Fellow collegiants Jay and the incomparable Cassandra carp in the comments of the previous post about, well, many things, but mainly about Baruch’s distrust of a trading tax. Their key points in favour of the tax are, I think:

1. the financial sector is too big and needs to be shrunk and simplified, which is also Krugman’s key idea. A trading tax would be a step in the right direction
2. there is a way to distinguish, mostly to do with timeframe, between “speculation” and “investment”. Generally two legs, sorry, speculation is Bad, leveraged speculation in highly liquid markets even worse and responsible for lots of the financial crisis. However, ”informed and active” investment is Good; a trading tax would restrain one and leave the other unrestrained.

 If I’ve misunderstood something or left something out, let me know.

Firstly, I am very interested as to how we can possibly know how big the financial sector should be. Jay and Cassandra might answer “I don’t know exactly, but I just know it’s too big”. They might argue we expect too much of them; the sizing of any particularly important industry should be above anyone’s pay grade, let alone the responsibility of a couple of commenters on an obscure 3rd rate econo-blog.

Yes, well but that’s the point. We’ve largely done away with the type of industrial planning that pulled western economies out of the devastation of WW2, the period of MITI in Italy, the Marshall Plan, the last time we had an economic regime where people actually decided how big certain industrial sectors should be. That type of dirigisme worked in conditions of relative simplicity, where there were fewer moving parts to an economy, trade was restricted to controllable flows between large trading blocs, and exchange rates were stable. For most of the postwar period the financial sector of most economies was small, and mainly boring. In the UK, for example,  it was the preserve of a class of people drawn from the chinless children of an addled aristocracy. They really did wear bowler hats. Their tasks were simple enough for them to perform even after polishing off a litre of claret every lunchtime and leaving the office at 4pm.

I would argue the explosion in financial innovation and the size of the financial sector coincided with the increase in the overall complexity of the global economy from the early1980s on. Bretton Woods had broken down; there were extreme fluctuations in interest rates and costs of capital; the rise of Japan and other emerging markets were destabilising settled industries in Europe and the US; new technologies were creating new working practices and business models.  I am not saying a supersized financial system was the cause of this increase in dynamism and complexity. But what if it was a response?

Looking at where we are since 2000, we have a global economy which has made a step change again in complexity and dynamism.  Things have globalised to the extent that concepts of imports and exports have lost their meaning. Our economic system is optimised, primed to work at an extremely high level of just-in-time delivery. New business models pop into existence overnight, and destroy old ones — they demand and create capital and wealth at an unprecedented rate. And it’s largely great for everyone; most of us are richer. Literally billions of people have seen their living standards improve this decade. It’s been an exciting time to be alive.

This is an unpopular thought, but here goes: what if the current financial system is actually rightsized for our economy? Sized specifically to provide  the greater degree of economic dynamism we have come to expect, and on a much more massive geographic scale? Might there not be a price to pay in shrinking it?

Now let’s try look at the second debating point of my commenters and distinguish between “speculation” and “investment.” I still don’t understand the difference. But I don’t think anyone does; I am not sure there is a qualitative difference. Cassandra introduces the concept of (allocative) “efficiency” in the sense (correct me if I am wrong) that the hardworking “investor” with his longer-term timeframe performs a useful societal function in allocating capital to where it is needed. Short term specs, on this reading, do not.

I think this is wrong; speculative traders probably have as much or more allocative efficiency as the investment-minded ones. They have more money, for one thing, but more importantly even the highest frequency High Frequency Trader is actually tracking the portfolio decisions made by actual investors. Even Raj, at the height of his powers, was effectively allocating capital to companies which were showing better earnings. He just had the earnings release a bit before everyone else. Most short term specs, whether technical, quant or flow-driven, are really piggy-backing on investors; they basically buy the same stocks and amplify their decisions. Qualitatively, as I say, there’s no real difference, except they are either lazier or smarter than fundamentalists like me. Probably both; I bet they get home before 7pm. Is there a difference in holding period? Generally yes. But today I entered and exited a position in a tech stock in the space of 40 minutes. In fact it was a mistake. But I don’t feel bad about it. Do you think I should?

Cassie thinks it was the leveraged specs who blew us up in the crisis. No way. It was the leveraged investors. Those guys buying subprime weren’t in it for the quick buck; they were going to hold them for as long as they could borrow overnight at 5% and earn 7% on the bonds, ie as long as the then-current interest rate regime was going to last. Holding periods were measured in years. In the end were barely able to trade the stuff. That was the problem. As Jay puts it, “in less liquid markets, shareholders act more like owners” — they acted like owners, all right, and look where it got them, and us.

Look, a smallish trading tax may not make all that much of a difference, really. Financial markets will survive, and a tax will likely end up making a good few investment bankers richer than they would have been, when they come up with a way of avoiding it. There’s actually a trading tax in place in the UK already. It’s called Stamp Duty. I don’t know how much it is because I have never paid it on any of my UK trades, we use something called CFDs to avoid it. Everyone does this except low volume retail investors: Stamp Duty has thus merely become another way the little guy gets screwed. I am not sure this was the intention of its inventors.

But if you think discouraging speculation in liquid equity or forex markets is going to somehow prevent another crisis, think again. The root causes of our difficulties lay in a combination of too much easy money feeding a boom in illiquid debt securities, held for investment. A trading tax would do, and would have done, nothing to prevent any of those conditions from prevailing again.

Right now active investors and speculators are about as popular as genital herpes. This is unfortunate because I, Baruch, am one of them.

Examples of this anti-speculator animus are everywhere. Paul Krugman has long had in mind the creation of a special level of hell for “Masters of the Universe”, as he calls us, not kindly, in his excellent Return of Depression Economics. He thinks I’m “socially useless”, if not dangerous, and wants to have a special tax levied on me. Alice Schroeder, author of the latest Warren Buffett biography (how clever of her to realise that another biography of Warren Buffet was what the world needed!), has a very maximalist interpretation of securities law. She believes it’s impossible “to make a living on Wall Street without compromising your values,” and goes so far to suggest that when it comes to investing, “It’s hard to make a living legally.” Felix Salmon, sworn enemy of active investing, links to a largely incomprehensible blogpost from profs Fama and French which suggests investing in mutual funds is like buying an index fund but you pay more fees, ie it is a bad idea and thus “alpha-peddlers,” people like me, are snake oil salesmen. AllAboutAlpha (HT Abnormal) put it best last month in an apposite post about the emergence “of a very quiet yet growing subset of individuals who believe that alpha still exists, but that getting it isn’t, dare they say, legal.”

Summing it all up, the charge sheet goes as follows: 

• institutional investors like me are unable to deliver things we claim we are able to deliver, viz outperformance, alpha, whatever you want to call it.
• As such my activities make no contribution to society and perform no useful function. In fact we are positively dangerous, and our widespread use of illegal information makes us unethical to boot.
• Society would benefit much more if retirement savings were invested in index funds, which contain all the upside of equity investing but at lower cost, and meanwhile the rest of us who foolishly insist on trading for a living should be taxed. 

A lot of this stems from the traditional malice and envy of those who “review”  for those who “do”. We can’t do much about that. But there are intellectual assumptions behind some of it which are worthwhile tackling. In my opinion it all boils down to the hoary chestnut of the strength, or weakness, of the Efficient Market Hypothesis. The critics above share a belief in a strong form of EMH, which precludes investors from making returns which persist, and drives the less scrupulous to cheat in order to fulful their promises. Alice Schroeder puts it like this:

There is only so much alpha — that excess return above a baseline average — to be had in an efficient market. The incentive to create some artificial alpha one way or another is very high. Those who bend the rules successfully post good numbers, which adds to pressure on other Wall Streeters to push the gray boundaries of legal information flow.

What I do NOT propose to do here is get into the statistical nitty gritty of whether a strong or weak EMH is provable or improvable by positive hedge- or mutual fund returns, or their absence. I don’t quite know how to do it, and it’s deathly boring anyway. What we can do instead is weigh the intellectual coherence of the charge sheet. Is a financial system re-engineered to discourage speculation a good thing? Would it work? What would it be like?

This is what Baruch thinks: these objections to active investing are not at all coherent: firstly, we really don’t want a truly efficient market — it would be a disaster. Secondly, any restraint on speculation would endanger proper investment. The two are inextricably intertwined. Thirdly, index investing is not a truly scaleable strategy; if all of us do it, it will stop working. Let’s go through each of these points in turn.

To start, let’s do a thought experiment, and posit a maximally (impossibly) efficient market. Everyone knows everything; as soon as new information is available it is instantly disseminated and assimilated. Investors have near-perfect foresight, not in the sense of being able to tell the future, rather they know what things mean when they happen; what the emergence of a new competitor signifies for the earnings of a company, or the impact of new regulation, or an earthquake in Japan. Instant agreement! None of this debate between bulls and bears, no rumour-mongering, no publication of rival research biased by the interests of management or powerful shorts. No friction, either. No trading costs associated with exiting massive positions; any stake can be exited at will. Sounds great, huh?

No. It would be horrible. Stretches of utter boredom and then, suddenly, patches of incredible volatility. Previously healthy companies, and their ecosystems, would disappear overnight, as new technologies that invalidated their business model were invented and discounted. New multi-billion capitalisations would instantly appear in their place. Stocks wouldn’t actually go up any more, as even inflation rates would most likely be properly discounted too. So there wouldn’t be any point in actually investing.

There would be no time to react, for alternative strategies to take effect. Unforseen events would have incredible implications far beyond government and management’s ability to plan, and cascading logical implications, tearing through valuations and asset prices, would be bewildering to the general public, who would not be blessed with the intellectual gifts bestowed by fortune on financial market participants. They’d live in terror of losing their jobs and savings. There’d only be the need for a few actual investors anyway, as all of of them would be in agreement at every point; there’d just be a couple of of them. In fact it would be those investors who would appear like gods, who would seem to have the power of prosperity or poverty over the rest of us. A most unpleasant prospect.

