Public Vs. Private - What we learn from Arctic Exploration

Public vs. Private ownership, which can more effectively spur economic growth? Can Arctic Exploration give us a preview of what is ahead?

2009 has been Bailout-City as the US Government has saved numerous institutions in addition to seizing large stakes in AIG, Citigroup, Fannie, Freddie, and General Motors. The bailout pie has been prepared, sliced, divied up, and dolled out as effortlessly as leaflets in Vegas. Indeed, the Fed and government have gone "all-in" with not only monetary and fiscal policies but also with a new form of policy, that of bailing out anyone with a good lobbyist. Will these bailouts and gov ownership be beneficial or harmful to the US economy? We don't know how the story will end, but we do have something with which to compare - Results of Arctic Exploration - publicly vs. privately funded expeditions. (Joe Arctic Tundra)

In "Public versus Private Initiative in Arctic Exploration: The Effects of Incentives and Organizational Structure", Jonathan M. Karpoff organized a data set of 92 arctic explorations from 1818 to 1909 to study the successes and failures of privately and publicly funded expeditions. The goal was to determine which expeditions provided better results.

The Purposes of Arctic Exploration:

• Navigate the Northwest Passage
• Discover the North Pole
• Discover the lost (publicly funded) John Franklin Expedition of 1845
  

The Rewards:

• Cash Prizes
• Lecture Fees
• Larger budgets/funding for future expeditions
• Book Sales

The Risks:

• Loss of funding/budget shrinkage
• Fewer rewards
• Sickness
• Death from accidents, exposure, scurvy, or starvation

Because the goals, prospective rewards, and penalties were similar for both privately and publicly funded expeditions, Karpoff argues it is possible (and fair) to compare the two subsets. Karpoff summarized: "I find that compared to private expeditions, government sponsored expeditions tended to be large and well funded. By most measures, however, the government expeditions fared poorly. They made fewer major discoveries, introduced fewer technological innovations, were subject to higher rates of scurvy, lost more ships, and had more explorers die."

Quantitative Proof:

Failures

Death of Crew Members per voyage:

Public - 5.9, Private - .9

Loss of Ships per voyage:

Public - .53, Private - .24

Scurvy Presense for voyages > 1 yr:

Public -47%, Private - 13%

Successes:

Navigate Northwest Passage... Private

Discover North Pole... Private

Discover fate of Franklin Expedition... Private

So why did privately funded expeditions fare so much better than publicy funded counterparts? Karpoff suggested publicly funded expeditions suffered from :

1. Poorly motivated and prepared leaders.
2. Separation of initiation and implementation functions of executive leadership (aka, too many Chief Joes and not enough Indian Joes).
3. Slowness to exploit new information (Joey come lately) about clothing, diet, shelter, modes of Arctic travel, organizational structure and optimal party size. (Joe two's company but three's a crowd)

What can Joe Shareholder learn from this study by Markoff? While there's no guarantee that AIG, Fannie, Freddie, GM, and Citigroup will suffer the same fate as these expeditions funded by governments, there is reason to suggest the same bureaucracies that burdened public expeditions will also curtail government owned businesses. Companies that lean on taxpayer assistance (Joe blind man on guard rail) face completely different incentive levels as well as muted risks and rewards. Hence, Joe's sentiment on government-owned stocks is bearish (Polar Bearish....that is.....) because of the possibility of getting frost-bitten by sliding stocks (Joe dogsled.....pulled by publicy funded dogs.....with scurvy).

If anyone wishes to read the entire document, just email marketarty@gmail.com and we'll send it off. Send this to all friends, enemies, family, associates and let's spread the private word publicly!

History of Joe and JoAnn - How they met - Part 1 of 2

Joe Shareholder was in his third year at St. Joe’s University near Philadelphia when he scored a summer internship at Lehman Brothers in New York. His job was to follow technical trading patterns and trade based on daily fluctuations. He traded all day long, but closed all positions by the end of the day. He was trained by a rookie trader named JoAnn who excelled at the position.

