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The Education of a Corporate Bond Manager, Part X

The Education of a Corporate Bond Manager, Part X

Posted on by David Merkel

“We’re doing a CDO.”? So said the head of investments.? A few days later, the staff of an investment bank crashed the branch office where I worked, and told us what they would like us to do.? We would buy a lot of their distressed inventory of utility bonds and financial bonds, add in some bonds of our own design, and sell a CDO.

I thought the idea stunk.? I also thought we should do it.? Why?? Get your foot in the door.? You can only do deal #2 if you have done deal #1.? Investment banks were not banging on our door to help us create a CDO, and the collateral wasn’t horrible.? It wasn’t what I would have chosen if I had discretion, but it wasn’t horrible.? Besides, we would own the equity, so who would take the first losses?

Unfortunately, the deal meant a trip to Wall Street, or at least midtown Manhattan. Now, some find that a lot of fun, and I do as well, because I like meeting bright people, and exploring new ideas.? Often my brokers wanted to introduce me to some of their “thought leaders.”? I found that to be a lot of fun.

But much as I like wine and good food, I sometimes found the schmoozing to be a burden.? I try to be an ethical guy.? I’m out to serve my client within the scope of the law, and within extra-legal ethical codes (I am an actuary and I hold the Financial Analysts’ Charter.)? I’m also a “cheap date.”? I don’t have to have an expensive steak… a good burger will do.

We had a practice in my office, that we would take visiting brokers from Wall Street to Victor’s Cafe, which was a 3 minute walk from our office.? Not very expensive, and good food.? We could get back to work quickly.? The brokers would look at the bill and say, “How am I going to explain this cheap tab to my boss?”? I told them that it was our way; we enjoy people, not spending.

On that two-day trip to Wall Street to talk with brokers and cement the CDO deal, the meal on the second night would be at a certain five-star restaurant.? One problem: no reservations were made.? So, at the beginning of the second day, a competitor broker (the piece of work featured in part nine) asked what we were doing that evening, and we mentioned the other broker, the restaurant, and that we did not have a reservation.? He said, “I am close friends, with the manager of [that restaurant].? If you want I can get you reservations this evening.? The only thing I ask is that your coverage at [the competitor] send me a thank-you note.”? We said sure.? He called them up, and BAM! Reservations for twelve on the spot.

The guy was a piece of work, but he could get things done.? The evening was great; I made the bright move of ordering a Russian beer, which was so bitter that I drank little.? The food was rich, for the nth time on this trip, and as I went home on Amtrak, I said to myself, “You can’t do this to your body — too much rich food over two days.”? I felt horrible.

And, as God would have it, the CDO deal blew up within a week.? Management did not want to do a deal that they did not shape.? As for me, I could go either way.? Deal one for shops that don’t have a big name is typically a compromise.

But, I learned from my times visiting in Manhattan, enjoy it, but not too much.? The best parts were learning how the brokers worked.? In the times that I visited the trading floors, Wall Street completed moving the cash guys next to the derivative guys, to share information effectively.

I also learned that we were up against organizations that were so much more clever than those that they served (us!), that we were better off cooperating with them than competing against them.? It was fascinating to watch the flow of information ripple across the trading floor.

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Making Money

Merger arbitrage was an area I was surprised to find had value as a manager of bonds.? I trust my analysts; if they said a deal will go through, it will go through.? I would analyze the downside, and see if it was not acceptable.? In that era, the incremental yield on swapping acquirer bonds for target bonds was 40% annualized.? Woo-hoo!? Given all of the credit losses in 2002, I was able to make up for it all and more with some of these trades.

There was one big deal where my analyst said that the deal was a lock, and so I traded all of my shorter bonds, and bonds in the acquirer, for 30-year non-deal-protected bonds, and went up to my credit risk limit.? To my surprise, I got a call from the chief investment officer.

“Hey.”

DM: “What’s up?”

“What are you doing?”

DM: “Making money, and you?”

“Not funny.? You are messing with all of our credit risk limits here.? What if the deal doesn’t go through?”

DM: “It will go through.? The target will not survive well without it, though the bonds are money good, and the acquirer has its reputation on the line.”

“No more trading in this name, got it?”

DM: “Got it.” (I was done anyway.)

That ended up being our largest single capital gain for the year.? A close competitor was when I began buying the junior debts of banks in late 2002, particularly of the floating rate variety, which offered more upside.? After putting 2% of the client’s assets into the floating-rate trust preferreds, I got the call.

“Hey.”

DM: “What’s up?”

“What are you doing?”

DM: “Making money, and you?”

“Not funny.? You are messing with all of our credit risk limits here.? What if the banks don’t do so well?”

DM: “These are major, solid banks, where there is little risk of insolvency.? You’ve bought some outright preferred stock of some of these banks for portfolios, and this is safer.”

“Forget that. This trade is done, no more, got it?”

DM: “Got it.”? Again, the trade was done, and spreads had begun to collapse in, rapidly.? One broker who dominated the sub-market, but who I had done few trades through, told me that there was a buyer in the market, and so spreads were falling fast.? I wonder who that buyer was? 😉

Anyway, the smallest capital gain they cleared on that trade was 10%, and in bond terms, those were home runs.

I had other notable trades, such as credits tainted with Brazil exposure, where the company would be fine even if the Brazil exposure defaulted in entire — we loaded the boat, and sold after Lula was elected.? (Remember how worried people worried about Lula?? Another reason to remember that stability usually triumphs over discontinuity.)

If you give your bond managers enough rope, they may work wonders for you, or they might hang themselves.? We had our share of losses and gains in what was a horrible period 2001-2003.? On the whole, it was well above average, but our client was tough, and we got little appreciation for what we did.

If you work for money, you will be disappointed.? If you work for praise, the same.? If you work for excellence, you can only disappoint yourself.? I was happy with what I achieved for the client, even though the client didn’t like me much. More in the next piece.

PS — the broker did not send the thank-you note, and “the piece of work” got after him until he did.? What an episode!

The Education of a Corporate Bond Manager, Part VIII

The Education of a Corporate Bond Manager, Part VIII

Posted on by David Merkel

“Price discovery is the toughest part of managing bonds,” one of my brokers told me early on.? Right he was.? There may be 7000 or so stocks that trade with some regularity in the US, but there might be one million different bonds.? The last trade on a given bond that you might consider might be weeks or months ago, if you could find it at all.? I was managing pre-TRACE, where reporting got standardized.