OK, strong EMH-ers would say. This is a ridiculous reduction to absurdity. But stressing a proposition to its maximum does reveal uncomfortable truths about it. Let’s try another tack, take the strength of the hypothesis down another notch; even a strong but imperfect EMH would still be undesirable. There would be less incentive to provide liquidity, which would weaken markets’ ability to allocate resources. This would make them more, not less, volatile. It’s here where we dispose of the trading tax.

We won’t go into whether such a tax is workable or not, but rather ask whether would do what it is supposed to do: encourage investment, raise money, and discourage speculation. It would not. The first and last goals are in conflict, due to a commonplace misunderstanding of  how portfolio management works.  it is widely believed that “investment”, ie buying for the long term, is A Good Thing. Selling is normally associated with “speculation”. Both of these are Bad Things. Where this comes unstuck is that if the cost of capital in a society is more than zero, portfolios will be limited in size. If so, buying anything will entail selling something else. If I can’t sell it, or must take a haircut in doing so, I am less likely to buy. Think also in the context of a rational market, the underpinning of strong EMH; when a long term ”investor” exits something to allocate resources to the New Thing and somehow benefit society by doing so, what bloody fool is going to take the other side? Not someone with a long term view, that’s for sure. No, it’ll be a (boo hiss) top-hatted mustache twirling ”Speculator”, eager to make a scalp, no doubt from the removal of the overhang on the stock.

I don’t think enough people have thought this one through. A trading tax is not consistent with strong EMH. It would have the opposite effect of what its proponents desire, and create less stable markets less safe for investment. If a government needs to raise money, much better to tax profits, which is in fact exactly what we do right now.

Finally, what about the indexers? Don’t they have a point? Fees and stuff kill returns. Isn’t index fund investing a more sustainable and cheaper strategy for the rest of mankind to follow?

Well, yes and no. Index investing is by its nature parasitical; it is a free-rider strategy that piggybacks on the ability of active market participants to allocate resources, effectively index points, to companies that produce more benefit to society. As such it is not a sustainable strategy, for if too many people do it, passive movements would start to crowd out the signals from active participants. Let’s reduce to absurdity again and assume indexing becomes the predominant and eventually only investment style: markets would slow down, freeze, and ultimately cease to function. Underneath the major index weights, new startups would only be able to capitalise on their innovation by being bought by larger ones (why the big ones would bother if it meant nothing to their share prices is another mattter). Eventually innovation would slow down too; the world would be duller, lifeless, the opposite of the distopia of the extreme EMH above, but probably equally horrible.

In the real world, however, what would be more likely to happen is that active investing strategies would become less and less crowded and as such able to make more and more positive return,  to indeed, earn their fees. Of course, then Fama and French would write another equally opaque piece of statistical jibber-jabber to prove active investing was great and Felix would suggest we all pile into mutual funds. Wouldn’t they? In either case, indexing is probably a less scaleable strategy and can only prosper if sufficiently small numbers of investors do it.

Summing up, the charge sheet against Baruch and his colleagues is NOT intellectually coherent. It’s proponents would deliver an unstable system, prone to breakdown, that fails to allocate resources efficiently. It’s clear we are not in fact “socially useless”; on the contrary, results of thought experiments where we are absent show our value, and dare I say, partially justify our inflated salaries.

I’ve made this point before and I’ll make it again: financial markets have mostly evolved. No-one designed them. They are typical spontaneous orders. If we want to retain their price setting mechanisms for the good of society we can only meddle in their workings so far. Otherwise we may be in danger of breaking them. It’s no accident we’ve ended up like this: the most, liquid, sustainable and scaleable market model is what we have now: millions of active investors vehemently disagreeing with each other, trading off a myriad of time frames. It’s not pretty. Very often it produces results we find unpleasant and unjust, and Baruch would be the first to admit that many of its most successful practitioners are highly unattractive people. But it is very likely that if we were to stop them from doing what they do, or try to restrain them inappropriately, in many cases you’ll be doing more harm to a functioning economy than good.

The blogosphere made the catch! The Interweb protects the rest of us from evil doers! The world is ablaze with the news that prior to the 3Com buyout announced by HP last week, there was an unusual amount of volume in the $5 november call in 3Com. We’re all pretty sensitised to insider trading at the moment, and so this looks as clear cut and beautiful a case of  evil-doers caught with their hands in the till as we are likely to see in our time on earth. As Tyler Durden puts it:

This is so blatant it is sufficiently stupid that even the SEC will presumably catch the perpetrator. Here’s to hoping the trader ends up being Galleon’s Raj Raj buying options from his E-Trade account while on bail. Of course, we fully expect any prosecution case against the perpetrator to fall apart at the seams courtesy of a completely inept legal team at the SEC and the Justice Department.

Oh really? Before the Zero Hedge folks get the pitchforks out, let’s stop and think a bit. Let us be splitters, and not lumpers, and we might see that would be quite reasonable for the SEC and DoJ not to prosecute anyone at all. Using the principle of Occam’s Razor, they may well tend to conclude that no insider trading took place. At least not in the options, the underlying or common may be a different matter.

Let’s get technical here. In the case of the unusual volume in the 3Com options, you should know that incredibly unusual volumes in options is not terribly unusual, if you follow me. It is in fact the case that the volume of a particular option resides, as Taleb would have it, in Extremistan. It is subject to many many days of low and limited trading, and very few days of extremely high volume, orders of magnitude above the norm, where most of the total volume traded in the life of the option takes place.  This occurs most notably in the final month of the option’s life. This is so because people are more likely to buy a particular option when its intrinsic value (the portion of the option price described by the difference of the strike and underlying prices and its volatility) is highest in proportion to its time value and its total value. This is when you get the most “bang for your buck”, as Baruch puts it — roughly 2 weeks before expiry, the option is in its prime, near its most efficient for hedging and speculative purposes.

That’s what people use options for, mostly. Hedging, and speculating. Options are excellent as a way of profiting moderately, or reducing losses, in conditions of risk and uncertainty. As a way of playing a dead cert, however, options are pretty crap. Had someone concrete knowledge of the 3Com deal, it would be far more efficient to buy the stock. The most important of the “Greeks”, as options dudes call the panoply of statistics surrounding options, is “delta”, the rate of change in the value of the option relative to the value of the shares (it’s a function of volatility, time to expiry, a whole lot of stuff, don’t trouble your head), and this is always less than one. 3Com options buyers made far less money on the takeover by buying options than they would if they had bought the stock.

Assume the 4,000 Novs and the same in Dec calls that day came from a single buyer. S/he bought an economic interest in 800,000 COMS underlying. Purchased at 65c and 85c, both calls popped post the announcement to $2.50. Hooray, a profit of $1.4m. But trading the underlying, buying at $5.611 would have given $1.52m profit. The other thing favouring the underlying as the vessel for insider speculation was that it was so much more liquid than the options. Buying 800,000 COMS would have been a drop in the lake of the volume that day, which saw 22m shares change hands. It would also have been much, much less conspicuous, and we wouldn’t even have a story. These were pretty stupid inside traders, indeed, who not just left money on the table by playing the options, but drew extra attention to themselves by doing so.

Though of course, if you want to insist on the inside trading thesis, you can always posit insiders with limited funds who couldn’t afford 800k underlying shares. So the DoJ in its inquiries should be able to exclude institutional investors. Or at least competent ones. But come on; is it the simplest explanation? Or is it actually a stretch?

Perhaps it was insider trading, but we have to posit incompetent and poor insiders for the thesis to work, and while possible this seems less likely than other explanations. A less complex interpretation for the COMS trade is that shorts, not long insiders betting on a takeover, got spooked and decided to hedge. Over 10m shares of COMS were shorted at the end of October, a proportion which might have remained stable into the takeover. Rumours fly about all the time, and 3Com has been known to be a takeover target since like forever. A 20% to 50% gap move in a big short can seriously spoil your day, if not your year, and a call position is an excellent way to hedge, to take the sting out, to make an existential 50% loss into, say, a merely unpleasant 10% one. When COMS has cancelled a roadshow, you’re seeing weirdly high volumes and a breakout, it’s actually pretty prudent for a short to hedge a bit with calls against a takeover.  

This sort of trade, moreover, happens all the time. Just this Friday, PALM November $12.50 option volume went through the roof; never mind a measly 4,000 contracts, they traded 21,000 on the day. The occasion was the the ridiculous suggestion, no doubt assiduously spread by inscrupulous holders eager to get out with some honour, that Nokia would be taking them over that weekend. The volume can probably be explained by the fact that PALM is probably the most shorted tech stock around at the moment, and more likely than not it was this lot, not numpty spanners who actually believed this crap, who bought most of the calls to cover their arses just in case. It would have been evidence of insider trading, of course, had there been an actual takeover at the end of it, and no doubt we would all be tut-tutting about the state of the markets today and how it’s all stacked against the little guy.

As it is, there wasn’t. At least there hasn’t been yet. And the owners of the options, who bought at 65c (they last traded at 23c) have until friday for the takeover to happen, after which the options will expire worthless with PALM at its current price. That will be $1.3m down the tubes. If that was money for speculation, it would have been painful for all but the biggest fund. If it was merely shorts paying up for insurance against getting their faces ripped off it would be more than bearable. You tend not, after all, really want your hedge to be making you money.

“To speculate,” the prophet said, “is human. But to hedge is divine.” The game is not just stacked against the little guy, it’s stacked against everyone, which is why some cheat. At least the little guy probably has a day job. It’s not wrong to be aware of what is probably widespread insider trading in stockmarkets today. But it’s probably very important to aim for the real evil-doers, the ones who pay executives to “get the quarter”, who know exactly what the company is going to print to the decimal point, and who have covered the tracks of their entry in a way specifically designed not to be noticed. We should get these guys, they suck, and Baruch can only applaud the FBI for the way they have handled the Galleon case. But we do need to stop and think before we throw premature accusations that may get innocent hedgers into hot water and don’t help anyone to make the game fairer.

