Category: Ethics

Financial Bloggers: The Conscience of Wall Street?

Financial Bloggers: The Conscience of Wall Street?

Posted on by David Merkel

Many CFA charterholders blog, though it is a tiny fraction of the total pool of CFA charterholders.? Many of them contribute to Seeking Alpha.? Granted, if you look at lists of the most popular investment weblogs, few of the writers are CFA charterholders.? Why?? Well, having basic knowledge about investments and ethics does not mean that you can write about it well.? For those who can write well, there are other options, most of which are more remunerative.

  • Write internal research for a buy-side firm that no one else sees.
  • Be a sell-side analyst for those who trade with your firm.
  • Write a newsletter for paying clients.
  • Manage money, and write an entertaining quarterly/monthly missive that adds to the subjective value of having money managed by you.
  • Write for RealMoney, or some other major media newspaper/website.

The thing is, for most bloggers, it is self-expression, not remuneration, that matters.? For me, it is giving something back to the broader investing community.? The retail investor does not have many friends.

So, it was with puzzlement that I read Susan Weiner’s piece called, “Investment Strategy Blogs Slow to
Influence Financial Advisors,” as cited by Felix Salmon.? Now, don’t get me wrong here, becoming a CFA charterholder opened a lot of doors for me.? But the CFA Institute, with its curriculum does not have a monopoly on training smart investors.? For those starting out young, getting an MBA from a well-regarded school can often be a better choice.? On the buy-side, having a CFA charter has some punch, but not so much on the sell-side.

I wrote for RealMoney for 3.5 years before starting my blog.? Writing for RealMoney taught me a lot about how to phrase things in an interesting way.? Most of the contributors there were/are very good at expressing themselves.? Most are not CFA charterholders.? Almost all journalists aren’t CFA charterholders either.? Buffett is not a CFA charterholder, though his mentor, Ben Graham, helped found the predecessor to the CFA Institute.

My surprise as a blogger has been the quality of the information/advice that I have run across in blogging.? The best are reflected in my blogroll, but there are many others that I like but don’t read regularly.? Bloggers tend to be more pointed, sometimes more sensationalistic, than the financial press, and the sell-side.? But there is a virtue to blogging that the others lack: criticism.

Look, I make mistakes.? As a blogger who prizes his reputation (and honesty generally), when I make a mistake, I try to be fast to confess it.? Blogging is more interactive than other forms of media, so the feedback cycle is faster for those who take honesty seriously.? Those that make too many mistakes, or refuse to accept criticism, get marginalized, and quickly.

Blogging has another virtue, in that bloggers are willing to take more chances in what they say.? Those who are wrong too often are disregarded… it’s a tough environment out there.? But those who are willing to hazard unvarnished opinions about tough issues will gain a following, if they are correct often enough.? Ask yourself this, in the recent credit crisis, who has been more accurate in their predictions, the mainstream media, the sell-side, or leading finance bloggers?? My money is on the bloggers.

Now, the articles cited above glorify CFA charterholders, licensure, and the mainstream media.? None of those are guarantees of good investing or writing.? Those that I interact with in the mainstream media are pretty sharp, and I think quality has increased there over the last ten years.? TheStreet.com has something to do with that, in that they have trained a bevy of young smart journalists that can write, and they understand the markets better then 95% of the population.

I place more stock in a strong liberal arts education that does not neglect business and the hard sciences.? Like Buffett and Munger, lifelong learners tend to be some of the best investors and writers.? We are strong generalists.? The CFA syllabus imparts a limited set of knowledge that is very useful, but most CFA charterholders are mediocre investors.? As Ken Fisher said to me, “The first thing you have to do is forget everything you’ve learned in the CFA training.”? He also told me to forget what I learned from his books.? What is known is not valuable.? What do I know that no one else knows?? That conversation kicked off my current investing approach, of which, 40% of it derives from the useful CFA syllabus.? (Though the advanced investing syllabus for the Society of Actuaries has a few things to commend it that the CFA syllabus does not have.)

You can get a CFA charter.? You can pass the Series 7, and become a broker.? You can become a financial journalist.? None of those guarantee that you can add value.? The best in each of those areas become known for the quality of work that they generate.? The cream rises to the top.? So, I put out this challenge to those that are skeptical about financial bloggers.? Look at the sites in my blogroll, and tell me which ones have poorly thought-out opinions that will harm readers.? I maintain that they are all useful for both experts and retail investors, and are a useful supplement to conventional investment research that doesn’t take chances, because it is not in their interest to do so.