I dealt in more illiquid bonds than most managers would.? Part of that was inexperience, another part was knowing that I had a balance sheet behind me that could handle it, and the last part was knowing that my credit analysts were usually right, so if I could find bonds that were off the beaten track and could be held to maturity, we could make some extra money.? Pay us with a good yield, and I will eat the illiquidity risk on behalf of my client.

One of the dirty secrets of bond management is that after adjusting for default risk, the #1 predictor of the return you will get is the yield on the portfolio.? If you do default risk right, that’s almost a tautology — default risks should be lowered after the bust phase of the credit cycle, and raised as the credit cycle gets long in the tooth.? The tighter spreads get, the more you should raise your default loss estimates.

But how to come to the right price/yield/spread?? I had a few trades, but they were dated.? I knew the spreads then, and used the spreads of more liquid similar credits to adjust it to a likely yield spread today.? I put in a fudge factor because illiquid bonds are higher beta, and then studied which of my brokers might have a bead on the bonds in question.? I would ask them their opinion, and if they were in my ballpark, I would back up my bid some, and bid for $1 or $2 million of the bonds.? The response would come back, and I would have a trade, or nothing, but maybe some color on where they would be willing to sell.? If a trade, I would back up my bid a little more, and offer to buy more.? If no trade, I would offer 50-70% of the distance between our bid/offer, and see what they would do.

I never thought I would be good at haggling.? I’m a quiet person for the most part, and I was surprised at how much I enjoyed being on the phone with my brokers most of the day, buying deals, setting up trades, discussing market color, etc.? But I was good at haggling, and I carried tools in my bag that many did not.

I decided to hold auctions and reverse auctions.? On the reverse auctions, I would solicit liquid bonds to be sold to me — maximum spread wins, subject to a reservation spread, or a minimum number of offerers.? On the auctions, I would offer liquid bonds, minimum spread wins, subject to a reservation spread, or a minimum number of offerers.? It worked well, until I read a fiction book that had auction theory as a subtext.? So I designed a new auction.

One of the problems with the auctions was that some investment bank would overbid, and win, and then the salesman would come back to me, confess the error, and say, “Can you show me some love here?”? I was taken aback by it the first time I heard this, but came back with a fairly rational solution, giving back one-third of the difference between the winning bid, and the second-place bid.

But I came up with a better way.? Here is a? Bloomberg post that I made to five of my brokers:

BWIC [Bid wanted in competition] — 1:30PM — 5 dealers only.? I am selling these just to raise cash.? This is a continuation of my experiment so bear with me.? In an effort to reduce buyers remorse (and thus get better bids) I am awarding the bond to the winning bid at the COVER level.? In case of a tie, I will award bonds pro-rata at the tie level.? If you don’t want to play, let me know.? Thanks, David. [Bond list follows]

Everything has meaning here:

  • 5 dealers — limit the auction to the dealers who have the most interest, it makes them fell comfortable that they have a shot at getting bonds.? I never used more than 6 dealers in an auction.
  • Just raising cash — says that you don’t know anything they don’t know.? Makes them more willing to bid.
  • Cover level is the second place bid.
  • You can’t come back begging for love here.
  • Ties were particularly valuable, because there was no love and both brokers got half of the bonds, and typically lost money on resale, since they were competing against each other.
  • If I did not get enough bids on an auction, typically three, I could cancel it.

I reviewed my auction results and found that it erased the advantages of my brokers.? I ended up selling bonds near their ask levels, on average.? What was worse, many thanked me for being innovative in creating an auction method that “showed love” in advance of the auction.? When I explained this gambit to my wife as we were traveling to prayer meeting one evening, she gave me a hard hit on the shoulder, and said to me, “David Merkel, you are horrible!? Not only do you beat Wall Street at its games, but you get them to thank you for it!”? Oh well, guilty as charged.? She doesn’t want me to be proud, and she was right.

There are limits on when to haggle, though.? Occasionally you are invited into deals that you know are good; only a pig would ask for more then.? Those that do ask for more will get dropped from the list.? So be a gentleman; if you are getting an unreasonable deal already, smile, thank them, and move on.? Don’t ask for more.? It is more important to be invited back, than to make a little more today, even if that were possible.

In haggling, I would bid/offer fewer bonds than was wanted by the seller/buyer at the level, and ask for better terms at their size.? That would make them more willing to deal.

I had more tricks in my arsenal, but one was always paying my brokers.? If at the end of a trade, my broker said to me, “Well, your prices match so I will cross the bonds to you,” I would say, “No, I am raising my price (by 1/64th on $100) so that you can be paid.? My broker must always earn something on my trades.”? This made my brokers more loyal to me.? They knew that I cared for them, which meant something, particularly with the regional brokers.

In one sense, trading was just an amplified version of character.? Could you be trusted?? Do you play fair?? I tried to be fair everywhere I could while making money for my client.? That had a lot of payoffs for my client, even though if they were watching over my shoulder on individual trades they might have said, “Why are you not pursuing the maximum here?”

I have a saying that playing for the last nickel might cost ninety-five cents in the long run.? Intelligent managers do not look like pigs, or their opportunities get shut off.

I would simply say that you should play for long run advantage.? Better to make modest gains in many opportunities, than to make a killing once, and be shut out from opportunity thereafter.

I have more tales on this topic, but they will have to wait until a later episode… I have four left at maximum I think.

The Education of a Corporate Bond Manager, Part VII

The Education of a Corporate Bond Manager, Part VII

Posted on by David Merkel

Credit analysts are a corporate bond manager’s best friends.? No portfolio manager can be entirely aware of the extent of credit risks in a broad portfolio.? They provide a necessary check on the ability of the portfolio manager to play “cowboy” (or “cowgirl”), and to mix the metaphors, be a yield hog.

The native tendency of almost all bond portfolio managers, unless they have discipline, is to seek extra yield, for two reasons:

  • In the short run, on average, a portfolio with more yield earns more.
  • Many managers will conclude that a higher yielding credit will rally, due to mean-reversion.

The second observation is true about half the time in my opinion, but the rewards are asymmetric.? Gains are small, and losses are large.? It does not pay to be a yield hog.

I listened closely to my analysts.? After all, if you have talented analysts, why shouldn’t you listen to them aside from a misbegotten pride?? I always did what my analysts told me to do, but I did it on my timing, and I explained that to them: “I will sell this bond, but right now, the market is running hot, and marginal bonds like this one are in hot demand.? If I wait a week or two, I will get a better price.”

Communication is the key, as it is in any relationship.? More communication make the analyst feel valued.? Letting them know why you like or don’t like an idea of theirs is useful to them.? Giving them pricing data helps them grasp what you are up to, and can lead them to provide real help, once they grasp the problem.