Crikey. Looks like they’re going after Stevie Cohen now. For context, SAC Capital is the leading hedge fund of our time. They get to charge not 1 and 20, not 2 and 20, but 3 and FIFTY to their punters. And like La Gavroche, they get to decide who gets in; most of the funds are closed, with waiting lists up the wazoo. They’ve done this through nothing but creating consistent, (suspiciously?) persistent, 20% plus returns a year for god knows how long. SAC is the “smart money” you would follow if you knew where it was going; Baruch has known traders do that, no questions asked. And why? Because you just reason that they know something; they always do. How ominous that sounds now.

If SAC goes down like Galleon did it’s a much much bigger deal. I don’t mean the trading impact on the market, although there might be some — SAC is a rapid-fire trading house and will likely be positioned in mostly highly liquid securities. What I mean by a bigger deal is in an Ivan Boesky sort of way, a Drexel Burnham Lambert, a Defining Moment of Wall Street Greed sort of thing. A number of awful mini-series will be made about it. It may even turn out to be worse than that.

It’s clear too, the other half of the vast conspiracy (should it be proven to exist, of course) lies among technology stock executives, at least among those high enough up the chain to know the numbers. So far, at least, executives at IBM, Intel, 3Com, Atheros, and Polycom are supposed to involved. This is a highly representative list, across many tech subsectors and market caps. It’s not unreasonable to think staff at other companies are going to be indicted. Galleon’s original investors seem to have been tech executives who used to talk to Raj when he was a sell-side analyst, ie his sources, his informal “channel checkers”. Even if no brown envelopes changed hands initially, secretly advising a fund you have invested in p.a. on sensitive stuff doesn’t seem a stretch on the part of the executives, especially if it took place before RegFD. The relationships may have then become formalised, secrets in exchange for cash — is it unreasonable to imagine that the original conflict of interest sowed the seeds of the greater, and more obvious crime later on. If I was one of the Feds working the case I would view identifiying the early and later investors in Galleon as an avenue of enquiry rich, shall we say, in possibility.

Now it’s not just Galleon involved, but a horde of satellite hedgies with obscure names, and some of the managers who have started to cooperate with the authorities seem to have worked at SAC. “People familiar with the matter” (ie most likely the prosecutors themselves) have told the WSJ that SAC are the ones they’re gunning for. Given the size of the target, the prosecutor who can pull off this one is, on past form, a dead cert to be mayor of NYC, or at least state governor, and eventually will have the chance to become a cross-dressing presidential candidate.

If indictments are really going to be sent out, a number of half-formed thoughts spring to Baruch’s mind:

1. this is grist to the mill of the “you can’t make money in the stock market crowd”, the Felix Salmons of this world* who would have us all invest in index funds and ETFs. This is terrible, not just for people like me who depend on belief that a small number of gifted investors are capable of consistent, though not necessarily persistent, returns. No, it also, reductio ad absurdiwhatever, will make the stockmarket less liable to make any distinctions between companies whether they be good ones or bad ones — the very life force of capitalism itself
2. highly successful “fundamentalist” hedge funds may now have to spend as much time excusing suspiciously excellent performance, just as more unfortunate ones have had to traditionally spend time explaining away bad returns. In many cases this may be difficult, as the successful ones no doubt touted their “informational edge” as a way of getting the investors in in the first place.
3. because of this I can’t decide whether this is good for us honest fundamental investors, or bad. At worst, the boundaries of what we consider ethically and legally acceptable may stray. What we could call the “brown envelope” investment strategies are clearly not kosher, but what about ones where legitmate “homework” brings about the same result? How exactly is a sell-side channel check, communicated to a limited number of paying clients, conceptually different? Insider trading as a concept does not have hard edges, and innocents may get caught up in the net, or much worse, be encouraged to stop doing any digging at all. Maybe investors will conclude that all the fundamental investment strategies are at risk, and eschew the class altogether in a “kill them all, god will know his own” sort of way. At best, however, the money invested in dodgy funds may find a home with more honest practitioners, and, much more to be hoped for, fund investors themselves may reset unrealistic expectations for consistency of returns. Larger drawdowns will become more acceptable, as will greater volatility in monthly and quarterly track records. In other words, expectations will become more in line with what the real world actually doles out.

* of course, Felix Salmon has many other opinions, some of which are even correct.

Baruch is slowly coming to terms with the ghastly truth. Apple is closing down everyone else in the smartphone market, and it seems that nothing can stop it.

For over 10 years the mainly European giants of wireless, the operators, equipment and handsets makers, touted the bright sunlit uplands of our 3G mobile internet future their products would lead us to. Well, they didn’t. Total fail. Handset makers never got their act together, never worked out how to make it easy to use the interwebs. Meanness, fear and general hopelessness meant operators never spent the capex; making fat margins, no-one wanted to rock the boat. Equipment makers were slow to release the fastest network upgrades. Everyone was culpable in their inaction, and until about 2 years ago it looked like we were never going to get anything like what we had been promised in the powerpoint presentations.

But now we are there; look around you at all the people browsing the web on touch screens, using mobile apps, downloading music and watching video. It took an outsider, the least Spinozist company in the world, and an (overpriced) PC maker to boot to make it happen. We have to face facts: the mobile internet has been created, and is now owned and controlled by, Apple, and we owe them a debt of gratitude. Those who know Baruch will realise how nauseating it is for him to write that.

Now read on to find out why all this is in fact a Bad Thing:

Many might think the extent of ownership Baruch has in mind is an exaggeration. Well, it’s not. Forget the quarter Apple posted last week, that was all about Macs — iPhone sales were supposedly held back by component shortages. You can look, as did the Blodget, at market share statistics. But in mobile these are often misleading, and I still don’t know exactly how to define a smartphone for the purposes of comparison.

No, the best definition of dominance is taking a paddle to the competition. To see this look at the financial results posted by the smartphone makers who aren’t Apple.  Despite being in one of the hottest spaces in tech, every single one of them whiffed their numbers:

• Let’s start with RIM, the Blackberry maker, who reported last month; the quarter was OK. Yes, they made their unit numbers, but not by much. The key to these things is guidance, and they lowered theirs under the Street forecast, mainly due to having to lower their prices to compete. Overall subscriber numbers are lower as well. The stock tanked and hasn’t recovered.
• PALM missed their guidance. Their “Pre” smartphone, with its much-hyped OS, only sold in the US through Sprint, the weakest US operator. Despite big queues at launch day (Baruch suspects paid actors), follow up sales were weak. Now some people worry PALM has over-estimated demand, and too many Pres (Prii?) sit forlornly in Best Buy warehouses. PALM cut price twice in an attempt to clear this away, and made up for this disappointment by asking everyone for more money to tide them over until they could make actual cash, rather than terrible losses. They promised this would happen soon because they have a cheaper phone called the “Pixi” coming, which will no doubt be the success Pre was not. A lot of people like PALM and so gave them the money. Baruch is not sure this was a good idea.
• Nokia’s high end has been eviscerated. During Q3 this year Nokia’s gross margin tanked. Their excuse is something to do with “yen hedges rolling off”. In reality high end has always been the key driver of gross margin and having most of that go away, and the remainder heavily discounted to sell, is a much more devastating blow. Once again, competition from Apple is destroying its business in the high and mid ends. The only thing that works for them are cheap handsets sold in emerging markets.
• Finally, High Tech Computer. Poor HTC, they were Baruch’s favourites with their Android-based smartphones, his Great Open Source Hope. The leader of the Android camp with lots of experience in software and hardware integration, if anyone could give Apple a run for their money it was HTC. But no, they missed their numbers too. Not enough people were buying Androids, they told us as they lowered their guidance. There’s a huge branding gap, both for the platform and HTC itself, they said. Most customers didn’t know what an Android operating system was, or what it did. They didn’t know what an HTC was or what it did either, for that matter. Everyone knows what an iPhone is, of course.

Things are going to get worse for these guys. There are lots of new entrants, first of all. Motorola is relaunching as an Android smartphone shop and non-traditional smartphone players like Dell, Huawei, and Asustek-Garmin are all getting into the Android game. Nokia is slowly revamping its lineup, adding a clunky app store, and using a new Linux-based operating system. RIM has its Storm 2 flagship on the way (Storm 1 sucked). The Koreans, LG and Samsung, are starting to put out Androids and are trying to get more software aware. Sony-Ericsson is coming back with gazillion megapixel-cameras and touchscreens. All in all from a competitive perspective Q4 is looking like a train wreck. I can’t wait to see what people are going to come up with in 2010; it’s likely to be a golden age for smartphone hardware. But I don’t think any of the wonderful phones we will see  is going to make anyone any money.

This is because Apple still has it sewn up; this marriage of great hardware/software, vast iTunes song and video content and mass market and long tail apps frankly seems unbeatable at this point. Another novel advantage is own distribution, through Apple stores, keeping  the hardware margin and the retail markup. Incredibly, Apple is now the scale leader in the handset industry; it makes more EBIT from mobile phones than Nokia. So it has more R&D to spend, more marketing oomph.

To make things worse, Apple managed this with exclusive operator relationships, which are set to expire. When they do we are likely to see a further step change in market share for Apple. In France this year, the first non exclusive big market, Apple immediately became the top-selling handset vendor in the country, number one by revenue. With only one handset on sale, that’s unheard of. Nokia runs about 30 models at any one time. Replicate that in the UK, Germany, Italy and Spain, and eventually the USA, and that’s a problem. With all these gifts, if by the middle of next year Apple can’t put together a portfolio of devices, including a cheapo one for poor people, take massive share and put one or other of these rivals out of business completely, then it will be surprising.

Of course, for any right-thinking person, this level of dominance is appalling. As things stand, mobile computing will not be a free medium rich in dynamism, competition and innovation, it will be a controlled environment, a “walled garden”, in the argot, one where Apple decides what apps you run. Apple will have massive influence on mainstream content. If you’re not distributed by iTunes, you will be nowhere. Sure you can read what you want on the Safari web browser, for now, but that’s the only thing Apple won’t have pre-approved on your behalf.

Now, Apple’s prime goal is to make money, and has no, if any, moral or political axe to grind; despite the touchy-feely rhetoric, they’d likely sell their iGrandmothers if they could. They’re no Murdoch. They are extremely unlikely to censor an innovative app or service if there’s the slightest chance they’ll make money off it, or if it makes their customers “stickier” to the platform. There’s no editorial slant. Or is there?