JoAnn grew up in a small community called Joetown in Morgan County, Ohio. She graduated from the University of Ohio State with a finance degree and accepted a job offer from Lehman Brothers shortly thereafter. Before Lehman Brothers fell on hard times and declared bankruptcy in the summer of 2008, JoAnn saw the writing on the wall (Joe Clairvoyancy) and sent her resume to various financial/investment companies in the area. She soon received an offer from “The-Company-Who-Shall-Not-Be-Disclosed”, who happened to be one of the premier investment banks in New York City. At first she thought this was a perfect fit, but later discovered some disturbing things about “The-Company-Who-Shall-Not-Be-Disclosed”.

First of all, she felt like TCWSNBD manipulated commodity markets. She found it ironic that they’d issue press release statements upgrading certain commodities and stocks immediately after establishing strong positions in them. (Joe conflict of interest) Take crude oil for example. Each time TCWSNBD announced crude oil futures would rise to X amount, it eventually did - largely because oil was bid up by investors rather than actual commodity users. (Joe Smoke and his twin brother John Mirrors) This padded the pockets of execs at TCWSNBD, but hurt the average Joe’s filling up their cars and trucks with fuel. (Joe Cruel Oil, not Crude)

Her distaste for TCWSNBD was exacerbated when AIG needed taxpayer support after the stock market crashed in Sept/Oct 2008. Mega-insurer AIG owed TCWSNBD considerable amounts of money when stocks tumbled because of credit default swaps gone sour. Credit default swaps are basically insurance securities protecting an investment in case stocks fail. (Joe high stakes poker) Instead of demanding payment through asset liquidation (Joe face the music), or even simply share in the losses of AIG (Joe - at least turn an ear to the music) she felt TCWSNBD used strong-arm tactics with the gov to bailout AIG so they’d get the full amount owed. Indeed, after AIG received the bailout funds under the guise of “too big to fail”, a good chunk of change was funneled directly to TCWSNBD as well as many other CWSHND either.

JoAnn eventually decided she’d had enough big city banking so she quit her job and returned to Joetown. Upon hearing this news Joe randomly decided he’d pull the plug and move there as well. When JoAnn asked why he also wanted to move there, Joe simply replied he’d always wanted to live there one day and said the town was very “attractive”. Joe soon invited JoAnn to the annual city Joe-Down, which is a hoedown to anyone not familiar with Morgan County. She accepted and they had a great time dancing to the country music with good ‘ol country folk. (Joe, facing the music and JoAnn at the same time).

Natural Gas ETF, the natural way to Double your Cash by Feb

Okay it’s about time we got to the fun stuff right? Anybody out there want to make a little money? (Joe Oracle of Joetown, OH) If you follow Joe’s advice, you’ll see how it’s very possible to make loads of money investing in this fund. In fact, it could very easily double by Christmas time, or at least by February. (Joe, "already got that month marked on the calendar")

Anyway, back to business.
Natural Gas - Right now the price of natural gas is trading at a seven year low due to the weak economy and enormously large inventory. This is great news for everybody except natural gas suppliers, as heating bills this winter should be quite a bit lower than last. (Joe Nest Egg) Investors have also likely turned a keen eye toward natural gas futures as it has dropped steadily over the last couple of months from about $12/MMbtu to under $3 now. Because actual commodity trading can be complex and difficult for the average investor, a better option in Joe’s opinion is to buy shares of a fund already invested in natural gas. Here at JoeShareholder, we have the perfect fund for all your natural gas needs - UNG. UNG is an ETF (exchange traded fund) which Joe Shareholder has been watching closely ever since it crossed under $20/share from its high of around $63 in July of last year. Now that it’s hovering around $10, Joe simply couldn't stand it any longer, and plunged in. (Joe the Plumber) Granted, commodities were all over-priced in July, but after a sharp drop initially at the beginning of this year, most commodities have rebounded somewhat. Not natural gas, however - it’s still dropping. Below are three reasons why Joe believes this ETF should do quite well over the next several months.

Home heating during the winter:

Typically natural gas follows the same patterns of overstorage during the summer to undersupply during the winter. The reason is simple, people heat their homes and businesses with natural gas. Here’s a supply graph representing the last four years.