But ignoring them, except to blame them when they make bad calls, leads to a poisonous relationship, and does not lead to stellar performance.? Don’t get me wrong, I think portfolio managers should lead, and credit analysts guide them, but if there isn’t respect for the analysts, you may as well give up.? They are professionals as well as you.

Now, the intelligent portfolio manager underwrites his analysts.? All analysts have biases.? Some will say “Yes” to almost everything, some will say “No” to almost everything, and some are balanced.? There are ways to break them out of their biases, though.? Giving them a list of spreads for the companies that they cover, and asking them to rank the credits in their sector is a good start.

For Mr. Yes, ask him about risk factors.? Ask him how it would rank relative to major competitors.? For Ms. No, ask her what are the best names she would invest in.? Where is there opportunity?? Ask her to rank the company versus major competitors.? It’s a challenge, but if your analysts are bright people, you can retrain them to think past their biases, and give you good information that you can apply to making buy and sell decisions.

If I may, this is another area where being polite, reasonable, and (dare I say) loving, pays off.? Showing care for you colleagues pays large dividends.? I am not saying be a pushover, but the more you cultivate your colleagues, the better results become.

Monoculture

Every investment shop tends to create? a sort of monoculture, modeled off the guy at the top.? Now, if the boss has succeeded for a long time, it is because his unique views have punch.? All the same, situations will come up where the firm is long a name to nearly the maximum level, and the credit analyst is certain of his opinion, though the price keeps falling.

What to do?? Here are the steps:

  • Have other analysts analyze it.? It may not be their sector, but they are professionals, and will bring a fresh set of eyes to the problem.? If that fails, then…
  • Have the portfolio managers take the name home and analyze it.? Let them poke holes in the thesis.? But if no one can find a hole…
  • Look at Street research, to find the bears… circulate the opinion to all on the team.? If the opinion makes sense at present pricing, sell out.? If it makes no sense, waive the credit limits and buy more.? Look for reasons as to why others might be forced sellers.

The idea is to challenge the internal credit culture of the firm, and analyze the market dynamics that might be creating a lower price in the short run than might exist in the long run.

That’s all for now, more to come in part eight.? Wait, how many parts will there be in this series?? The present target is twelve.

The Education of a Corporate Bond Manager, Part VI

The Education of a Corporate Bond Manager, Part VI

Posted on by David Merkel

After 9/11, and and before the merger was complete on 9/30/2001, our investment team got together and came to an unusual conclusion — 9/11 would have little independent impact on the credit markets, so be willing to take credit risk where it is not well-understood by the market.? We bought bonds in hotels, airplane EETCs (A-tranches), anything having to do with confidence in the system at that time.? I consciously downgraded our portfolio two full notches from September to November.

I went to a Chief Investment Officer’s conference for insurance investors in October 2001.? What I remember most is that we were the only company being so aggressive.? In a closed0-door meeting, the representative from Conseco told me I was irresponsible.? To hear that from a company near bankruptcy rang the bell.? I was convinced we were on the right track.

By mid-November, we had almost completed our purchases of yieldy assets, when I received a phone call from the chief actuary of our client expressing concern over the credit risks we were taking; the rating agencies were threatening a downgrade.

Well, what do you know?!? The company that did not understand the meaning of the word risk finally gets it , and happily, at the right time.? We were done with our trade.

We looked like doofuses for three months before the market began to turn, and I began a humongous “up in credit” trade as we began to make a lot of money.? By the time I was done in early June, I had upgraded the whole portfolio three full notches.? A great trade?? You bet, and more.? What’s worse, it was what the client wanted, but not what it should have wanted.

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What should my client have wanted?? Interest spread enhancement with loss mitigation.? That is the optimal strategy for life insurers.? We were ready to do that, but at a meeting in late September 2001, the client said, “The management of assets for this company has been lazy; there is not enough trading.? We want to see the highest returns possible; give us total returns!”

I tried to explain why that was not the best way to manage insurance assets.? After all, I had been doing this for ten-plus years, and knew the difference between current GAAP accounting and long term sustainable GAAP accounting.

The CEO told me that I knew nothing at all, and that portfolio management needed to be active.? Activity meant more profits.? I told him that he was wrong, and was rudely cut off.? I did not go back to that argument.

After we had a few inconsequential defaults, the client complained loudly.? This was an ignorant client that did not recognize reality.? Defaults are a fact of life; if you run with your capital base so thin that you can’t take a few modest defaults, you are running your insurance company wrong.

As it was, the emphasis on trading did generate capital gains initially, the portfolio began with unrealized capital gains.? But the company took the capital gains to be “free money,” used them as new capital, and began writing more underpriced aggressive insurance/annuity policies.

But then, as capital got tight, the chief actuary came to me saying that they needed to do a financial reinsurance treaty to raise capital for the firm.? I replied that we did not have many bonds with an above market yield.? We had the Prudential
“C” bonds that I mentioned earlier, and a few more, but not a lot more.? I scraped together what I could, culling the best bonds from the portfolio, realizing that the remainder would be decidedly subpar.? You could say that they hocked the “family silver.”

They did the reinsurance deal over my objections, which technically did not meet the stipulations of the state regulations, and gained more capital to write business against.? There was a cost, though.? We could not sell any of our best bonds, and the regulatory profits of the firm would now be flat to negative.

I did my best to aid their business goals, finding weaknesses in the risk-based capital formulas, and managing the interest rate posture of the company to near-perfection, all of which reduced capital needs.? But when you are running a company that is addicted to making sales, even if the sales are only marginally profitable, and not covering the cost of capital, that is the path that matters will take.

Would that they had listened to me, but they were arrogant.? What price did they pay for their arrogance?

  • The company CEO was encouraged to retire.
  • The CFO and Chief Actuary had to leave.
  • The parent company CEO was forced to resign for all of the money he had plowed into that loser of a subsidiary in the US.
  • The company was put up for sale, but given the dubious operating history, bidders were few and reluctant to spend much.

Any successful insurance enterprise needs bright managers on both sides of the balance sheet.? Bright managers of the assets, and issuers of policies that don’t give away the store.

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PS — I had one bond that was a high interest second-lien loan on one of the most valuable buildings in Baltimore.? At the time, the equity owner of the building called me, and made me a lowball estimate to pay off the loan, a few months before it would spring to first lien status.? I politely told him “No way,” and named a considerably higher price at which I would consider a buyout.? He told me that I was ridiculous, and I said “Fine, but I have read the agreements, and know our rights.”