Apple is “clean”; it’s “cool”. It’s progressive. Quality that works. It’s the future, all clean lines, with a preponderance of pure white and blacks, with burnished metal bits. It has brand values; it’s a corporation. And like all corporations operating in a competitive space its function is to hegemonise, to grab as much money and power to make more money as it can. In 99.9% of cases competition from other corporations doing the exact same thing constrains that power and creates a succession of temporary and unstable equilibria, and in the transitions between those equilibria innovation happens. And that benefits all of us; it’s the theory behind capitalism. But when those constraints are removed and a company grows and grows and grows it is like a cancer, necessitating intervention from antitrust authorities. And once you get to that stage you’re in an innovation-free zone.

I posted a few months ago my thoughts on Jason Calacanis’ suggestion that Apple be investigated by the DoJ; since then, I see that Apple’s dominance has increased in a step function, and is set to increase further still. Are we doomed to become iSlaves? Will Apple rule the mobile interwebs for hundreds of years, a disembodied Steve Jobs head attached to a cyborg body still making product presentations to groups of pre-approved applauding sycophants?

My fear is that Apple will make wireless computing sterile, neutral, edgeless. Corporate. Take pornography; most communication innovation has been adopted first by pornographers this century, from videotape to the DVD to the internet. What are the chances of an iPorn app being onsale in iTunes, or one leveraging the GPS function that lets you see the nearest prostitutes, hey never mind that, the consenting adults, specialising in your particular fetish? Or an app for devil worshippers who want to sacrifice a virtual goat (or child). What about a Stalinist social networking app? Or one for Nazis? Even something as harmless as iGaydar was blocked; I don’t know if it has been de-un-blocked again.

Of course, Apple doesn’t hate gays. And probably doesn’t have much of a view on goat sacrifice. But it knows it will suffer negative publicity from any large, paying segment of the population should they be seen to facilitate the groups they don’t like. Apple will be willing enforcers of the tyranny of the mainstream and the majority. And that’s definitely not the way to have a creative or even an interesting mobile computing industry.

Apple is still a tech company and the only constant in technology is change. No dominance endures for long, walled gardens especially, and product cycles are shrinking fast. As the Jeff Goldblum character in Jurassic Park puts it, life will find a way. Some future version of Android running on totally commoditised hardware seems to be the most likely rival candidate right now, but to Baruch at least it seems too obvious, and Google too distracted with so many different projects that it might end up priotising everything and succeeding at nothing but search and Adwords. Another possibility is the Intel camp, the X86 world catching up with the mobile world in terms of energy consumption and form factor constraints. Intel’s strategy is to make future versions of its Atom processor, which currently drives netbooks, become leaner and meaner so that they can fit into and run proper mobile handsets. Unleashing the PC/Wintel programming horde on commoditized hardware could ultimately swamp the Apple ecosystem, break into the walled garden and cover it with the computing equivalent of kudzu or virginia creeper.

The other thing that could happen is that smartphones get substituted by something else we haven’t yet thought of, and Apple misses the transtion. This is what typically happens to tech companies, from IBM in mainframes, to PDA makers like Psion or Palm version 1, to videotape, to cathode ray tubes, punch card computing, circuit switched copper telco networks, etc etc. But given where it looks like we are in smartphone adoption, this will take an awfully long time. Maybe the Calacanis, government intervention version will have to happen after all. But that will be a risky strategy for the regulator, who is likely not to bother as 1), they only tend to recognise dominance in well-established markets like rubber, steel and I don’t know, wigs — not things like mobile computing, and 2) politically there will probably prove no group of voters as motivated, financially muscled and just downright hissy as Apple fanboys when roused.

Baruch has to join the paean of praise for (all via Abnormal) Paul Krugman’s NYT piece, How Did Economists Get it So Wrong. He’s going to object to bits of it in a second, but first let’s puff it up. It’s fantastic, a great summing up of the state of the art of the dismal science (sic) that is macro-economics, includes a proper skewering of some hapless midwesterners, and a set of prescription for the future that Baruch can only applaud; writing of where macro-economists need to go now, Krugman concludes:

First, they have to face up to the inconvenient reality that financial markets fall far short of perfection, that they are subject to extraordinary delusions and the madness of crowds. Second, they have to admit — and this will be very hard for the people who giggled and whispered over Keynes — that Keynesian economics remains the best framework we have for making sense of recessions and depressions. Third, they’ll have to do their best to incorporate the realities of finance into macroeconomics.

As a broad strategic outline, or a description of the destination we need to get to, it’s great.

But, but, but. Here comes the quibble: 2 problems need to be overcome on the way, and this might make the project a little/even more difficult than most of us think it is. Economics may remain a dismal pseudoscience for a long while to come.

Problem One: the hardest part of Krugman’s 3-step path to the broad sunlit uplands is step 3; integrating finance and financial theory into a macro-economic framework presupposes that such a thing as a proper academic study of finance exists. It does not. No formal discipline, no body of work, has provided so little of use and so much of harm to the human activity it pretends to study than academics of finance have done to financial markets, and indeed the macro-economy. From efficient market theory, which Kruggers rightly knocks on the head, but which unfortunately underlies CAPM, to the Black-Scholes pricing model, which worked great for LTCM, to Fisher’s factor models which so far have proven least malign (probably because no-one uses them), financial theory has produced nothing of predictive value, and even the descriptive bits look creaky at times. The false certainties that financial theories created have instead lost the practitioners trillions.

The only bits, to my mind, of the corpus of financial theory that have any enduring worth are the ones that strongly imply that no embracing financial or asset-pricing model will ever have any predictive value, the ones that incorporate adaptive expectations. We’ll get onto these in a bit, as these are also the bugbears of the Keysnian model.

In any case, asking this lot to contribute to the grand project of reviving the status of economics is simply not going to work. Totally fresh eyes are needed at the very least, and it’s probably the economists that are going to have to do it themselves. The ever-stricter separation of discipline in the period since the start of the last century is probably going to make this even harder. Very few economists proper have the wherewithal to start. The best chance we have had to do any unifiying between asset pricing and an elegant macro thesis was probably, er, um, JM Keynes himself. He must have spent as least as much time playing the market as he did theorizing, because he was one the most successful equity investors of his time, a practitioner of strict value style a la Warren Buffett, and ran a hedge fund for the Bloomsbury crew when he wasn’t shagging Duncan Grant. And this, the titan who straddled the worlds of theory and practice in both policy and markets, who more than anyone knew the necessity of having a financial and asset pricing theory as part of the Great Theory, this incredible sophisticate, what did he eventually conclude about financial markets at the end of a lifetime of study? It was all “animal spirits”, in his famous phrase.

 In the end, asking that economists properly “incorporate the realities of finance into macroeconomics,” is far, far more easily said than done. I don’t think Krugman is underplaying the difficulty of this, but I still think he may be “assuming a can opener”, in the words of the terrible old economist joke*. Baruch is famous for his economics jokes.

The second major problem may be even more serious. Krugman himself hints at this when he writes:

The Fed dealt with the recession that began in 1990 by driving short-term interest rates from 9 percent down to 3 percent. It dealt with the recession that began in 2001 by driving rates from 6.5 percent to 1 percent. And it tried to deal with the current recession by driving rates down from 5.25 percent to zero.

The pattern is not lost on Krugman; more frequent crisis, or recession, and progressively lower interest rates needed to “fix” it. In fact the greater frequency of crisis is something he has discussed before in his work. But the rates have reached zero. The monetary stimulus each crisis necessitates can’t go further from here. That’s why Krugman is so keen on fiscal stimulus, which is what he is talking about in the article. But this is also why, I think, Krugman takes so seriously his issue with Niall Ferguson, who objects that high levels of debt that massive stimulus creates are unsustainable.

Krugman does not address the accusation, very popular among my fellow finance professionals, that Keynsian solutions may be making each successive crisis worse; we knew 1990 was merely going to be a tough recession; the aftermath of the internet bubble was more serious but few feared a Great Depression, but the velocity and potential downside of the popping of the great debt bubble of the 2000s, however, was seemingly as serious as the 1930s. I think there is a prima facie case  to be argued that Keynsian solutions to crisis, namely monetary and fiscal stimulus, may actually sow the seeds of the bubble that causes the next crisis, and make it potentially worse. And each iteration, as is certainly the case in the examples Krugman gives us, leaves less room for future stimulus.  At a certain point, and sooner rather than later, a greater crisis may emerge and we will have no room to manouvre. Just as monetary policy loses traction at the extremes of a liquidity trap, is it not naive to think that nevertheless fiscal policy will always work? Ferguson is saying just that; at a certain point, governments simply cannot borrow anymore without precipitating default or inflation. He is wrong, probably, if he thinks that that point is very near right now, but I don’t think he is wrong to fear it in general, and he doesn’t deserve the scorn poured on him in the blogosphere for saying that.

The most cogent objection to the Keynsian framework is not that neoclassical economists are heartless, nor that they are foolish, although many of them might be when it comes to their undertsanding of unemployment. It is one that Krugman simply doesn’t mention; expectations adapt. This was the key intellectual and theoretical understanding of the “stagflation of the 1970s, which”, Krugman admits, ”greatly advanced the credibility of the anti-Keynesian movement”. This was drummed into me in the late 80s and early 90s, my formative years on the way to my becoming an amateur economist, and no-one seems to want to talk about this any more. Simply put, after undergoing repeated cycles of  stimulus, markets and economic participants lose their money illusion; they realise lower interest rates will result in inflation and react accordingly, creating self-reinforcing inflation epectations, and they realise that excess government spending needs to be paid for in tax raises, and default risks act to raise interest rates, choking off growth.