As you can see the supply starts dropping in September/October and usually starts to rise again in about February. Since we’re just barely into September, a good strategy might be to wait a few weeks, watch inventory levels released each Wednesday, and buy sometime in late September. (Joe, I hope this isn't the only "investment" I'm buying in late September)

Hedge against inflation:

As we mentioned in the last post, the Fed accidentally lost the keys to the printing press after locking the door with the machines running full tilt. Not only that, but Congress has been active signing bills they don’t read and spending money we don’t have. (Joe, if it’s too thick to read, sign it, and if it’s not yours, spend it) These factors have contributed to a significantly weaker dollar, which signals that investors are very nervous about a possible bout with hyper-inflation down the road. One of the best ways to beat inflation, or at least temper the storm, is to invest in commodities. Although any commodity would be a good investment should the dollar crash, right now natural gas seems to have the best upward potential. (Joe July in Phoenix)

Money has to go somewhere:

Right now the stock market is overvalued according to many analysts. The aggregate price/earnings ratio for the S&P 500 is currently about four times higher than the historical average. (1) Also, insiders - who represent corporate executives as well as large fund managers - are selling more than buying at an astounding ratio of about 30 to 1! (2) (Joe roadside vendor in Tijuana, Mexico) Although not an exact science, usually when insiders sell at this magnitude it represents market peaks. If indeed the stock market begins to drop, money will likely flow into other markets, one of which will likely include commodities because of the pressure on the dollar.

Conclusion

Although Joe considers natural gas his competition for keeping JoAnn warm during the cold winter months, he also understands the need for natural gas as well as the need to hedge against inflation. At around $10/share, it’s just too inviting. (Joe Telepathic Communication) Also, September is the month the leaves start falling, so it's a great time to rake in profits. (Joe no pun intended) If you feel the same way as Joe, send this link to any friends who might benefit from doubling their money by Feb. Click here to see what others are also saying about natural gas.

Joe Disclaimer:

All equities carry inherent risks, invest at your own.

Joe and JoAnn Take a Romantic Walk on the Beach while Analyzing Gov Spending

Right now the US Congress is spending money like a lottery winner in Vegas. (Joe High Roller) Congress is spending 185% of what it takes in (1), and there's currently no relief in sight. (Joe Sahara) This spending spree is leading us down the path of one or two inevitable consequences, neither of which is appealing:

• High Interest Rates: The current spending habits in Congress are simply not possible to sustain. Right now we have plenty of buyers of debt in the form of treasury auctions. However, as the national deficit increases, so does the risk of default, which will cause buyers to flee from the treasury auctions. (Joe bug from Joe Orkin man) Since the US is so heavily in debt already, we depend on the issuance of new debt to cover the principal and interest on the outstanding notes. If the buyers' appetite for our bonds cools off, the government will need to raise bond yields to attract more buyers. Since bond yields go hand in hand with interest rates, (Joe and JoAnn, hand in hand for a romantic walk on the beach....in Joe's head) higher bond yields will consequently raise interest rates of all kinds, including business loans, car loans, and mortgages, and could be a repeat of the 1970's and 80's when interest rates soared to double digits.



• Hyper-Inflation: The government can tap the Fed to just print more money to pay the national debt right? The consequences of simply printing money would be rising prises of goods and services as the national money supply grows. (Joe and JoAnn, romantic walk on the beach....but unable to buy hyper inflated drinks from vendors along the way) Inflation slows the flow of economic growth like a rollover accident during rush hour; and increasing the national monetary supply and inflation are extremely tightly correlated. (Anorexic Joe and diet coke).

How long will the "Risk Free" Rate be risk-free?

The US T-Bond has traditionally been the most trusted investment in the world. It's used as a benchmark for many return-on-investment (ROI) opportunities when companies and individuals compare various investment options. (Joe MBA) Although traditionally a lower yield offering than other methods of investing, (stocks, bonds, commodities, etc) the US T-bonds offer a guaranteed yield, hence the name "risk free", and the investor knows that without exception the interest and principle will be paid with perfect regularity. The problem, as mentioned above, is that we're financing old debt with new debt. Currently, China, India, Japan, Germany, and other countries regularly pitch in to feed our congress' appetite for spending by buying these treasuries. However, if we continue on our current course of spending, the US could face a problem of insolvency as wary investors back off, creating a problem of re-paying the debt that we already owe. If this happens, the "risk-free" rate may not be as the name suggests, and the possibility of default could emerge.