UPDATE: NOON 8/21 — One emendation, regular reader Steve pointed out one bit of sloppiness in the above post.? Where it says “CFA(s)” it should say CFA charterholder(s), or charter.? I have adjusted the post to reflect that.

Puncturing Pensions

Puncturing Pensions

Posted on by David Merkel

Pensions are complicated.? Necessarily so, because of the wide numbers of parties involved, and the contingencies involved (mortality, morbidity, asset returns, insolvency) over a long period of time.? Anyone who has had a cursory look at the math (or regulations) behind setting pension liabilities, contributions, etc., knows how tough the issues are, and why real experts need to handle them.

I’ve worked at the edge of the pension business for much of my career.? I have designed defined contribution plans, created stable value products, done asset allocation for defined benefit [DB] plans, terminal funding, and other incidentals.? That said, I am a life actuary [FSA], not a pension actuary [EA].

Tonight’s main issue revolves around a good article by the estimable Matthew Goldstein of Business Week.? Steve Waldman, filling in at Naked Capitalism, commented on the article as well.

Here’s my take: it is legal today for companies to shift their pension liabilities to life insurance companies in the Terminal Funding business.? All they have to do is send a description of the liabilities of the plan to the dozen or so companies that are in the business with adequate claims paying ability ratings, and the companies will send back an estimate of what they would require as a single premium payment to take on the liabilities.? Low bidder wins (and loses — he mis-bid).

So, why don’t plan sponsors take the life insurers up on this?? Easy.? The cost of buying the annuities from the insurers is more expensive than the amount of assets in the trust.? For those companies that are overfunded, they don’t care to terminate — it is a great benefit for their employees.

Terminal funding was most common in the late 80s, when companies could terminate DB plans, and any excess assets would revert to the company.? Then the law changed, and most excess assets would be taken by the Federal Government.? Another reason why overfunded plans do not terminate — the excess assets are valuable to the plan sponsor, but are trapped assets.? They are valuable because they give flexibility, and reduce future contributions.

Why is it more expensive to buy annuities from insurance companies than the assets on hand in the trust?

  • The main reason is that the plan sponsor gets to assume the rates he will earn on plan assets (within reason).? That rate will almost always be higher than the rate that an insurance company can invest at after expenses.? Pension funding rules are significantly more liberal than life insurance reserving and risk-based capital rules.
  • Insurers must mainly invest in bonds, whereas pension funds can invest in any asset class, subject to the prudent man rule.
  • Insurers must keep surplus assets to keep the company sound through downturns.? Pension plans have no such requirement.
  • Insurance companies have profit margins and overhead that pension plans do not.
  • Often there are funky, hard-to-value benefits in the pension plan.? Subsidized early retirement is the simplest of those.? The insurance companies don’t have a good way of pricing them, so they toss out some guesses.? Often the winner is the one that ignored the cost of the odd ancillary benefits.

Now, for a proposal from the Treasury to be effective, they somehow have to wave their hands at the issues that I just put forth.? Even if they allow other regulated financial companies to take over pension plans, they have the following issues:

  • Who is responsible for shortfalls?
  • Does the company taking over the plan have to put in some subordinated capital to give them “skin in the game.”? (Essentially, the life insurers have to do that today.)
  • How do profit incentives work?? Do they accrue inside the plan as a buffer against shortfalls, or do excess earnings (however defined) get immediately? or over time paid to the buyer of the pension liabilities?? (You can guess what the liability buyers want.)
  • How do underfunded plans get transferred compared to adequately funded plans?? Hopefully the plan sponsors of the underfunded plans have to pony up to fund them at levels that are adequately funded, then they can transfer them.? It would be a sham to transfer underfunded plans to an entity that says that can fund the plans because they have an ultra-aggressive investment strategy.? The blow-up will leave behind even bigger deficits.

Call me a skeptic here, while I call the head of the PBGC a Pollyanna.? To Bradley Belt: If you think this will solve your underfunding/insolvency problems, think again.? Only through high risk investment strategies succeeding can all of the underfunding be invested away.? Ask this: how would you feel today if the plan sponsors of underfunded plans all adopted highly risky investment strategies?? You would worry.? Well, unless the liability buyers have skin in the game, you will worry just as much after the sale of liabilities.