Old school Keynsians have an extraordinary aversion to any form of economic pain. They view it, and the unemployment and even homelessness it creates, as a simply unnecessary tragedy. They are often right to do so. But I know of hardly any form of human endeavour where achieving anything worthwhile is painless, where no adjustments need to be made, where there is in fact a free lunch. As Spinoza famously said, “all things excellent are as difficult as they are rare.” It would be incredible if economics were different. Krugman’s answer to many of these objections is a simple “given the risks of inaction, what else can we do”? I don’t have a better answer. I also have to agree with Krugman’s key idea that “Keynesian economics remains the best framework we have for making sense of recessions and depressions”, just as I agree that chemotherapy, radiation and surgery are probably the best ways of dealing with cancer. But repeated doses of all these are eventually as dangerous as the condition they are being used to treat.

* Three men stranded on a desert island, starving hungry, find a can of beans washed up on their beach. But how to open it?

“Bash it in with a stone” says one, an engineer. But it merely dents the metal. “Dip it in and out of saltwater, and after a few weeks it’ll slightly rust and weaken,” says another, a chemist. “I know, I’ve got it!!” says the third, an economist, all excited. “What, what?” say the other two. “Let’s,” he says, ”assume a can opener!!”

Baruch was pondering the apparent excesses of the Chinese stimulus package today, and stumbled on what may be a most interesting hypothesis. Possibly, if he is right, the most important investing insight for the next 10 years.

The Chinese stimulus quite incredibly big; $600 billion is 15% of Chinese GDP. But it is being more than matched by “private investment”; for every dollar spent by the government on a project, 3 are being lent by the banks, either willingly or unwillingly. So unlike the US trillion dollar package, it is hugely leveraged. Did you know they will be spending $146 billion over 3 years on their 3G wireless rollout? Bet you didn’t. That’s a lot of money. But it was a dry, contextless datapoint until today, when Baruch found out what that level of network spend actually means: just 1 of the 3 wireless operators there, China Unicom, will be building 125,000 base stations in year one of the rollout. This might bore you but hear me out. That’s more 3G base stations than all the operators in Western Europe have rolled out in the 9 years since the 3G wireless standard has been in existence.

The majority of phones sold in the past 3 years in Europe have been 3G enabled, and Baruch imagines that 60%-70% of EU wireless subscribers are at least partly on 3G networks. That must be like 150-200 million people, and it isn’t like you get a weak signal over here. OK not all of them are heavy data users but this is changing rapidly. That’s more network capacity than Unicom 3G subscribers could possibly want until like, 2014-15, given the rosiest takeup scenario; true, there may be many more Chinese people than there are Western Europeans, but right now there are precisely zero “proper” 3G subscribers in China, ie those that aren’t on operator sponsored trials. This is future-proofing a network taken to an absurd degree. There is no way that this can possibly make any financial sense, in the way we currently understand capital budgeting.

And it struck Baruch; these guys are in a hurry.

Think about it. China and the US are locked in an embrace I discussed here a couple of months ago. China Inc owns the biggest pool of USD assets outside the US that the world has ever seen. It is their nest egg stored away for a rainy day, the reward of 10-15 years of saving and hardscrabble labour, making widgets and assembling them into finished goods for largely American consumers. For their part, American consumers desperately needed someone to backstop their addiction to buying stuff, someone who would lend them the money. It was vendor financing on a epic scale. And while the US consumer junkies needed their fix, their Chinese “pusher man” formed an economy dedicated to supplying it.

This created a mutual co-dependency, which is sadly no longer viable. The Americans now are desperate to reflate their currency and thereby their economy, while the Chinese are equally keen to diversify out of their dollar assets into something else. The problem, the prisoner’s dilemma, is that in doing so each would hurt the other. The US, on losing its lender of penultimate resort, would see their bond yields balloon, potentially choking off any recovery, whereas if the US successfully inflated their debt away, the Chinese would see their nest egg devalued; they would be the neighbours beggared. The more vulnerable partner in the embrace has to be China, however. Inflation is the time honoured tool of the borrower state to weasel out of paying debts; the temptation is eventually irresistible. The US economy is likely more flexible than the Chinese, and likely to better withstand the shock of the breakup better. Finally, the chinese government fears unrest and revolution more than any US administration; there’s many a precedent of the officials deemed responsible losing more than their jobs when things go wrong.

So the Chinese know they have the weak hand. They have a lot of money right now that may well be worth less, far less, in possibly an undefined period of time. It’s a version of the problem faced by Richard Pryor in Brewster’s Millions, but on a galactic scale. Baruch will call it the “Brewster’s Trillions” dilemma (OK, it only bears a very vague similarity to the movie, but I love the clip). And like Brewster, like any sane person would do, Chinese are going to spend it before it goes away, but unlike Brewster, they hope they’ll end up with at least something of value at the end of it.

That’s why they are investing more than they could conceivably need, for example, on a 3G network which under current plans will be simply the very best in the world, and the most under-utilised — a 6 lane superhighway to every town in a country currently without cars (if you see what I mean). That’s why the previously successful rural subsidy for electronic goods, ostensibly in the name of rural development, is now being duplicated in the big cities where there isn’t any developmental need for it except to goose demand. It’s why the latest plan for renewable energy involved a 2000% increase in the production of solar energy in China from 1-2 gigawatts today, to like, 20 in I forget howevermany number of years (or is it 20 to 200? I don’t remember, but a gigawatt is a lot, I think), a plan that dwarves any other national energy proposal in any other country, on technology that for most people just isn’t efficient enough to justify without subsidy. It isn’t a waste, in their mind; it would be a waste not to use it while they have it, to try and turn it into something worthwhile and lasting.

Money just became very cheap in China; their inflation expectations have clearly skyrocketed and it is about to shift from the global lender of last resort to the global consumer of last resort. And as we all know, its consumer expectations of inflation that matter more than the actual expansion of the money supply in an inflationary environment. Previously a deflationist, Baruch wasn’t sure about where he stood on the inflation-deflation debate, but given all of this he may have just become a radical inflationista.

Bloggers and bears want it down. Punters seem to want it up. Baruch is a bit mystified when short-medium term market direction becomes an econo-bloggy subject; his invariable reaction is “how can you possibly know?” Personally, I rarely have a strong enough opinion about it for me to be willing to put it out there in public. In my job and in my blog posts, however, I do take implicit market directional positions. I have to, at times, go “all in” either as a bull or a bear, so like any punter I absolutely love a fully fledged trend in either direction. It makes my life so much easier. But I am always fully prepared to do the switcheroo and go completely the other way, and when I do I always mutter to myself  “consistency, Baruch, is the hobgoblin of the small minded”. 

Baruch is often confused. There are always valid-sounding arguments for what the market is about to do, many of which contradict each other. Investing is hard. What can bring clarity, however, is widespread bullshit reasoning in either direction. The more febrile and silly the arguments of one side, the more he senses weakness, a set of trapped investors, tied to one direction or another, getting increasingly desperate and likely to be imminently carried out. He may then be persuaded to back the other with his investors’ wonga.

At this point two arguments of the bears are very telling. Firstly Blodget and some bloke at Euronext fret that “real money” hasn’t joined the buying frenzy. And apparently there is a looming, mysterious “quant disaster” which seems to be a econo-bloggy undercurrent (all HT Abnormal). This makes him want to buy.

OK, every rally from a bottom starts as a “traders’ rally”. Fast money is, er, faster, and thus earlier. We should also question whether institutions actually have stayed out of the move. Hell, I work for an institution and we deployed our cash already. The big stock market rallies I have known, in my many years’ experience, have followed a fairly typical pattern: the trading hedgies and macro guys get in first, followed by the vanilla long shorts and nimbler mutual fund guys. It’s after that that the slower ones start to deploy their cash, the big institutions, then the big wealth managers, the private bankers. The typical rally might start to get a bit long in the tooth at this stage, and ideally one should start selling here, for the only ones left are the retail wealth managers, and finally the retail punters and daytraders who come out of the woodwork for their inevitable fleecing. This idea:

The real money investors are still waiting. I think they’re waiting, they’re watching. They want to make sure that what we saw in March is real. And I think once they are convinced you will know it. The market will have a totally different tone to it.

far from making me get antsy about whether I should be in or not, makes me want to buy more. We are still at the early stage of the sequence.

The Blodget argument, pace Hussman, that revulsion is needed before we can “put in a bottom”, well that sounds true to me too, but without a checklist of what constitutes an “adequate” level of revulsion, it’s just not that helpful (and the checklist, once published, wouldn’t work the second time around). Baruch felt pretty revolted at the end of February. But was it enough? It may only be possible to detect the “right” revulsion level after the fact: and might not the velocity of the reaction post the nadir of sentiment be the only guage of how much revulsion there actually was at the bottom? In which case the greater the rally the more likely it is the bottom was in? Another supposed argument for the bears is actually flippable into a pro-cyclical, bullish one.

As for the mysterious quant blowup threatening us all, we had the real quant blowup back in August 2007. Whatever happens from here simply can’t have the same impact: the quants are a shadow of their former selves in terms of market impact.  Back then, I only knew there was something up with the quants from bloggers and market rumours. The directional selloff  was caused by the subprime issue (and we didn’t realise how important that would be until later). As I wrote not far after it happened:

At one point small caps looked like they were outperforming large caps, which is not normal at times of risk aversion, but that was it, and it only lasted a few days. It was market neutral positions that were being liquidated, ie, for every long that was sold there was an offsetting short that was bought. Directionally. . . there was no impact from the Quant meltdown.

Unless the nature of quant investing has changed in the last 18 months, and become concentrated in a single, directional bet, I simply don’t see the relevance of this argument as a reason we should all sell stocks here.

So what are the uninvested to do? Buy it this far up, worrying that the moment we do we’ll get our faces ripped off as the bear market comes back? Or stay out and watch it go up, which is fine and free for most of those in the econo-blogosphere with no money in the game. For investment professionals, however, this latter position is a recipe for getting all your money taken away. Opportunity cost takes on concrete reality in the form of cross investors, tired of being regaled at the golf club by stories of the investment gains of their peers. If the only arguments on the other side were these silly ones, Baruch feels we should be buying the crap out of everything. Japan saw multiple 40-60% rallies during its 1990-2002 bear market, and we’ve only just managed 30% off the latest bottom.