What is to be done? Americans need to voice their concerns about the current federal budget, and the sooner the better. Last week the White House raised its ten year budget deficit estimate to 9 trillion. That's nearly doubling the already astronomically high deficit. At an average of 25-40% taxation rate, Americans are doing our part to pay down the national deficit; but we desperately need Congress and Prez Obama to stop spending money we don't have. (Taxpayer Joe fighting the current) If the government doesn't stop the recklessness, talk of an endangered "risk-free" rate could emerge as more of a realistic problem than anyone wants to admit. All one needs to do is to look at California's insolvency crisis as proof (Joe Shareholder in LA, purchasing drinks for the walk on the beach with Joann....still in his head.....but only from vendors accepting state issued IOU's)

Super Ben Saves the World from Collapse

While speaking to a group of economists and policy makers on Friday, Federal Reserve (Fed) Chairman Ben Bernanke proudly announced that the aggressive monetary policies implemented by the Fed and the Treasury department “saved the world” from a financial meltdown. (Joe Superman) While markets have indeed responded positively since early March ‘09, it’s not clear whether the rally has been based simply on Fed intervention or on strengthening fundamentals. While some economic indicators have shown signs of bottoming, we have yet to see real sustained growth. (Joe Rogaine) Super Benny has, however, managed several accomplishments which we’d like to discuss below.

He screwed small banks
Late last year, when many large banks were insolvent and broken, Super Benny wielded his power and influence over congress (Joe pull down the wool) and served up a large dish of TARP salad (Joe next Food Network Star), with side dishes of PPIP and TALF from the Treasury (Joe “Bam! Kick it up a notch!”). The central banksters and clueless bureaucrats in Washington not only approved immediate TARP funds and monetary injection into large financial institutions, but also pledged to continue to infuse money should the need arise in the future. Even though the Fed and large banksters helped shape this economic crisis due to lax policies and excessive risk taking in the first place, they have been granted the safety net of taxpayer funds while the smaller institutions continue to struggle on their own. (Joe upside down roly-poly) Additionally, nervous depositors at small banks are pulling funds and fleeing to the safety of the too-big-to-fail empire. (Joe Titanic)

He screwed China
Each week the US Treasury auctions off new debt in the form of Treasury bonds and notes. As demand on the bonds increases, the yield, or interest rate decreases. (Joe Econ 101) Therefore, buyers want as little competition as possible to get the best rate. The Fed announced a plan in March to buy 300 billion of US treasuries in an effort to keep US interest rates low. (The housing mortgage rates closely follow the 10 year bond, for more on this China situation click here) This Fed purchase plan undoubtedly angered China, who is the largest foreign purchaser of US debt. In other words, with each dollar of debt the Federal Reserve purchases, the interest rates on Chinese investments drop. This situation of the Fed buying from the Treasury is similar to when Joe Shareholder asked his Mexican investor friend Jose to help bid up the price on the diamond ring he placed on eBay after JoAnn shot him down. (Joe false start)

He screwed the US Dollar….and Taxpayer…..and Saver
Ben’s plan to avoid another depression is to induce inflation to combat the dreaded economic forces of deflation, which he claims caused the Great Depression. (For reasons why click here) The best way to induce inflation is to crank up the printing press and dump it onto the economy - hence the nickname Helicopter Ben. (For his own words on the topic, click here). Since Ben took the reigns in 2006, the US dollar has slipped roughly 16% and 20% to the Japanese Yen and Euro respectively, with both trading near all-time lows. Inflation on the dollar is essentially a tax on anyone saving money. In Ben’s defense, however, he’s had plenty of dollar destruction help from politicians loading debt on the back of the fragile/exhausted US dollar. The Congressional Budget Office announced on Tuesday that the budget deficit earlier estimated at 7.1 trillion by 2019 has been raised to 9 trillion. Can the US dollar sustain such levels of debt or will it begin a free fall? (Joe Petty, brother of Tom) Will countries continue buying our debt even while it’s climbing to new highs daily? If there comes a time when debt investors decide it’s just too risky to hold US debt, there could be a massive sell off which could get quite scary. (Joe, “stay behind the yellow tape kids, nothing to see here. ”)

So the Fed and Super Benny have stabilized the large financial institutions…..but at what cost? Only time will tell (Joe crystal ball) whether the negative impact on these periphery entities will come back to haunt him (Joe October 31st…..2010, 2011, 2012???). Speaking of Halloween, Joe Shareholder likes this time of year because he offers JoAnn his protection from anything scary that might be lurking out there. JoAnn insists that nothing bad ever happens in Joetown, Ohio. This year, however, Joe can remind her that as long as Super Benny is in charge, plenty of scary things could happen.