Sometimes I think politicians/bureaucrats believe in magic.? Some little tweak, a loosening of regulations, and poof!? The problem goes away.? It is rarely that simple, particularly when you are dealing with the math and complexities of long term compound interest, which in my opinion are inexorable.? (Kind of the inverse of compound interest being Einstein’s eighth wonder of the world — it is a wonder when you are compounding assets looking forward, without liabilities to fund, but when your discounted liabilities are greater than your assets, my but that eighth wonder of the world fights you fiercely.)

Now, I’m not going to discuss this at length, because I am getting tired, but the Wall Street Journal had another pension article this week.? A good article, and I must say that I don’t get how the practices described are legal.? The anti-discrimination rules were put into place to deter this issue.? Why they are not enforced here is a mystery to me.? Regulated pension plans should not be able to invest in the debts of non-regulated pension plans.? To allow anything else, is to make a mockery of the regulations.? (Another reason why regulated and non-regulated financials should be separated.)? The Treasury has anti-abuse rules that they can invoke against such practices.? Why don’t they use them?

My guess is that the Bush administration doesn’t care about the issue.? Perhaps the next President will care more.? And, with respect to the sale of pension liabilities, my guess is that that gets left to the next President and Congress, who will not allow the practice as proposed.

PS — One last note: what would be fair, if pension liability buyouts are allowed, is to allow participants the option to roll their net assets into a rollover IRA.? Back in the 80s, many people got burned by less than creditworthy companies who bought their pension liabilities and went belly-up themselves.? It is a normal aspect of contract law that you can’t take a debt and transfer it to another party unilaterally, unless the creditor consents.? So it should be in pension liability transfers.

Avoid Debt Unless it is to Purchase an Appreciating Asset

Avoid Debt Unless it is to Purchase an Appreciating Asset

Posted on by David Merkel

I’m generally against debt.? I’ve been debt-free for the past five years.? It allows me to take prudent risks with my investments.? So, when I read things like this in The Economist’s Free Exchange Blog, I shake my head.? Here’s the main quotation:

My friends who study humanities are shocked and do not believe me when I, a pension economist, tell them they should not be saving. Prudent advice has become: You should always save some fraction of your income. You should save not only for retirement, but also for adverse income shocks. But, Mr Becker points out, these new lines of credit help workers cope with income shocks.

The pension economist is wrong, mainly.? So is Dr. Becker.? It is reasonable to take on debt to gain an education for a career that is lucrative; it is not reasonable for something that does not pay well.? Following your heart into a career is a good thing, but if the field doesn’t pay well, don’t saddle yourself with debt to get there.? I know too many young people with large debts in their 20s with no reasonable way to pay them off.? They may be in the field that they love, but they are miserable due to the debt.

It is also reasonable to take on debt for an asset that will appreciate over time at a rate greater than the financing rate on the debt.? Note that I did not say housing here, though that is normally the case.

I counsel all of my kids, and all of my friends to avoid debt where it does not pay, particularly for consumption.? Pay off your credit cards in full each month.? If you can’t do that, cut up your credit cards, and learn to make do without them.

The advantage in life always comes to the man who has surplus, who receives a discount for paying upfront, rather than over time.? You should live below your means, and build up a buffer against the future.? Theoreticians like Dr. Becker essentially say, “Don’t worry, they’ll loan you the money.”? Ridiculous.? First, if they do loan, it is at horrendous rates.? Second, during a credit crunch, all cheap sources of financing disappear for all but the most creditworthy borrowers.? Credit disappears when you need it most.

Saving at young ages sets the tone for the rest of life.? The lifecycle saving hypothesis (of Milton Friedman) is wrong, because most people don’t possess the discipline to switch between being a borrower to being a saver.? Many do it, but not the majority. I saved money when I was a grad student, though most of my colleagues did not.

My advice to you is to develop careful spending habits, particularly if you are young.? What you do now will affect your ability to save for the rest of your life.? Borrow for things that have large long-term payoffs.? Delay purchases for short-term gratification.

Everyone is a Critic!

Everyone is a Critic!

Posted on by David Merkel

It’s bad enough that nobodies like me criticize the Fed, but what do you do when members of the FOMC criticize?? Two hawks, Lacker and Plosser, criticize the recent efforts to alleviate difficulties in the lending markets because of the potential for moral hazard.? In this case, moral hazard means to banks: “Don’t worry about bad lending as a group.? If you make mistakes, the Fed will rescue you.”