Sadly, Baruch feels there are much more cogent bearish arguments out there, and doesn’t necessarily buy the opposite, “generational bottom” thesis, either. His worries are mostly to do with the end of inventory restocking, and longer-term, the possibility of Japanese 1990s-like deflation followed by 1970s-like stagflation. But he won’t let this stop him from making long money while he can.

After humbling years of error, he has finally worked out what works for him: he is a Caddyshack investor. He tries to “be the ball”. He rides the trend but sets a stop and if the stock or index crosses that line then he is wrong, his thesis is invalidated and he goes at least neutral, and sometimes the other way. He loses money in the transition, but if the new trend and direction sticks, and he made the transition quickly enough, he makes it all back and more. Other investors are anticipatory and try to catch that big move ahead of time: for some of them, this works great. Baruch has managed it once or twice, and it feels great too, but he has called about 10 of the 2-3 big market transitions in the past 4 years or so, lost money more often than not, and simply doesn’t trust himself to do it well.

But as the ball, even in shitty times, he knows it often will pay to be long or fully invested, just as it will sometimes pay to be out or mega short. One thing the ball will never be is perma-anything.

No idea who this smart alec is. In fact I am not sure I like him, he sounds like he will be insufferable at dinner parties for the next 20 years or so (“you know, I predicted the Great Unwind of 2008-2010″). But this video indicates 2 things to me:

1) stating very definite opinions about outcomes which will be determined by the market is not always good. State assumptions. Hedge. No matter how convinced you may that you are right, there’s at least a very small chance you may be completely wrong

2) because of this, even if you vehemently disagree with someone you are sitting next to in public, especially on TV, it is always good to be polite. Do not engage in exaggerated passive-aggressive sighing and gasping.

Spinoza was always scrupulously polite.

(HT Andrew Sullivan)

Yo Bento, check it. You love this stuff, believing as you do that the division between the religious and atheist is the great divide of our time. Hitch has a “there is no god/oh yes there is” debate with some old rabbi, and were I to momentarily forget I am an agnostic and were I to pretend I had an open mind, I would probably not be able to tell who won. Actually I am not sure whether I am an agnostic or not — ha ha geddit? Seriously, is there a word for someone who actually doesn’t care whether there is a god or not? Perhaps I am a dontgiveafucktheist.

Maybe not even that is right; it’s more like I am fairly sure there isn’t a conventional kind of god, one who likes beards, thinks about answering our little prayers and enjoys tambourines, listening to hymns and renditions of kum by yah. No, the thought is ridiculous, but there is literally no proof I can come up with to persuade the godly to abandon their silly ideas. As Taleb would put it, “absence of evidence is not evidence of absence”. Epistemologically, it is impossible to prove the lack of existence of god. Or “g-d”, as I would write if I was a complete numbnut. On this reading, I would be a ohwhocarestheist.

Similarly, I think that in the Ethics Spinoza was trying to free his generation from all the same crap: to try and find some sort of synthesis on the great argument on god’s existence or not, an argument constantly raging below the surface, belying the sometimes lukewarm declarations of piety of the time. To come up with some statement about god everyone could agree on so we could go off and discover and debate useful things instead; optics perhaps. Not have another fucking circular, endless rehearsal of the same tired rhetorical formulations. None of his friends would have to go to prison any more; finally the religious and irreligious would be able to march hand in hand into the broad sunlit uplands of the 18thC.

I get the impression from this transcript that even Hitch is bored, just going through the motions. On the verge of the end of the era of Rove, the supposedly imminent elevation of Obama (and I share the suspicion with the republican base that he is a secret agnostic), are we sure that we really care, Bento?

Baruch! I almost choked on my oatmeal porridge just now when I discovered that there is such a thing as the Spinoza Prize in the Netherlands — for literature, microbiology, physics and medicine — and that the organizers, the Netherlands Organisation for Scientific Research (NWO), are keen to call them the “Dutch Nobel Prizes”. Must be a big deal, you’d think?

Not really. First, you can forget about winning the prize if you’re not Dutch. (That’s not very Nobel of them, now is it?) Second, check out what they’re winning it for. The winner for the microbiology prize?

His research has led to the development of lactic acid bacteria that can improve the taste and shelf life of cheese.

Yes indeed, in Holland you get a $1.5 million euro prize for inventing longer-lasting cheese. In our name, Baruch!

Baruch! I struck a minor coup for our cause this morning. Let me explain.

It was high time that I renewed my visa for Egypt. Until now I’ve always done so at an Egyptian embassy abroad. This time, through circumstances beyond my control, I found myself in Cairo with a visa that was about to expire and with no immediate plans to travel.

The only solution: A visit to the dreaded Mugamma. The Mugamma is a unique Egyptian institution, a massive squat gray building in the center of Cairo that acts like a sort of super-ministry of paperwork, licenses and permits. The insides are a warren of curving hallways, desks, numbered booths, waiting rooms, security checks and placards with instruction. Every imaginable activity in Egypt requires a permission slip from somebody in this building. The trick is finding that person. The task has driven people insane.

Among the Cairo expat community, Mugamma horror stories are great social currency. We all have friends of friends who spent days, dazed, trying to complete the intricate steps for whatever permit they needed; and there are rumors of people actually living in some of the further reaches of the place.

Forewarned, I came forearmed with the required passport photocopies and passport photo. After some aimless walking around, I found a window that sounded appealing — Temporary Tourist Residence Permits. I thought I might get me one of those, say for six months — much more interesting than a visa extension, no?

Remarkably, there was no wait. I was given a form, told to fill it in, buy some stamps (worth all of 2 USD) and come back.

So I filled in the form. All was well, until I hit a roadblock:

RELIGION: _____________

Well. How dare they ask. I should not have been surprised, however. Egypt’s religious composition is a matter of great importance to the powers that be, because the percentage of (Coptic) Christians in Egypt determines all manner of job quotas and budget matters. (Copts say they make up to 15% of Egypt’s population. The official figure is much lower.)

Religious identification has also been a rallying cry for Egyptian Islamists. As in the rest of the Muslim world, the concept of religious freedom is a decidedly one-way affair. Are you Christian and want to marry a Muslim girl? Easy. Just convert to Islam and the girl is yours. The state will gladly give you a new ID card with your new religious persuasion. But try to convert from Islam, and you face public disgrace, threats of vigilante killing and jail. After all that Mohammed’s done for you, you certainly don’t deserve a new ID card, you ungrateful bastard.

There has long been an additional problem for people who are not one of the three officially recognized religions — Muslim, Christian or Jewish. Egyptian Baha’is have had to wage a protracted campaign — only just recently successful — to allow them to leave blank their religious persuasion on their ID card, instead of being forced to lie by choosing one of the three obligatory options.

I knew all this as I pondered what to put down on the form as my religion. I certainly could not put down the truth — atheist — as me and my ilk tend to get deported or thrown in jail for such a public display of disaffection, just like that other great threat to Egypt’s public morality, the homosexuals.

But I didn’t want to put down what al the other expats put — Christian — because if anything I am anti-Christian. Christianity’s mythology is just as ludicrous as that of the Mormons or Scientologists, only older. I probably couldn’t get away by putting down “Muslim”, though that would be an acceptable ironic answer in my book, while putting down “Jewish” would only invite trouble. Leave it blank? I didn’t feel that was an option on this form, where the absence of an answer would leave a gaping hole, inviting scrutiny or a delay.

Then I had my stroke of genius. Before I could regret my impulsiveness, I put down “Spinozist” as my religion and handed in my bundle.

I was told to come back in two hours. That in itself was a shock — I have never heard of same-day service in the Mugamma for visas. And yet, 90 minutes later, there was my new temporary tourist residence permit, without a hint of trouble for my idiosyncratic “religion”. As far as I know, I am now the only certified Spinozist in Egypt.

As you know, I agonise sometimes, Bento, and worry that Technology as a sector really isn’t as “ethical” as one would think. Most tech gadgets are made in China these days, by dormitoried employees in conditions an early Victorian industrialist wouldn’t find unfamiliar. Interestingly one of the worst culprits here is the Hon Hai/Foxconn Group, who do all the assembly for, you guessed it, Apple. Coltan, the black stuff in the capacitors found in circuit boards, is mined in the Congo, in large part by slave labour, and is tremendously lucrative, so much so that control of it is one of the underlying reasons behind the war there over the past few years.

So this article cheered me up no end, reminding me that technology has a huge role to play in development. Forget what you and I think of iPhones and N95s Bento, it’s nothing compared how life-changing the simplest cellphone is in dirt poor countries. It’s a combination of the cheap labour of China, Moore’s law and the incredible scale of the big phone makers like Nokia, which makes it so that unprecedented numbers of people can afford one.

Key bits of the article:

A “just in time” moment afforded by a cellphone looks a lot different to a mother in Uganda who needs to carry a child with malaria three hours to visit the nearest doctor but who would like to know first whether that doctor is even in town. It looks different, too, to the rural Ugandan doctor who, faced with an emergency, is able to request information via text message from a hospital in Kampala. . .

A cheap mobile really makes a difference economically too:

Robert Jensen, an economics professor at Harvard University, tracked fishermen off the coast of Kerala in southern India, finding that when they invested in cellphones and started using them to call around to prospective buyers before they’d even got their catch to shore, their profits went up by an average of 8 percent while consumer prices in the local marketplace went down by 4 percent. A 2005 London Business School study extrapolated the effect even further, concluding that for every additional 10 mobile phones per 100 people, a country’s G.D.P. rises 0.5 percent.

The low end handset market must the biggest in terms of units in all of technology (the overall handset market will sell over 1bn units this year), and it wouldn’t shock me if it was the biggest in terms of value. It’s certainly one of the fastest growing.

It’s the underlying reason why I bought some calls in Nokia just today, for its Q1 report the day after tomorrow, despite worries about a high end handset slowdown. Nokia has the ultra low cost handset market completely sewn up, and I’d guess it has 60%  share there. With its mega distribution network, huge scale and abilty to design desirable handsets that sell for $30 and net it a 30% gross margin, it’s a stock you can own to assuage your conscience, and have a chance of makng some serious dosh at the same time. Spinoza would most definitely approve.

