoner from GM.)

But instead of defining this core problem, explaining its origins, emphasizing the dangers, and addressing it directly, what do we get in yesterday’s 101 pages of regulatory reform proposals?

  1. A passive voice throughout the explanation of what happened (e.g., this preamble). No one did anything wrong and banks, in particular, are absolved from all responsibility for what has transpired.
  2. A Financial Services Oversight Council, which sounds like a recipe for interagency feuding, with the Treasury as the referee and–most important–provider of the staff. The bureaucratic principle is: if you hold the pen, you have the power.
  3. Some of the largest banks (“Tier 1 Financial Holding Companies”, or Tier 1 FHCs) will now be subject to supervision by the Federal Reserve Board–although under the confusing jurisdiction also of the Financial Services Oversight Council in many regards (e.g., in the key setting of material prudential standards) and subsidiaries can have other regulators.
  4. Tier 1 FHC should have higher prudential standards (capital, liquidity, and risk management), but “given the important role of Tier 1 FHCs in the financial system and the economy, setting their prudential standards too high could constrain long-term financial and economic development.” Sounds like a banker drafted that sentence. None of the important details/numbers are specified, although the Fed should use “severe stress scenarios” to assess capital adequacy. Is that the same kind of actually-quite-mild stress scenario they used earlier this year?
  5. In terms of risk management, “Tier 1 FHCs must be able to identify aggregate exposures quickly on a firm-wide basis.” There is no notion here that risk management at these big banks has failed completely and repeatedly over the past two years. How exactly will FHCs be able to identify such risks and how will the Fed (or anyone else) assess such identification?
  6. In case you weren’t sufficiently confused by the overlapping regulatory authorities in this plan, we’ll also get a National Bank Supervisor (NBS) within Treasury. Regulatory arbitrage is not gone, just relabeled (slightly).
  7. There is no greater transparency or public accountability in the regulatory process. We still will not know exactly what regulators decided and on what basis. Such secrecy, at this stage in our financial history, clearly prevents proper governance of our supervisory system.
  8. There appears to be no mention that corporate governance within these large banks failed totally. How on earth can you expect these banks to operate in a responsible manner unless and until you address the reckless manner in which they (a) compensate themselves, (b) destroy shareholder value, (c) treat boards of directors as toothless wonders? The profound silence on this point from the administration–including some of our finest economic, financial, and legal thinkers–is breathtaking.

There’s of course more in these proposals, which I review elsewhere and Secretary Geithner’s appearances on Capitol Hill today may be informative–although only if his definition of the underlying “too big to fail” issue uses much stronger language than yesterday’s written proposals.

But based on what we see so far, there is little reason to be encouraged. The reform process appears to be have been captured at an early stage–by design the lobbyists were let into the executive branch’s working, so we don’t even get to have a transparent debate or to hear specious arguments about why we really need big banks.

Writing in the New York Times today, Joe Nocera sums up, “If Mr. Obama hopes to create a regulatory environment that stands for another six decades, he is going to have to do what Roosevelt did once upon a time. He is going to have make some bankers mad.”

Good point–but Nocera is thinking about the wrong Roosevelt (FDR). In order to get to the point where you can reform like FDR, you first have to break the political power of the big banks, and that requires substantially reducing their economic power–the moment calls more for Teddy Roosevelt-type trustbusting, and it appears that is exactly what we will not get.

[Cross-posted at The Baseline Scenario.]

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