He then called the client, and made the same offer.? They pestered me to deal with him, and I explained how he was wrong, and that the price should be much higher.? They agreed with me, and that was put to rest… until I left the firm, and the equity own got the deal done, paying up a little more, but by no means what he should have.

As I said many times regarding my client, “You can’t teach a Sneech.”? Sad but true for many who don’t understand investing.

The Education of a Corporate Bond Manager, Part IV

The Education of a Corporate Bond Manager, Part IV

Posted on by David Merkel

When I started this series, I did not think that it would expand as much as it has.? Part of that is getting great questions, such as:

Hi David,

Great series!

You mention that reputation/size matters. Are there any ?poker? aspects of reputation that can be detrimental? For example, if you develop a reputation for consistently making good purchases do brokers catch on and markup prices with the idea that your interest in a bond is evidence of underpricing?

Josh

Mmm… poker; I use gambling analogies freely, but I don’t gamble.? You have a point, Josh.? If you do have skill as a manager, how do you deal with the Street if you think they will use your knowledge against you?

First, it helps if you are honest, keep your word on trades, and never try to weasel out of a trade once you have said “done.”? Your word is your bond, and the Street quickly learns who can’t be trusted.? Second, it also helps if you have a genuinely fair reputation; that you don’t try to pull fast ones on the broker community.? A few things that help in that regard: 1) most trades are “low information” trades — you need to raise some cash, and so you look down your list of bonds that your analysts have tagged as “please sell in the next few months” and select a few bonds on which to solicit bids.? When you talk to the brokers in question, tell them how many brokers you are talking to about this bond, and that you just need to raise some cash.? That sets them at ease, and does not reveal that your analyst has a negative opinion on the bond.

Third, that reputation for fairness should be reinforced by other actions.? a) When an investment bank is quoting a price/spread out of the market context, let them know what you know.? If they insist that they are right, then trade against them. b) If their risk control desk comes to you with a trade because they have to cover a short, and you own the bonds, help them out.? This is an “Androcles and the Lion” situation.? Make them pay up, but don’t “gouge their eyes out,” to use the technical term.? Just make them pay a little more than the ask.? If you do that, they will be grateful, and might offer you the long cross-hedge bond at a very nice price (happened to me twice).

Fourth, in general, have an “openness policy.”? Many bond managers conceal 80% of what they are thinking and reveal 20%.? I would reveal 80% and conceal 20% — the most critical 20%. (Imagine a poker game where you, and only you, get dealt all of your cards face down, and you get to choose which one card remains face down.)? Truth is, most investors and investment banks are not set up to copy everything their bright investors do; it would quickly become an overload.

But there is another reason why if you are a bright investor that you don’t have to worry so much.? Brokers make money off of trades.? They thrive off of differences in information.? They like nothing better than to facilitate the trades of bright investors at the expense of not-so-bright investors, because it gives them a reliable series of trades, where they clip a little for themselves.? They aren’t dumb; they don’t want to kill you on one trade if they know they can have a continued stream of trades.

Fifth, your broker at the investment bank is proud of his best clients.? He does not want to lose you if you are bright, or if you trade a lot, or run a big account.

Sixth, never tell your whole story to any broker.? The intelligent portfolio manager breaks up his business among many brokers, each of which is working on specific deals, with no overlap, unless the brokers have been so informed.

Seventh, it is very good to have a reputation for being bright, or at least, not being a pushover.? It restrains the brokers from taking advantage of you and your client.

So I look at being bright in the bond business another way.? It is an advantage that needs to be manager through proper communications.

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On the Trading Log

My first boss had a trading log, and when he left, I imitated him, and copied down my notes from when I was trading.? In the short-run, it avoided confusion; in the long run it encouraged consistency of thought.

But, it is one thing to keep a log, and another thing to remember prices and spreads.? I did my utmost to forget where I entered trades, and then focused on what was the best thing I could do with any given bond, even of I sold it at a loss; at least I avoided a bigger loss.

It is freeing to avoid thinking about whether any trade will generate a gain or a loss, and rather, as how the portfolio can be improved.? We can’t control market prices, but we can choose the companies in our portfolio.? And though humans might be bad at making choices when there are thousands of options, we can be very good at evaluating whether swapping one asset for another can be bright, dumb, or too close to call.

More on this in future segments.

The Education of a Corporate Bond Manager, Part I

The Education of a Corporate Bond Manager, Part I

Posted on by David Merkel

In 2001, I became a corporate bond manager by accident.? I had been the mortgage bond manager and risk manager of a unit managing the assets of a medium-to-large life insurer, when the boss left to take another job in the midst of a merger.

The staff and I got together, and the credit analysts told me that I should lead the organization during the merger.? When I asked why, they said they trusted me, appreciated my growing bond skills, that I was the only one who understood the client, and said that I had a better call on credit than the boss had.? I was surprised by that last comment, but upon meeting with the management of our parent company that was selling us, along with the life insurance company that we managed, they told me that yes, I should lead the unit until the merger closed, but rely on the high yield manager in our group to advise me for the duration, which was going to be three months.

The first thing that I did was a bond swap, trading away an older bond of a company for a new issue.? There was some hurry in the matter, so I entered into the swap before I could consult the high yield manager.? After I could talk with him, he pointed out that I had offered terms more favorable than I should have.? On a $5M swap, I ended up losing $20K.? We worked through the swap a number of different ways, which solidified my knowledge of corporate bond pricing.? I did not make that error again.

In the corporate bond market, new deals come frequently.? My former boss would do almost all of his bond buying on new deals, and almost never in the secondary market, because he knew that new deals almost always came cheap.? There is a price to be paid by corporations to gain liquidity.? The life company that I managed money for was growing like a weed (their products were perpetually underpriced), so I had a lot of money to put to work.

But, I already had a large portfolio of corporate names.? I was familiar with many of them to some degree because of my stock investing.? How could I go through the whole portfolio to look for bombs that might be lurking? Ask the credit analysts to give me a review on every name?? I did not want to kill them, or me for that matter.

I took the idea home , and thought about it, and then it struck me.? Thinking of bonds as having sold a put option to the equity, why not look at the amount that the stocks of the companies issuing the bonds had fallen in price since issuance of the bonds?? I set a threshold of 50%, and that gave me a list of about 30 names to hand to the analysts.? Manageble.? Cool.? (Oh, and tell me briefly about these 20 private bonds where there is no stock price.)