But you carry on owning your AAPL, Bento. Remember, Think Different!

Motorola investors, Bento: I worry they are not too bright. Today Carl Icahn scored a major “victory” in his proxy battle against Motorola, effectively winning the war he started last year. Now he gets to stuff the board with his creatures and restructure the company. The stock is up modestly today, and this is almost certainly a mistake.

I blogged the story here almost exactly a year ago. Addressing Moto shareholders, I wrote

For god’s sake vote for Icahn; he probably knows nothing about handsets, and won’t be able to do anything to turn the company around for the next 6-9 months. But it will be the first step on the road to some degree of recovery for what has been, in the past, a great company, which employs thousands of people. Otherwise this nose-dive is only set to continue.

 As for me, unless something changes, I’m not buying Moto until it hits $11-12. It’s at $17 and change right now.

They didn’t of course, possibly because very few of them read Ultimi Barbarorum, and have no interest in Spinoza. Well, now MOT is at $9.80, and I still don’t own it. In fact, I’ve felt for some time that the decline has probably become terminal. Now I’m almost certain that Moto knows it too. How do I know this? Because they just handed Icahn the keys. 

Consider the evidence: Moto management has suddenly changed tune, previously holding off from full disclosure of its books, forcing poor Icahn to sue them only a few weeks ago, amidst the firing off of many bad tempered “open letters”, wherein Moto described the proxy battle as an “unnecessary distraction”. Things have clearly changed. Why now?

• Firstly, the turnaround in attitudes to Icahn coincides with what seems to be a rather worrying slowdown in the overall handset market in the US and Europe, at the same time as aggressive and extremely sophisticated new entrants like Apple and Research in Motion are taking share. Not a good market to do any recovering in.
• Secondly, I (and everyone else who can be bothered to look into this) have reliable intelligence from component contacts in Asia that something quite horrible may be about to happen to Moto’s handset volumes in Q1 and Q2 of this year. And no doubt Q3 and Q4, as well. Suspicious readers will note that has Moto rolled over for Icahn less than a week after Q1 ended.
• Thirdly, the highly public search for a potential buyer for the handset division turned out badly. The only interested party left is this Indian outfit called Videocon who no-one has heard of and who – by the fact that they are interested in buying Motorola – clearly have no idea about the handset industry, q.e.d. Moto managers would rather spin handset off to shareholders for free than sell to these guys, it would seem.
• Fourthly, and most importantly, the 2 big handset shows have been and gone: any big new model launches are going to ramp in 2H now. We now know everyone’s handset lineup for the next 6 months, and Moto’s is absolutely nowhere.

The problem is the handset market is one of the least forgiving sectors in technology, and there are precedents for this sort of thing. Of the 4 great original handset brands of the mid 1990s, Nokia, Ericsson, Siemens and Motorola, only two remain, and soon it will be one, Ericsson having ended up in JV with Sony and with less than 10% joint market share, and Siemens disappearing off the face of the planet, after briefly mating with BenQ and giving them a terminal social disease.

Handsets are about scale. You need to a) spend a lot of R&D and marketing in a highly intelligent and productive manner to continue a pipeline of product of sufficient depth and breadth that you can more or less guarantee a top selling handset all the time in the high, mid and low end, and you also need b) to sell enough phones to be able to buy enough components to get a bigger volume discount than the majority of your rivals, so as to have sufficient margin that you can spend enough on a). No prizes for seeing this is a self-reinforcing cycle. Once it is broken, it is a devil to get back. To make it worse, Moto has another problem, a negative brand image among handset dealers and retailers. They simply do not believe Moto can make a hit handset from here, and remember the huge inventory they were left with in Q1 2007 when Moto handsets stopped selling. Moto’s next handsets are going to have to be awfully good to be bought into by the channel.

Now this Icahn is supposed to be a canny old bird, but for the life of me I cannot think what he can do here, unless he is a highly talented handset designer. Were I him, I would try and engineer some sort of short squeeze in the stock so I could exit with some degree of intact honour, or try and do a deal with those weirdos at Videocon, and hope they’re serious and won’t notice when absolutely every single handset engineer jumps ship. But it will be hard, and any momentum he can generate will likely be offset by a barrage of negative short term newsflow as competitors take the rest of Moto’s 12% remaining handset market share at a rate of about 2-3% a quarter.

This is why I have reluctantly come to the conclusion that the most likely value attributable to Moto’s handset division is something less than zero, just as Siemens eventually ended up paying Taiwanese handset minnow BenQ EUR300m to take their loss-making handset division off their hands. As it was, Siemens handsets sucked up about EUR600m of BenQ’s money in restructuring and bankrupted BenQ. Now neither of them makes handsets. As of now, Moto handsets are likely heavily loss making, and it will be extremely difficult to shed costs as quickly as the division loses market share and revenues through the rest of this year. What is MOT stock worth if you took away the handset bit? What would remain would be the cable TV set top box-, and the government and enterprise mobility divisions. These are worth maybe $5-6 a share, I calculated recently.

From here poor Icahn (who started buying at $19), far from being the annoyance dogging Moto’s relatively new but apparently dastardly and cunning post Zander management, can become the rather useful patsy, because from here on in he gets to share the blame. Who knows, maybe he can even pull a rabbit out of the hat. If the handset unit lasts long enough for it to be spun off, maybe he can even take charge of it, leaving the current lot to look after the more profitable bits, and make some serious wonga, replacing their increasingly worthless MOT stock options with shiny new ones in Moto Newco.

Anyway, that’s what I think. If I am wrong I will hopefully change my mind quickly enough to make a lot of money owning the shares. Flexibility, Bento, is much more important than being right. Remember also, dear reader, not to sue poor Baruch if you go any short MOT and you get your face ripped off, because in no way does this blog post or any other on this site constitute investment advice.

Yo Bento. Explain this, you Apple fanboy. You know I am not a great fan of Apple, nor the iPhone as a business proposition. I think this handset venture will prove an expensive white elephant; I think it blow up Apple stock eventually. I vastly prefer Research in Motion and, until recently, Nokia, as investment ideas.

Everyone is telling me that you can’t get iPhones for love or money in Apple shops in the US, and that indeed, there’s a 5-7 day waitlist. But not to worry, there’s no component issue or supply cock-up, they are just destocking because of the imminent launch of the 3G iPhone. In the words of one inveterate Apple shill:

Folks, we’re in April. May is just around the corner. Same with June [sic]. Apple’s worldwide developer conference is on June 9 in San Francisco. It stands to reason that if a new 3G iPhone is on the way, then why in the world would Apple continue to manufacture and then stock older versions that would just collect dust on store shelves?

 So then today, basking in the warm glow of an absolutely killer RIMM quarter, calculating my vast profits, rubbing my hands and cackling, I see this: in Germany not only can you get an iPhone, absolutely no problem, but now it comes at a special price for you mein Freund. T-Mobile cut the price to 99 Euros with the top rate monthly contract of EUR89/month, and the handset goes up in price by EUR50 for every tariff plan below that.  

The article (which I won’t translate for you) says “there are only 2 possible explanations”, mentions the imminent 3G iPhone launch as one, and then points out what I have been saying all along: the demand has just not been there in Europe. So let’s get this straight: in the biggest, most loyal market for iPhones, in the most profitable channel where you don’t have any payaway and have no rivals in stock, Apple has organised it so there’s no actual stock. In the most sceptical market where demand is lowest, they have so many they need to discount. Hmm. Maybe Steve Jobs just wants Euros, like Jay-Z. Or maybe this handset business isn’t quite as easy as Apple thought. 

There are a few other issues:

• High end handsets in Europe seem to have fallen off a cliff somewhat, with high end specialist Sony-Ericsson warning, and Nokia has been very clearly cutting orders at chipset suppliers. When Apple launches its 3G version, it won’t be into a very buoyant market
• iPhone v.1.0 was actually launched at the very end of June last year, so was really only available in July. If v.2.0 follows the same timetable as seems likely it would be crazy to starve the channel at the start of April
• v.2.0 specs are NOT going to be too impressive, most notably in terms of the camera, which will stay 2.0mpxl, while high end competitors have standardised on 5mpxl, and are likely to go higher very soon
• Expectations are NOT reasonable. The Piper analyst was going on about 45m iPhone units across different price points being sold in 2009, which would be about the same volume as Nokia’s high end “Multimedia Computer” N-series range, and I have 33m handsets only for all of RIMM’s range in 2009, and they’ve been selling handsets for 10 years. These analysts are on drugs

 No, this is all grist to my anti-AAPL mill. Sell your stock Bento, it’s gone up a bit recently. You know Spinoza would be short.

Update: Oh my. How could I have missed this! Blodget, via Abnormal Returns. This sort of makes sense, at least is possible. An annualised run rate of 10m iPhones are being whisked out of JFK and unlocked in Russia, China, India and the Middle East, according to an anonymous blog commenter. It could at least partially explain the disconnect above.  However, while it would mean a lot less downside for near-term AAPL estimates (so long as I assume the 20k units/week number is right), it would still suck vs sell side estimates in out years. I would note they’re not likely to get the $15-20/month share of AT&T revenues off these Russian users. Moreover I am not sure how exactly it is possible to buy an iPhone without a contract in the US. I am sure it is possible, but maybe someone can explain it to me. Can you just walk out of an Apple Store with an iPhone sans AT&T contract? Would that not rather annoy AT&T?

Dear agony aunt Baruch,

So I meet this girl, she appears nice, and she suggests we meet again next week — she’ll send me the invite. I’m all eager to see more of her, until I see the invite:

No, I am not alone in the big city, and I am _never_ bored, and I already have it together, thanks for asking, and a life too. But above all I cringe at the prospect of being in the company of people who think this is a cool flyer, who think those people in the pictures are archetypes of interesting potential, erm, soul mates. Double cringe.