Give Bernanke some credit, because unlike Greenspan, he lets the members of the FOMC speak their minds.? Hopefully the disagreement will sharpen the Fed, and not lead to paralysis or confusion.? For more background on the individuals who are part of the FOMC, please refer to my piece, A Social View of the FOMC.

I agree the the moral hazard is a live issue here.? The real question is whether growing weakness in the lending markets can be tolerated, which might be worse than moral hazard.

One Way to do a Good Survey

One Way to do a Good Survey

Posted on by David Merkel

I get asked to participate in surveys, and frequently, I look at the surveys and think, “You’re wasting everyone’s time here. Some people grade everything harshly, some people grade everything easily. Many people keep their responses within a restricted band, other go for the poles.? Besides, you’re asking too many questions.? Few people have that many strong opinions.”

What I am going to suggest here applies to questions like, “How can we improve our marketing, service, or operations?” I used this technique several times to improve the marketing at an insurance company that I worked for. Here is the core of the idea: if you want to elicit accurate opinions on surveys — use a constraint.

When I survey people, I do a one question initial survey to ask what the issues are that they care about. It is just a brainstorm to identify issues. Then I follow with a one-question survey that lists all of the issues, and then I say: “Pretend you are the marketing director, and that you have a budget of $100,000. How would you divide up the budget?”

Placing a budget constraint on their answers forces respondents to optimize. It also standardizes, so you don’t have to adjust for optimists and pessimists. It’s a very simple question, so answers are sharp. And, if someone feels very strongly about just one item, they can express that. Plus, it values the time of those you are surveying, so they are more willing to answer; you get almost 100% completion.

Anyway, this method has worked well for me. If you try it, and it works well for you, or doesn’t, let me know.

Malthus, the False Prophet

Malthus, the False Prophet

Posted on by David Merkel

For those with access to The Economist, I would advise reading Malthus, the false prophet.? In one sense, Malthus was a guy who ran afoul of the idea that you shouldn’t make predictions about the long term, or, assume that people can’t make changes to solve problems.

This is one reason that I rarely go in for “total disaster” scenarios.? Disaster, yes.? Big problems, sure.? But total collapse-type scenarios rarely happen because people act individually, corporately, and through their governments (which want to stay in power).? There are rare cases of failure — for a recent one, think of the fall of the Soviet Union after the failure of Chernobyl.? And, that was a relatively benign failure in aggregate.

To give another example, the Y2K problem was real, but the hysteria over it drove companies, politicians and bureaucrats to solve the problems, and the problems were largely solved with a year to spare.

The current worry is that high energy and food prices will get worse as our world continues to grow, and that poverty will increase as some can’t buy necessities.? Metal prices will rise as well as there will be more need for construction materials.? Who knows?? Perhaps timber and cement will come into short supply as well.

High prices will help solve these problems.? We have many bright businessmen that want to make money off this, who will drive scientists and applied technologists to find ways of meeting the needs at lower costs.? In the 1970s, once the drive to become less energy-intensive? got going, it was hard to stop.? The R&D kept going for a while even after energy prices started falling, leading demand to fall further.? Also, sustained high prices will lead old technologies like wind and solar to become economic.? I sort of predicted this on RealMoney two years ago:



 David Merkel
Peak Oil, Socialistic Governments, and Crisis
5/9/2006 3:31 PM EDT

Now, I’m not an expert on energy like Chris Edmonds, so don’t take what I write here too seriously. I write this because of some things I read by some doom-and-gloomers on energy over the weekend. I thought the stuff was nonsense, so I’m not even publishing a link to the articles.

In general, I tend to agree more with the “peak oil” theory than disagree with it, mainly because there haven’t been a lot of new big oil finds, and depletion of old fields continues. “Peak oil” means that global output of oil will not increase beyond a certain level, which either has been reached, or will be reached in the next five years.

Beyond that, the behavior of socialistic governments like Venezuela and Bolivia tend to reduce oil output because they don’t manage the oil and gas deposits as well as those that they replaced. Beyond that, they reduce the incentive to search for new deposits, because the profit motive is reduced, if not eliminated.

So, I’m not optimistic about supply issues in energy, and I haven’t mentioned instability in other oil and gas producing nations. That said, I don’t believe that we are headed for a crisis, as some doom-and-gloomers forecast. If/when oil gets over $100/barrel and stays there, a combination of coal, nuclear, solar and wind will be used to generate electricity, and electric cars will become more common. Coal will be gasified as well. Ethanol will be a marginal contributor to the mix, because it takes a lot of energy to produce.