The analysts came back with their opinions, and surprisingly they advised selling half of the bonds and keeping the other half.? That was more than I expected.? But I started selling away, and began to learn the art of price discovery.? When you want to sell a bond, you first have to look at what investment banks ran the books of the deal.? There is an unwritten rule that if they play that large role in origination, they have to make a market in the bonds thereafter.? So, I consulted the various investment banks and inquired about levels, and then said something to the effect of, “If there is a reasonable bid (naming the spread over Treasuries) we would be interest in losing a few million bonds.? If there is an aggressive bid, we could be induced into selling a few more.? We might even be willing to sell the whole wad if they make us the offer that we can’t refuse.”

If there were multiple banks that traded the bond, I would set the above up with just one bank.? You never wanted to make it look like there were two sellers out there, or bids would vanish.? Beyond that, it was bad etiquette to employ two banks without telling them that they were in competition with each other.? If not. you could end up with two orders to buy your bonds, and you would have a moral obligation to meet both orders, even if that was against your interests.

Usually the broker would ask for the total size of the wad available for sale.? The idea was to get the buyers to think economically.? Yes, they could get a small amount of bonds if they met the spread, but was it worth it to bid for more?? Also, if they bought the wad, they would know that there were likely no more bonds on offer, the selling pressure would be gone, and the bonds would likely trade up from there.

I sold away a decent amount of the bonds that the analysts wanted gone, and then 9/11 hit.? What a day.? Since we worked inside the insurance company that we manager money for, and we had two TVs on the corners of our trading floor, all of a sudden our area was flooded with people staring at the spectacle.? I almost felt like Crocodile Dundee as I had to maneuver my way around and over them.

I gathered my staff and told them to look at their portfolios, and e-mail me threat reports so that I could inform our client.? After that, take the rest of the day off, as there is nothing to do here; many of them wanted to mourn friends that might be dead (I lost two acquaintances).? I summarized the threat reports, and submitted them to the client by 4PM.? We repeated that process for the next eight business days, until the crisis was past.

I had worries over One Liberty Plaza, next to the former World Trade Center, which seemed to be leaning, and might fall.? We owned the AAA portion of the CMBS that contained the loan for that building.? As I scoured the web, I concluded there was no danger, the building only looked like it was leaning; the dark coloration was deceptive.

Eventually trading resumed.? If you remember Metcalfe’s Law, the value of a telecommunications network is proportional to the square of the number of connected users of the system.? Well, after 3 days, 2 of 12 major brokers were running, which meant that there was no trading.? After 4 days, 6 brokers were up, so I made an offer on some AA Manufactured Housing ABS, deeply below where there market was prior to the crisis.? I got hit, and I owned the bonds.? Some said to me, “Why not wait?? Why offer liquidity now?? I said that some had to make some bids to restart the market; my client had ample liquidity, and I was offering liquidity at a price; if someone was that desperate for liquidity, they could have it at my price.

After 5 days 8 of the 12 were up, and after 6, 10 of 12.? The last two took a while to re-emerge, but were back after 10 days.? Even so, things seemed sluggish.

I began to do the same with corporate bonds, doing a large auction offering liquidity, specifying bonds that I wanted at certain levels, and the amounts.? I ended up buying half of my list, and still my client had ample liquidity.? What a high quality problem to have.? More in my next segment.

Alternative Investments, Illiquidity, and Endowment Management

Alternative Investments, Illiquidity, and Endowment Management

Posted on by David Merkel

I am a risk manager first, and a profit maker second.? I tend not to trust solutions that are “magic bullets” unless there is some barrier to entry — why can you do it, and few others can?? Knowledge travels.

So, regarding the “endowment model” of investing, I have been partly a believer, and partly a skeptic.? A believer, because endowments do have the ability to invest for the long-term, and not everyone else does.? A skeptic, because many endowments were taking on too much illiquidity.

Liquidity is an underrated factor for investors who have charge over portfolios that have a long-term stable funding base.? I had that advantage once, as the main investment manager for an insurer the had a large portfolio of structured settlements.? In insurance liabilities, nothing is longer than a portfolio of structured settlements.

Buy long-dated debt?? Illiquid debt?? If the pricing is right, sure; you should have to pay to rent the strength of a strong balance sheet, where the funding is intact.? WHen managing that company’s portfolio I didn’t have to worry about a run on the portfolio, because I kept more than enough liquid assets to satisfy the demands of policyholders should they decide to surrender.

Pushing it Past the Illiquidity Limit

I decided to write about the endowment model after reading this article, of which I will quote the first paragraph:

There has been much written in the popular press lately about the failures and even the “death” of the endowment model. The discourse regarding this matter has been surprisingly simplistic, naive and exceedingly short sighted. As was the case with Mark Twain, reports on the death of the endowment model have been greatly exaggerated. Let’s start with the facts. The “endowment model” practiced by most of the big university endowments and many big foundations (but also by some astute smaller endowments and foundations) has overwhelmingly outperformed virtually all other models over any reasonable time period, and has done so for a very long time now. There is no single model, mode or manner of investing that outperforms in every environment and over every time period, and the endowment model of investing was never predicated on being the exception to this obvious reality. In fact, endowments’ time horizons are as long as any investor’s horizon, and hence are strictly focused on the long term. This is a huge advantage because there is clearly a significant liquidity premium to be captured by investing long term, not to mention the ability to better avoid the chaotic noise and behavioral finance mistakes that arise with a short term environment and outlook – especially in volatile markets.

The idea here is that you will obtain better returns if you can focus out to an almost infinite horizon — after all, endowments will last forever.? There is an edge to having a long investment horizon, but there are still reasons to be cautious, and not aim a majority of investments in such a manner that means that they cannot be touched for a long time.

Here is my example: Harvard.? At the end of fiscal 2008, those that managed Harvard Management Company were heroes.? The largest university endowment, stupendous returns, etc.? Who could ask for more?

The risk manager could ask for more.? With an endowment of nearly $37 billion in June of 2008, only $16 billion was liquid assets.? Of that $16 billion, $11 billion was spoken for because of commitments to fund limited partnerships.? Harvard also had $4 billion in debt, not all of which was directly attributable to the endowment, but still would be a drag on the total Harvard entity.?? If this is representative of the endowment model, let me then say that the endowment model accepts illiquidity risk more than most strategies do.? Even after their great investment successes, Harvard did not have enough liquidity.

Then Came Fiscal 2009 — We’re out of liquid assets!