Why your Bank Won't Survive the Coming Depression

Okay, okay, I realize the title is a little gloomy (Joe, glass half empty), but you're reading this right? So it worked? Anyway, I'm not really that negative (Joe glass half full), okay maybe I am a little bit, so read on and we'll find out together what's going to happen to your bank in the next 3-5 years.

Rewind back to the first week of March '09 - all US stock indexes were at 15 year lows, negativity was ever-present in the markets, and investors worldwide were fearing a government takeover of troubled financial institutions including Citigroup and Bank of America. During this doom and gloom era, in which the only safe investment seemed to be ibuprofen/aspirin producing drug companies (Joe Migraine), embattled Citigroup CEO Vikram Pandit shocked the world by declaring that Citi was going to have its best quarter in over two years! (Joe get out of here!) Well, he was almost right, Citi still reported a loss, but it was a good start. Since that week, Citi (C), and Wells Fargo (WFC) stock prices are both up over 400%, and Bank of America (BAC) has shot up over 600%! So is it too late to join the party? Maybe so, and here are a few reasons why.

1. New stock issue

Outstanding common stock shares don't help a company raise cash, they're simply traded on stock exchanges. So if a company needs to raise funds, one method is to issue new stock. Since March, the government has emptied the treasury on Citi and seized 34% ownership in the company in the form of new common stock; Bank of America has issued about 14% new common stock, and Wells Fargo has increased its shares by about 8%. Since a company's value is determined by the number of outstanding shares multiplied by the share price, these new stock issues should theoretically dilute the share price, not boost it. In this case, investors have shrugged off the new issues and the stock prices have shot up rapidly. While these new stock issues haven't negatively impacted the stock prices yet, if conditions further deteriorate, investors will most likely figure the new issue into the stock price and it could get very ugly. (Joe, hope no kids are watching, and if they are, hope their mommas are nearby to cover their eyes)

2. Mark to Market accounting changes

Before the financial crises erupted, banks loaded up on trendy Mortgage Backed Securities and Collateralized Debt Securities (bundled home loans and equity loans). As home prices appreciated, the values of these bundled securities increased rapidly and made the banks' books look incredible. However, as home prices dropped off the cliff the value of these bundled assets crashed as well, causing balance sheet heartache for the banks. (Joe tums extra strength). No problem, however, easy solution. Just hire a bunch of expensive DC lobbyists to wine and dine the FASB (Federal Accounting Standards Board) into changing the rules. Instead of marking the assets to market value, the rules were changed to allow banks to mark the assets to book value, or the value at which the banks purchased the assets. How was this fair? Good question. Banks are valuing these assets at their purchase price instead of the current market price, which is very misleading. The result? Nobody really knows the value of these mystery assets on the books of banks. (Joe, driving a brand-new sleek black Lincoln Towncar limousine with dark tinted windows) Had the accounting rules not changed from market value to book, there's a good chance all the banks that reported earnings during quarters one and two would have reported heavy losses. What's worse, the FASB is currently considering reversing these accounting changes to allow for more transparency. (Joe El Camino clunker - she ain't pretty, but at least you can see what's in the back).

3. Foreclosures are still increasing

Oops, this problem was supposed to be solved with the stimulus bill. Guess what? RealtyTrac announced two weeks ago that "home foreclosure activity in the first half of the year continued its upward trajectory". There's also a growing concern within the financial industry about commercial and industrial foreclosures, which up to this point have been minimal. These loan default/foreclosures are expected to peak sometime in 2011. Scott Sprinzen, a credit analyst for Standard and Poor said "During the next few quarters we will see a sharp acceleration of weakening on the commercial side". Add these conditions to continued job losses and the picture gets even uglier (Joe, now glass neither half empty nor half full, but the glass has been shattered and water is spilling down his shirt). Okay, enough of the negativity and pessimism.