So, life will change some, and energy will become more expensive, but it won’t be the end of the world by any means. And, the scenario I posit above is a bearish one; things could end up better than that over the next two decades.

Position: none mentioned

Now, I’m not in the camp that says that the prices of food, energy and raw materials are coming down soon.? Changing the behavior of a culture takes time; changing technologies takes time.? The progress will likely come, though, and the process of meeting human needs as our world develops will persist, leading to better overall lives on our planet.

-==-=–==-=-=-=-=-=-=-=-=-=-

PS — It will be interesting to see how our world copes with zero population growth.? One of the dirty secrets of economics is that economies tend to do better with younger overall populations that are growing.? I can see governments, even China’s, adopting tax schemes that favor having large families.? I can also see governments becoming a lot more lenient about immigration for people under the age of 30, and families with children.

Now, this is utter heresy, because at present fertility projections our global population should top out at 9 billion around 2050.? My guess is that many governments will panic between 2020 and 2030, and promote fertility and immigration of the young.? Now, whether you can convince young women who have shed the idea that having and raising children is a large part of what life is about to change their minds is another matter… my guess is that the schemes will amount to little.? But who can tell?? Obviously, I haven’t fully learned from Malthus’ error: I’m on the other side of the debate, but still, I made long term guesses of what might happen.

PPS — Malthus was a minister, but unlike many ministers, he lacked confidence in the providence of God.? As an odd historical aside, that lack of confidence had a surprising effect — much later, another young man considering the ministry read the writings of Malthus, and doubted the goodness of God.? That man was Charles Darwin.? History is more complex than we could make up in a fictional work.

Avoid Investment Scams and Bad Advice

Avoid Investment Scams and Bad Advice

Posted on by David Merkel

There is one fundamental rule on the idea generation process to get across to new retail investors:

Buy what you have researched.? Don’t buy what your friends are buying, or even worse, what someone is trying to sell you.

(For those with access to RealMoney.com, you could review my Using Investment Advice series.)

The point here is to become capable of doing the basic research necessary to make reasonable decisions.? You don’t have to make great decisions in order to succeed.? You do have to avoid making major errors, which requires a degree of skepticism toward the opinions of your non-expert friends, and modest hostility toward those selling investment products.

What led to this article was a eight-page glossy advertisement from a publication that I do not deign to name (I worry about lawsuits), about a company called GTX Corp [GTXO].? Now, maybe I need to refresh my free subscription to the direct mail preference service, which really cuts down on the amount of junk mail that I receive.

GTX Corp is an example of a company with a high valuation, and uncertain prospects.? There is no provision for adverse deviation.? It trades on the Bulletin Board, and here is its business:

GTX Corporation integrates global positioning system (GPS) technology into consumer electronics devices.? The technology allows for real-time oversight of loved ones.

Now, why don’t I like this company, aside from the advertisement that did not mention valuation, balance sheet strength, or any other risk factors?

  • It trades at a high ratio of book, and trailing earnings don’t exist.
  • It was created out of a merger with a failed mining company.
  • Its recent financing this month offered equity interests far cheaper than the current market price.
  • Their auditor is not a major auditing firm.
  • Give the auditor credit though, they did not give them a “going concern” opinion, but instead expressed doubts.
  • The stock is on the Nasdaq’s Threshold Securities list, so finding shares to short is problematic.
  • Major shareholders are doing a secondary offering.
  • The advertiser was paid $186,000 to do the ad by a third party.

I have no idea how good their GPS technology might be, but there are too many risk factors here to make me even consider a long position.

I am not here to beat on GTX Corp.? I am using them, and the guy who advertised them as an example.

  • The advertisement had all manner of positive things to say about the technology and what it could do.? That’s fine, but what has it done?? Why doesn’t this corporation have significant revenues?
  • Why does the ad use the scam language “as featured on” and “as seen in,” naming prominent publications and channels, when all he likely did was buy some slack advertisements at a late hour, or in regional editions?
  • The ad compares the company to Garmin and other successful companies.
  • The ad uses a bunch of emotive problems that the technology could solve.
  • The ad puts forth a target price of $12 without any justification.