My guess is that sometime in the fourth quarter of calendar 2008, the powers that be at Harvard concluded that they were in a liquidity bind — negative net liquid assets, and there is a need for liquidity at Harvard, to pay for ordinary operations, as well as expansion.? Thus they moved to sell illiquid investments, and take a haircut on them.? They reduced their forward commitments by $3 billion.? They also raised $1.5 billion in new debt, $500 million worth of 5-, 10-, and 30-year debt each.

This is clear evidence of a panic, and an indication that the portfolio was too illiquid.? What else might indicate that?? Well, Harvard had to scale back capital projects, and had a round of layoffs of ancillary personnel.

The idea of an endowment is that you can run your institution without fear of the future.? But that also implies that those endowed will not make abnormal demands on the endowment.? That applies to the amount disbursed and the liquidity of the underlying investments.

Now at the inception of fiscal 2010, Harvard is much in the same place as it was in 2009.? Net of debt and commitments, Harvard’s endowment does not have liquid assets on net.? (My estimates: $12.5 billion of liquid endowment funds, $8 billion of funding commitments, and $5.5 billion of debt.)? Granted, it was wise to move the endowment’s cash policy target from -5% to -3% to +2% over the past two fiscal years.? Even if cash doesn’t return anything, it is still valuable.? You can’t pay professors with shares of a venture capital partnership.

The Horizon Isn’t Infinite

This brings me to my penultimate point, which is that the investment horizon for endowments is different for other investors in degree, but not in kind.? The horizon for an endowment is infinite only under conditions of permanent prosperity.? Well, anyone can invest forever under conditions of permanent prosperity.? The forever-growing investments can be borrowed against.

The investment horizon must take into account the possibility of a depression, or at least a severe recession or war, if you want to have an endowment that will truly last forever.? There has to be cash and high quality liquid debt adequate to provide a buffer of a few years of expenses.? That will give the institution more than adequate time to adjust to the new economic conditions.

Most college endowments that have not gone overboard on illiquid investments and don’t have a boatload of debt probably don’t have to worry here.? But for those that bought into the alternative investments craze, the idea of invest for forever must at least be tempered into something like 20% of our investments exist to buffer the next 5 years, and the other 80% can be invested to the infinite horizon (maybe).? That’s a more realistic approach to endowment investing, akin to a speculator paying off his mortgage and having a year of savings in the bank before beginning a trading career with capital beyond that.

Alternative Investments are not Alternative Anymore

There is another reason, though, to be cautious about illiquid investments.? With any new alternative investment class, the best deals get done first, and wow, don’t they provide a thundering return!? Trouble is, knowledge travels, and success breeds imitators.? The imitators typically bring deals that will have lower returns or higher risks than the original deals.? But the pressure of additional money into the alternative illiquid investments force progressively more marginal ideas to get done as deals.? Also, mark-to-market returns of earlier investments get marked up, giving them an even more impressive return, which attracts more capital to the investment class.

Eventually deals get done that make no sense, but the momentum of demand carries the asset class until returns of newer deals prove to be negative.? That? gets the mark-to-market process moving in reverse, and demand for the “no longer new” investment class declines.? In some cases, investors will try to get out of funding commitments, and even try to sell their interests to a third party, usually at a significant concession to the hard-to-define fair market value.

Eventually enough capital exits the class, inferior deals get written down, and the once new investment class might still be labeled “alternative,” but has entered the mainstream, because it has been around long enough to go through a failure cycle.? The now mainstream but still illiquid investment class is near a normal size versus the investment universe, and should possess forward-looking returns that embed a risk premium to reflect the disadvantages of illiquidity.? Also, the now mainstream investment becomes more correlated with risk assets generally, because the actions of institutional investors chasing past returns is common to much of what qualifies for asset allocation.

Summary

  • Liquidity is valuable, and should not be surrendered without proper compensation.
  • Alternative investment classes eventually go through a mania phase, and then go through a failure cycle.
  • After failure, they tend to be more correlated with other risk assets.
  • Endowments can indeed invest for a long horizon, but should keep sufficient liquid assets on hand to deal with significant market corrections.
  • Harvard’s endowment would be vulnerable if we had a repeat in the near term of what happened in fiscal 2009 because of its low net liquidity.

Investing is a business where the smarter you are, the more it pays to be humble and recognize risk limits.? Major universities and colleges (and defined benefit plans) should review their asset allocations and stress-test them on scenarios where liquidity is in short supply.? Better safe than sorry.

Articles on the Harvard Endowment

6:46 PM Update — So I write this, and Morningstar comes out with a good piece like this one.? So it goes.

Getting a Job in Insurance

Getting a Job in Insurance

Posted on by David Merkel
Photo Credit: Boston Public Library

Well, I never thought I would get this question, but here it is:

Thank you for your dedication to your blog.

I was wondering if you have any skill development advice for recent graduates to gain a job in insurance – is technical or programming skills the most important or perhaps making business cases, or showing that you can make sound and reasonable conclusions?

Thank you for your time.

Kind regards,

There are many things to do in insurance.? Some are technical, like being an actuary, accountant, investment analyst/manager/trader, underwriter, lawyer or computer programmer.? Some take a great deal of interpersonal skills, like being an administrator, marketer or agent.? Then there are the drones in customer service and claims.? Ancillary jobs can include secretaries, janitors, human resources, and a variety of other helpers to the main positions.

Before I begin, I want to say a few things.? FIrst, if you work in insurance, be kind to the drones and helpers.? It is the right thing to do, but beyond that, they don’t have to go beyond their job description — they know their opportunities are limited — it is only a job.? Treat them with respect and kindness, and they will go above and beyond for you.? I learned this positively first-hand, and a few of them 20-30 years older explained it to me when I noticed they weren’t helping others who were full of themselves.

Second, the insurance industry does a lot to train drones, helpers, agents, marketers, underwriters, and younger people generally, if they are willing to work at it.? There are self-study courses and exams that vary based on what part of the industry you are in.? Take the courses and exams, and your value goes up — it is not obvious how that will work, but it often pays off.

Third, it is not a growing industry, but lots of Baby Boomers are retiring, and leave openings for others.? Also, drone and helper positions often don’t pay so well at the entry level, and turnover is somewhat high.? The same is true of agents — more on that later.

Fourth, watch “The Billion Dollar Bubble,” and episodes of Banacek if you want.? The actual practices of how they did things in the ’60s and ’70s don’t matter so much, but it gets the characterization of the various occupations in insurance right.

FIfth, insurance is a little like the “Six Blind Men and the Elephant.”? Actuaries, Accountants, Administrators, Marketers, Underwriters, and Investment Managers (and Lawyers and Programmers) each have a few bits of the puzzle — the challenge is to work together effectively.? It is easier said than done.? You can read my articles on my work life to get a good idea of how that was.? I’ve written over 30 articles on the topic.? Here are most of the links:

DId I leave out the one on insurance company lawyers?? Guess not.