Is it really that bad? Is there any hope? Sure, there is always hope. Both the unemployment rate and the housing price plunge seem to have either moderated or come close to reaching bottom. These two statistics will be very important to watch over the next several months, as the economy is trying to stabilize and markets are searching for sustained hope. JoAnn, who was inexcusably left out of the last post, has returned and has given Joe a plastic cup from which to drink so he no longer has to clean glass up off the floor and change his shirts. Hopefully his bank exposure in the future won't cause him to change his shorts also.

Joe Shareholder meets Football

Football season is back! Fans everywhere are making sure their HDTV’s are in fine working order, cleaning their BBQ grills, and reviewing rosters and schedules, hopeful that their team will win it all this year, or in some cases, win any of their games (Joe-Detriot Lion). In football, a team is assessed a penalty if one of the offensive lineman moves prior to the ball being snapped to the quarterback. The lineman then looks embarrassed, shakes his head like he’s done nothing wrong, and the team moves back five yards. Metaphorically speaking, politicians and banking executives (does anyone really trust either source anyway?) may be guilty of a false start in calling for an end to the recession of 08-09. Sure, the stock market is up roughly 50% since March, and the 200 day moving average of the Dow appears to be on it’s way northward for a change. The housing market appears to have turned the corner, and July’s jobs report came in with fewer unemployment claims than Wall Street expected. (Click here for more on the unemployment report) Attention Joe Shareholder: Break out the champaign and let the partying begin! Ah… wait a second… What I meant to say was ah… see what had happened was…

Enter Joe False-Start
July also saw the largest number of home foreclosures in the history of America, and although values have ticked up slightly in parts of the country, there’s no guarantee that the trend of foreclosures will slow in the near future, as more Americans become unemployed. The up-tick in housing and auto sales is likely a direct result of legislation including the tax credit for first time home buyers and Cash for Clunkers, which can’t and shouldn’t last forever. These programs are great for the beneficiaries, but they worsen the budget deficit and consequently put a strain on the value of the dollar. (Click here for more on the budget deficit) Current and future foreclosures could lead to further devaluation of real estate in November when the tax credit is scheduled to expire, due to more aggregate supply on the market (Joe econ 101). Banks, Credit Unions, and home improvement and home furnishing industries will likely continue to suffer as a result. On Friday August 14th, five more banks were shut down by the FDIC, bringing the total for 2009 to nearly 80 failures. Fannie Mae and Freddie Mac, the secondary mortgage agencies who sell and package mortgage backed-securities will also continue to feel the strain of home foreclosures, as well as those who buy these MBS instruments (Joe’s Wall Street firm).

Joe’s Stimulus Package
Much of the credit for America’s ability to pull out of the great depression in the 30’s is given to government spending… perhaps too much. In the 1930’s, government spending helped the economy recover from the depression as the United States was forced to prepare for World War 2 by plowing money into defense. By contrast, a lot of this current stimulus package goes to bizarre funds like government pet projects and special interest groups. Instead of putting a short term, economic band-aid on the economy under the guise of a "stimulus package", America needs to focus on balancing the budget, stabilizing the dollar, and decreasing the national debt. A government option for health care would be nice, but we cannot afford it right now, especially since funding for the proposal is completely up in the air. This has the potential to send the current budget deficit completely out of control…(Joe hang glide during Hurricane Katrina). Finally, the Fed needs to keep interest rates low (Joe Bernanke) to stimulate lending and encourage business and entrepreneurial investment, and this will help to sustain a long term approach to creating and keeping jobs that really build and stimulate the economy. (Joe teach- a-man-to-fish-instead-of-giving-him-a-fish).

Are we optimistic for the future? Absolutely. Unnecessary pessimism depresses markets (Joe or Johnny Rain Cloud), and is unhealthy for an economy. It will likely be a long and slow recovery, as many economists predict. America has shown resilience that has helped us become the world economic leader for nearly 100 years. There’s not a more suitable country that fosters economic opportunity to create jobs and businesses. We’ve repeatedly shown that when we trust in capitalism, we can pull ourselves up after getting knocked down (Joe Austrailian one-hit wonder band), dust ourselves off, and look forward to a better future. But before you quit your day job to invest in the stock market and drink Coronas at the beach (Joe Commercial guy), pay attention to the warning signs lurking beneath the surface. Let’s give the stock market a five yard false-start penalty, and then let’s trust in capitalism to run its course so that relatively soon we’ll be able to enjoy a nice long economic touchdown drive!