Buyer beware, and don’t listen to strangers giving you advice.? Cultivate networks of knowledgeable friends who are trustworthy, and avoid getting taken for a ride by slick-talking (writing) hucksters who pitch clever ideas to you.? Do your work, and buy cheap, boring ideas like I do.

Facilitating the Dreams of Politicians

Facilitating the Dreams of Politicians

Posted on by David Merkel

I’m a life actuary, not a pension actuary, so take my musings here as the rant of a relatively well-informed amateur.? I have reviewed the book Pension Dumping, and will review Roger Lowenstein’s book, While America Aged, in the near term.

First, a few personal remembrances.?? I remember taking the old exam 7 for actuaries — yes, I’ve been in the profession that long, studying pension funding and laws to the degree that all actuaries had to at that time.? I marveled at the degree of flexibility that pension actuaries had in setting investment assumptions (and future earnings assumptions), and the degree to which funding was back-end loaded to many plan sponsors.?? I felt that there was far less of a provision for adverse deviation in pensions than in life insurance reserving.

I have also met my share (a few, not many) of pension actuaries who seemed to feel their greatest obligation was to reduce the amount the plan sponsor paid each year.

I also remember being in the terminal funding business at AIG, when Congress made it almost impossible for plan sponsors to terminate a plan and take out the excess assets.? Though laudable for trying to protect overfunding, it told plan sponsors that pension plans are roach motels for corporate cash — money can go in, but it can’t come out, so minimize the amount you put in.

The IRS was no help here either, creating rules against companies that overfunded plans (by more than a low threshold), because too much income was getting sheltered from taxation.

Beyond that, I remember one firm I worked for that had a plan that was very overfunded, but that went away when they merged into another firm which was less well funded.

I also remember talking with actuaries working inside the Social Security system, and boy, were they pessimists — almost as bad as the actuaries from the PBGC.

But enough of my musings.? There was an article in the New York Times on the troubles faced by some pension actuaries who serve municipalities.? For some additional color, review my article on how well funded most state pension and retiree healthcare plans are.

Pretend that you are a financial planner for families.? You can make a certain number of people happy in the short run if you tell them they can earn a lot of money on their assets with safety — say, 10%/year on average.? Now within 5 years or so, promises like that will blow up your practice, unless you are in the midst of a bull market.

Now think about the poor pension actuary for a municipal plan.? Here are the givens:

  • The municipality does not want to raise taxes.
  • They do want to minimize current labor costs.
  • They want happy workers once labor negotiations are complete.? Increasing pension promises little short term cash outflow, and can allow for a lower current wage increase.
  • A significant number of people on the board overseeing municipal pensions really don’t get what is going on.? It is all a black box to them, and they don’t get what you do.
  • You don’t get paid unless you deliver an opinion that current assets plus likely future funding is enough to fund future obligations.
  • The benefit utilization, investment earnings, and liability discount rates can always be tweaked a little more to achieve costs within budget in the short run, at a cost of greater contributions in the long run, particularly if the markets are foul.
  • There are some players connected to the pension funding process that will pressure you for a certain short-term result.

Even though I think pension plan funding methods for corporate plans are weak, at least they have ERISA for some protection.? With the municipal plans, that’s not there.? As such, more actuaries and firms are getting sued for aggressive assumptions, setting investment rates too high, and benefit utilization rates too low.

The article cites many examples — New Jersey stands out to me because of the pension bonds issued in 1997 to try to erase the deficit they had built up.? They took the money and invested it to try to earn more than the yield on the bonds — the excess earnings would bail out the underfunded plan.? Well, over the last eleven years, returns have been decidedly poor.? The pension bonds were a badly timed strategy at best.

Now, like auditors. who are paid by the companies that they audit, so it is for the pension actuaries — and there lies the conflict of interest.? One of my rules says that the party with the concentrated interest pays for third-party services, so it is no surprise that the plan sponsor pays the actuary.? I’m not sure it can be done any other way, unless the government sets up its own valuation bureau, and tells municipalities what they must pay.? (Now, who will remind them about Medicare? 😉 )

The suits against the pension actuaries and their firms could have the same effect as what happened to Arthur Andersen.? These are not thickly capitalized firms, and many could be put out of business easily.? For others, their liability coverage premiums will rise, perhaps making their services uneconomic.