Sixth, it is easier to teach those with technical skills how the business works than to teach drones and helpers technical skills.? It’s kind of like how you can’t easily teach math and science to humanities and social science majors, but you can do the reverse (with higher probability).? It is worth explaining the business to computer programmers.? It is worth explaining marketing and sales to actuaries.? Accountants get better when they understand what is going on behind the line items, and maybe a touch of what the actuaries are doing (and vice-versa).

Seventh, only a few of the areas are close to global — the administrators, the underwriters, the actuaries, and the marketers — and that’s where the fights can occur, or, the most profitable collaborations can occur.

Eighth, insurance companies vary in terms of how aggressive they are, and the dynamism of positions and ethical conundrums vary in direct proportion.

So, back to your question, and I will go by job category:

  1. Drones and helpers typically don’t need a college education, but if they show initiative, they can grow into a limited number of greater positions.
  2. Computer programmers probably need a college degree, but if you are clever, and work at another insurance job first, you might be able to wedge your way in.? While I was an actuary, I turned down a programming job, despite no formal training in programming.
  3. Lawyers go through the standard academic legal training, pass the bar exams, nothing that unusual about that, but finding one that truly understands insurance law well is tough.
  4. Accountants are similar.? Academic training, pass the accounting exams, work for a major accounting firm and become a CPA — but then you have to learn the idiosyncrasies of insurance accounting, which blends uncertainty and discounting with interest.? The actuaries take care of a lot of it, but capturing and categorizing the right data is a challenge.
  5. Actuaries have to be good with math to a high degree, a college degree is almost required, and have to understand in a broad way all of the other disciplines.? The credentialing is tough, and may take 5-10 years, with many exams, but you often get study time at work.
  6. Agents — can you sell?? Can you do a high quality sale that actually meets the needs of the client?? That may not require college, but it does require significant intelligence in understanding people, and understanding your product.? Many agents can fob some bad policies off on some simpletons, but it comes back to bite, because the business does not last, and the marketing department either revokes your commissions, or puts you on a trouble list.? “Market conduct” is a big thing in insuring individuals.? The agents that win are the ones that serve needs, are honest, and make many sales.? Many people are looking for someone they can trust with reasonable returns, rather than the highest possible return.? One more note: there are many exams and certifications available.
  7. Marketers — This is the province of agents that were mediocre, and wanted more reliable hours and income.? It’s like the old saw, “Those who cannot do, teach. Those who cannot teach, administrate.”? It is possible to get into the marketing area by starting at a low level helper, but it is difficult to manage agents if you don’t have their experience of rejection.? Again, there are certifications available, but nothing will train you like trying to sell insurance policies.
  8. Underwriters — as with most of these credentials, a college degree helps, but there is a path for those without such a degree if you start at a low level as a helper, show initiative, and learn, learn, learn. Underwriters make a greater difference in coverages that are less common.? Where the law of large numbers applies, underwriters recede.? The key to being an underwriter is developing specialized expertise that allows for better risk selection.? There are certifications and exams for this, pursue them particularly if you don’t have a college degree.? Pursue them anyway — as an actuary, I received some training in underwriting.? It is intensely interesting, especially if you have a mind for analyzing the why and how of insured events.
  9. Investment personnel — this is a separate issue and is covered in my articles in how one can get a job in finance.? That said, insurance can be an easier road into investing, if you get a helper position, and display competence.? (After all, how did I get here?)? You have to be ready to deal with fixed income, which? means your math skills have to be good.? As a bonus, you might have to deal with directly originated assets like mortgages, credit tenant leases, private placements, odd asset-backed securities, and more.? It is far more dynamic than most imagine, if you are working for an adventurous firm.? (I have only worked for adventurous firms, or at least adventurous divisions of firms.)? Getting the CFA credential is quite useful.
  10. Administrators — the best administrators have a bit of all the skills.? They have to if they are managing the company aright.? Most of them are marketers, and? a few are actuaries, accountants,or lawyers.? Marketing has an advantage, because it is the main constraint that insurance companies face.? It is a competitive market, and those who make good sales prosper.? VIrtually all administrators are college educated, and most have done additional credentialing.? Good administrators can do project, people and data management.? it is not easy, and personally, few of the administrators I have known were truly competent.? If you have the skills, who knows?? You could be a real success.

Please understand that I have my biases, and talk to others in the field before you pursue this in depth.? Informational interviewing is wise in any job search, and helps you understand what you are really getting into, including corporate culture, which can make or break your career.? Some people thrive in ugly environments, and some die.??Some people get bored to death in squeaky-clean environments, and some thrive.

So be wise, do your research, and if you think insurance would be an interesting career, pursue it assiduously.? Then, remember me when you are at the top, and you need my clever advice. 😉

 

On Finding a Job in Finance

On Finding a Job in Finance

Posted on by David Merkel
Photo Credit: Chris-H?vard Berge

I was approached by a younger friend for advice.? This is my response to his questions below:

Thank you for agreeing to do this for me. I would love to have an actual conversation with you but unfortunately, I think that between all of the classes, exams, and group project meetings I have this week it would prove to be too much of a hassle for both of us to try to set up a time.

1. What professional and soft skills do you need to be successful in this career and why?
2. What advice would you give to someone considering working in this field?
3. What are some values/ethics that have been important to you throughout your career?
4. I understand that you currently run a solo operation, but are there any leadership skills you have needed previously in your career? Any examples?
5. What made you decide to make the switch to running your own business?

Thanks again,

ZZZ

What professional and soft skills do you need to be successful in this career and why?

I’ve written at least two articles on this:

How Do I Find a Job in Finance?

How Do I Find a Job in Finance? (Part 2)

Let me answer the question more directly.? You need to understand the basics of how businesses operate.? How do they make money?? How do they control risk?

Now, the academics will show you their models, and you should know those models.? What is more important is understanding the weaknesses of those models because they may weakly explain how stocks in aggregate are priced, but they are little good at understanding how corporations operate.? The real world is not as ideal as the academic economists posit.

It is useful to read broadly.? It is useful to dig into a variety of financial reports from smaller firms.? Why smaller firms?? They are simpler to understand, and there is more variation in how they do.? ?Learn to read through the main financial statements well.? Understand how the income statement, balance sheet, and cash flow statement interact.? Look at the footnotes and try to understand what they mean.? Pick an industry and compare all of the companies.? I did that with trucking in 1994 and learned a boatload.? This aids in picking up practical accounting knowledge, which is more powerful when you can compare across industries.