Finally, the flat markets over the last ten years have exacerbated the problems.? Partially out of a mistaken belief that the equity premium is large (how much do stocks earn on average versus cash), actuaries set earnings rates too high.? The actuarial profession offers some guidance on what rate to set, but the reason they can’t be specific is that there is no good answer.? With all of the talk about the “lost decade,” well, we have had lost decades before, in the 30s and 70s.? Even if the statistics are correct for how big the equity premium is, equity performance comes in lumps, and in the 80s and 90s, when we should have taken the returns of the fat years and squirreled them away for the eventual “lost decade,” instead, politicians increased benefits as if there was no tomorrow.

The states and smaller government entities have dug a hole, and they will have to fill it somehow.? Lacking the ability to print money, they will raise taxes as they can, and borrow where they may.? We are seeing the first pains from this today, but the real crisis is 5-10 years out, as the Baby Boomers start to retire.? You ain’t seen nothin’ yet.

The Glass Ceiling Revisited

The Glass Ceiling Revisited

Posted on by David Merkel

After seeing this article from Dealbreaker, I felt that I had to bring out a very old piece of mine.

In late 1997, Gene Epstein of Barron’s wrote an article called “Low Ceiling.” I wrote a letter to the editor:

To the Editor
The “Glass Ceiling” will always exist for women — and men, for that matter — who are principled enough to care for their children. There are jobs that demand so much time that a conscientious parent cannot take them.

Childrearing is aided by at least one parent sacrificing monetary income for the sake of time to spend with the children. It makes a big difference in quality of life, particularly for the children. The main determinant of a child’s future success is parental input. Without that parental effort, which is economically unprofitable in the short run, the future is not as economically bright, nor as friendly.

Perhaps it should not surprise us that standard educational achievement scores have dropped as the incidence of two-income families has risen. The pattern goes back for centuries. Wealthy parents get so busy that they cannot raise their children, so they hand the kids off to those who are often far less capable. It is no surprise that their familial wealth rarely lasts past the third generation.

DAVID J. MERKEL
Aston, Pennsylvania

I have worked with many bright, capable women in the workplace, some in the firm that I worked for, and some outside.? Most of them wanted a family and productive work, as I did, which often led to lasting friendships.? But it cuts against advancement in the workplace, which tends to go to men, and the few women who are willing to sacrifice their families for material advancement.

Women have it worse than dedicated men, because they have to bear the children, and that involves unavoidable pains and delays, and considerably more guilt feelings over whether they are doing it right for their children.? Men in general don’t have those doubts.

I have turned down jobs that would take me away from my family, and as a result, I am less wealthy.? I don’t care — my wife and kids are happy, in general, and that is what counts.? Though I love writing about economics and finance, I am not a slave to greed, and that enables me to be happier than many in my field.

We also have to recognize that good men and women are both similar and different.? Similar, in that they care for their families.?? Different, in that children require care that differs for each sex.? Fathers can’t nurse, and aren’t as compassionate, on average.? They are also better at dealing with boys as they age.? Women are better with the girls as they age, and better at the early nurture — I changed my share of diapers, but most men are clueless with little kids.

I leave this possibly controversial piece here — children need care, and parents need to provide it.? That will inhibit your careers, but leave you qualitatively richer in the long run.? I am happy with the sacrifices that I have made for the good of my wife and children.

More on AIG

More on AIG

Posted on by David Merkel

Aside from Abnormal Returns (one of my favorites, good to see him back), my comments on AIG were also cited by Felix Salmon at Market Movers.? I tried to post this comment there, but the software would not let me, and I have no idea why:

Thanks, Felix.? With the Wells Notice served to Hank Greenberg, this chapter of the AIG story is not over yet.

Sometime in the future, I’ll find and post a copy of the memo where Hank Greenberg discovered the massive under-reserving at ALICO Japan, giving his response to the problem… but given the billion dollar hole, it was amazing that AIG did not miss earnings that quarter, because it was much larger than their quarterly earnings.

And some of my insurance analyst friends wonder why I don’t find AIG to be cheap…

But, regarding the recent AIG news flow, my timing is not something that I attribute to skill.? I don’t believe in luck, but that Greenberg would get the Wells Notice so soon, that AIG would indicate willingness to sell off non-core units, or that they would raise significantly more capital than they previously indicated was not something I would have expected would happen the next day.

As I mentioned at RealMoney back when Greenberg left AIG, my experience in my three years inside AIG was that we (the small actuarial unit that I was in in Wilmington, Delaware) found five reserve errors worth more than $100 million, but none of them ever upset AIG’s quarterly earnings.? That is why I remain a skeptic on AIG.

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