As for soft skills, the ability to deal with people on a firm and fair basis is huge.? Keeping your word is big as well.? When I was a bond trader, I ate losses when I made promises on trades that went wrong.? In the present era, I have compensated clients for losses from mistaken trades.

Here’s another “soft” skill worth considering.? Many employers are aghast at the lousy writing skills of young people coming out of college, and rightly so.? Make sure that your ability to communicate in a written form is at a strong level.

Oral communication is also important.? If you have difficulty speaking to groups, you might try something like Toastmasters.

Many of these things come only with practice on the job, so don’t think that you have to have everything together in order to do well — the important thing is to improve over time.? Young people are not expected to be as polished as their older colleagues.

What advice would you give to someone considering working in this field?

It’s a little crowded in finance.? That is partially because it attracts a lot of people who think it will be easy money.? If you are really good, the crowding shouldn’t be much of a hurdle.? But if you don’t think that you are in the top quartile, there are some alternatives to help you grow and develop.

  • Consider developing your skills at a small bank or insurer.? You will be forced to be a generalist, which sets you up well for future jobs.? It also forces you to confront how difficult the economics of smaller firms are, and how costly/difficult it is to change strategy.? For a clever person, it offers a lot of running room if you work for a firm that is more entrepreneurial
  • Or, consider working in the finance area of an industrial firm.? Finance is not only about selling financial products — it is about the buyers as well.
  • Work for a government or quasi-governmental entity in their finance area.? If you can show some competence there, it would be notable.? The inefficiencies might give you good ideas for what could be a good business.

What are some values/ethics that have been important to you throughout your career?

Here are some:

  • Be honest
  • Follow laws and regulations
  • Work hard for your employer
  • Keep building your skills; at 57, I am still building my skills.
  • Don’t let work rob you of other facets of life — family, friends, etc.? Many become well-paid slaves of their organization, but never get to benefit personally outside of work.
  • Avoid being envious; just focus on promoting the good of the entity that you work for.
  • Try to analyze the culture of a firm before you join it.? Culture is the most important aspect that will affect how happy you are working there.

I understand that you currently run a solo operation, but are there any leadership skills you have needed previously in your career? Any examples?

This is a cute story:?Learning Leadership.? I have also written three series of articles on how I grew in the firms that I worked for:

There’s a lot in these articles.? They are some of my best stories, and they help to illustrate corporate life.? Here’s one more:?My 9/11 Experience.? What do you do under pressure?? What I did on 9/11 was a good example of that.

I know I have a lot more articles on the topic on this, but those are the easiest to find.

What made you decide to make the switch to running your own business?

I did very well in my own investing from 2000-2010, and wanted to try out my investing theories as a business.? That said, from 2011-2017, it worked out less well than I would have liked as value investing underperformed the market as a whole.

That said, I proceed from principle, and continue to follow my investment discipline.? It follows from good business management principles, and so I continue, waiting for the turn in the market cycle, and improving my ability to analyze corporations.

Nonetheless, my business does well, just not as well as I would like.

I hope you do well in your career.? Let me know how you do as you progress, and feel free to ask more questions.

The Best of the Aleph Blog, Part 27

The Best of the Aleph Blog, Part 27

Posted on by David Merkel

In my view, these were my best posts written between August?and October?2013:

I completed the last of my “Manager” series, on being an investment risk manager:

The Education of an Investment Risk Manager, Part VI

This is the bizarre story of how I pulled a win out of an impossible situation against my own management, and a major life insurer.

The Education of an Investment Risk Manager, Part VII

On the time that I correctly modeled a complex structured security, and the client wouldn’t listen to reason

The Education of an Investment Risk Manager, Part VIII

The time that I?did a competitive study of the most aggressive life insurers, and how it did not dissuade my client’s management team from trying to imitate them.

The Education of an Investment Risk Manager, Part IX (The End)

A bevy of little tales about odd investment tasks that I succeeded with, and how many of them did no good for my clients.

Ben Graham Did Not Give Up on Value Investing in Theory

With quotations and links to the source documents, I show what Ben Graham really said in the article commonly cited to say that he gave up on value investing.

On Avoiding Con Men

A summary article of many of my prior articles on how to avoid being defrauded.

On Alternative Investments

Alternative investments are like regular investments, but they are less liquid, more opaque, and have higher fees.

Should You Buy Shares of Stock or Not?

Where I answer Mark Cuban the one time he tweeted to me. ?Really!

Quiet Companies Are Better

Why companies should let their filings with the SEC speak for them, and abandon the media.

Two is Company, Three is a Crowd

On game theory, and how it affects politics and civil wars.

It Works, But It Doesn?t Work All The Time

On how good investment theories fail for periods of time, and then come roaring back when most people know they will never work again.

Value Investing when Debt Levels are High

On seeking a margin of safety, when very little seems safe

A New Look at Endowment Investing

I interact with a groundbreaking paper on endowment investing — a very good paper, and I give some ways that it could be improved.

Less is More

Do you want to do better in investing? ?Make fewer decisions, and make them count.

Taleb Versus Reality

In which I take on Nassim Taleb’s views on how to reduce risk in investing, and show which half of his valid, and which half are fantasy.

To Young Analysts

What I contributed to Tom Brakke’s project for young investment analysts — what do I think they should know?

The Rules, Part XLIX

In institutional portfolio management, the two hardest things to do are to buy higher than your last buy, and sell lower than your last sale.

The Rules, Part L

Countries are firms that produce claims on assets and goods

The Rules, Part LI

65% of the time, the rules work.? 30% of the time, the rules don?t work. 5% of the time, the opposite of the rules works.

The Rules, Part LII

ge + E/P > ilongest bond

The Rules, Part LIII

The tech market washes out about every eight years or so.? The broad market, which is a more robust beast, washes out far less frequently.? My question: are these variants of the same phenomenon?

The Rules, Part LIV

When do employee and corporate incentives line up?? Ideally, incentive schemes should reward people with a fraction of the additional profitability that resulted from the additional work that they did.? Difficulties: measurement impossible in many cases, people could receive a bonus when the firm is not profitable, neglects synergies (both positive and negative).

The Rules, Part LV

Financial intermediation reduces volatility.? In bull markets, demand for financial intermediaries drops.

The Rules, Part LVI

Leverage and risk eventually transfer to the least regulated

The Rules, Part LVII

The more that markets are united through derivatives, the more systemic risk is created.

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