What I want, Baruch, is my own little circle of fellow collegiants, just like Spinoza had. What’s the chances of that you think, in a country where 99% of respondents in a recent Pew poll on religiosity say you must believe in God to be moral? Here’s the chart from the PDF, page 37:

It turns out my move from Sweden to Egypt was across the biggest God-gap on Earth. No wonder I’m feeling naughty. Maybe I should go meet and greet after all. What would Spinoza do, you think?

Dear Baruch,

So there I was, eight days into a two week trek through Ethiopia, staying in Axum in the North, when I had my breakdown. I just couldn’t go on like this, so removed from the internet for so long. I headed up the road, entered the nearest telecenter, and surfed.

That in itself was an adventure, what with a 56K modem and a spotty phone connection. Most web pages took actual minutes to download. But I persevered, and an hour later had paid $10 to a happy proprietor to print out 35 pages of interesting articles, which I took to the hotel to devour greedily.

The article that made most of an impression on me in that bunch was Steven Pinker’s The Moral Instinct, in the New York Times. It is a good overview of what psychologists, philosophers and evolutionary biologists have been working on recently to better understand the phenomenon of morality. In particular, Pinker talks about the work of a Jonathan Haidt, who counts five basic moral principles that all humans possess: “harm [avoidance], fairness, community (or group loyalty), authority and purity”. While we all subscribe to these principles, we can rank them differently, and a society’s overall moral compass is determined by how its members predominantly rank them.

The “Do unto others as you would have them do unto you” prescription that guides my morality is thus one that prioritizes harm avoidance and fairness over the others. But other societies, such as the one in Tigre that I found myself in as I read the article, might value a sense of community and authority more than I do.

I found this fascinating, as it offers an explanatory framework for comparing and contrasting the dominant moralities of the world’s different societies without requiring us to enter into the moral relativism trap. We can now presumably start to discuss which of these principles are the most useful in a world that is growing increasingly connected and technologically advanced. For example, I believe that blind obeisance to community, authority and purity is dangerous in a globalizing world (heck, it was dangerous in the first half of the last century too).

But is an absolute aversion to harm and a love of fairness also dangerous? Haidt’s talk at the just-ended TED argues that we should at least consider the possibility. Via Ethan Zuckerman’s notes:

Why should liberals care about these other three moral values? Because there’s a tendency for social order to decay. [Haidt] shows us the Hieronymus Bosch “Garden of Earthly Delights” – reading from left to right, we see purity, then sexual excess, then hell. This is true artistically, but it’s also true in terms of behavioral economics – research shows that cooperation in games delays without punishment. We may need authority and purity to maintain social order.

[I think he means that positive sum games don’t work if you don’t punish defectors.] It’s too soon for me to come out with conclusive statements about all this, but that is why I’m blogging it, so you can destroy any faulty logic. For example, I’m thinking that an obsession with purity makes sense in poorer societies, where contagious and infectious diseases are an ever-present danger, but that as we grow more well off, the usefulness of this impulse fades. And some of these moral precepts are surely there through a process of “natural” selection: More militant “patriotic” societies would tend to wipe out, over time, societies attaching less importance to militantly defending the community.

I’m sure Spinoza would have been intrigued by the notion of a taxonomy of moral principles. He came up with something similar, and also from the psychological perspective, but never really extended his work from the individual to the sphere of comparative sociology. At the same time, I’m not sure if Haidt’s taxonomy is complete. How would he explain mob rule, of the kind that tore Spinoza’s friends the de Witts to shreds? Community minus order minus authority? And is my strong belief in freedom of speech truly just a lack of regard for authority, or might it be a positive value, let’s call it tolerance? Might an affinity for rationality not be a moral precept? It’s the bedrock of the scientific method, after all. Your thoughts, Baruch?

So Baruch was having his introductory session with the new Head of Risk at his beloved employer, when he was posed the following question: “what would you do if 80% of the fund was in ‘Momentum’?”

“Well,” said Baruch, desperately trying to think of what the right answer was, “erm that would be good, wouldn’t it? I mean, ‘momentum’ would mean the stocks were going up, which would mean that all our picks were working, which would mean we were making money!” he concluded, with a cheerful, hopeful grin.

A chill settled over the assembled colleagues. A faint whistling sound was heard in the background. Tumbleweeds rolled through the room. Baruch’s more experienced colleague and Dear Leader leant forward. “Obviously,” he said, “Baruch is joking. In that case we would work immediately to reduce the preponderance of that style in the portfolio.”

Ooh Bento! Look at this! The meme started by Rebecca Goldstein propagates! A Broadway production about Spinoza’s trial! I wonder how long the run will last; is a broadway audience able to put up with an hour and a half of fairly dense, if suprisingly approachable, Spinozist philosophy? I hope so.

The NYT reviewer, one Charles Isherwood, does not endear himself to me. “You may have no idea what he’s going on about,” he writes of Spinoza’s philosophy, “Spinoza’s work is famously dense.” So evidently is this Isherwood person, who has clearly not been reading UB. But he manages to make the play sound pretty interesting.

Normally I abhor the theatre, which to me is all shouting in tights, as someone put it (but is of course not as bad as ballet). However, I would definitely see this. Bento, when you have finished tramping around Ethiopia, maybe we could meet up where it is playing and see it together! Or perhaps one of our readers, based in NY (if we have one), could see it and write a guest review for us.

Baruch, my work has taken me to Kuala Lumpur. Malaysia, I am surprised to learn, does not allow assemblies of more than two people without a permit. Human rights activists assembling to protest this violation of a basic human right are (ironically?) arrested. In another case, a Hindu activist is arrested for sedition for using the words “ethnic cleansing” to describe the policy the Malaysian government is pursuing towards Hindus. I have no idea whether that’s accurate or not (it’s probably not that bad), but whatever happened to the freedom to hold opinions not to the liking of the government in power?

But my wrath this morning is not really against the government; it is aimed squarely at that sorry excuse for a propaganda organ masquerading as a serious mainstream newspaper, the New Straits Times. Check out their front page this morning. It left me gasping:

Click to enlarge

Yes, it is the usual suspects, and they are protesting too much, and they’re doing it in the name of democracy no less! (The alleged bit policeman was of an undercover cop, we find. He bares his arm on page two, and I looked in vain for bite marks).

On page three, a full page ad for Lexus. Not that there was any danger of me ever buying a Lexus, but I can assure you that if we asked what Spinoza would do, he would be boycotting Lexus (and Honda, the other major multinational advertising in the New Straits Times).

Baruch, you may well already be aware of Charles Taylor’s book A Secular Age, which regards the perceived retreat of religion from the public sphere in the west as a regretful trend. Obviously, we do not (nor am I convinced that in the US this is the case). A great post by The Immanent Frame looks at how Taylor (mis-)characterizes Spinoza’s views when evaluating our hero’s contribution to secularism. Well worth a read for Spinoza aficionados out there.

Dear Baruch: So Gillian Gibbons, the British teacher in Sudan convicted to 15 days in prison for allowing her students to name a teddy bear “Mohammed” after one of the students, has been pardoned by Great Leader El-Bashir himself and is now safely home in the UK, reports the BBC.

She makes all the right comments, bravo, very sporting of her: “I am very sorry to leave Sudan. I had a fabulous time. It is a beautiful place and I had a chance to see some of the countryside. The Sudanese people I found to be extremely kind and generous and until this happened I only had a good experience. I wouldn’t like to put anyone off going to Sudan.”

Some commentators still don’t get it. The idea that you can “accidentally insult” something is just a bizarre notion to me. How can there be insult without intent? I am also worried that now, back in the West, there is a sense that a line will be drawn beyond which civil society cannot tread for the sake of interfaith respect or somesuch — as now we know that if we name inanimate objects after Mohammed we insult Islam, and so we have been warned, and any repeat of this insult would no longer be accidental, but intentional.

In Sudan, of course, calling teddy Mohammed may well result in lashes if you are lucky enough to avoid a mob of ultimi barbari. I just want to go on the record stating my continued support for the right to call teddy Mohammed in the UK, regardless of whether this can be construed as an insult or not. Irreverence, mockery and irony must remain tools of the free speech trade, especially when used in the service of lampooning irrational beliefs such as those of religious people. In other words, a Muslim Life of Brian must remain a viable option, should anyone choose to make one.

My notional Long RIMM Short AAPL trade from mid-September is still on, and I think it will make me figuratively rich. I was up 20% on this at one point, but only 4% or so now, my RIMMs having been the victim of a Piper Jaffray downgrade today, and are down almost 7% at the time of writing. Still, never say die, and I would now like to double up on my invisible AAPL short and add another offsetting imaginary long, this in Nokia. So I will be 2x short AAPL, and be 1x long RIMM and 1x long Nokia in my little make-believe world. 

There’s nothing like a good anti-Apple screed to scandalise people. Bento, you know I hate Apple smugness, and that I think Apple is an anti-Spinozist company. But I like to think my concerns for the stock are reality-based. The way things seem to be turning out, I think the iPhone will prove to be the best thing that has happened to Apple’s handset competitors in a long time. RIMM and Nokia will be the real winners. For Apple, iDoom follows as the iPod franchise withers, and the “halo effect” (people buy Macs because they like their iPods and iPhones) goes into reverse. Also, Apple is much more sensitive to a consumer recession in the US.

Now, this is not an actual trade I can do in my non-imaginary tech fund, as we are ”long only” and cannot go short. However I can underweight stocks in my benchmark, and in point of fact we are really mildly underweight AAPL, and mega overweight RIMM and Nokia. There is real money behind this, I am not just making odd noises.

Why do I, Baruch, flout conventional wisdom in such a way? On the advice of my lawyer, please note at this point that nothing in this post constitutes investment advice. He further suggests that anyone who invests money based on the insane jottings of some anonymous blogger deserves to lose their shirt anyway; are you completely stupid?.

You may remember that Apple cut prices on iPhone in the US by 1/3rd only a few weeks after launch; in Europe, the biggest and most dynamic handset market in the world, things look even worse. iPhone is now on sale in Germany via T-Mobile, France via Orange and the UK via O2-Telefonica respectively. But the high price tag with a 2 year contract, which altogether costs over GBP1,000 in hardware and contract, may be putting people off in markets where high spec handsets get sold with huge subsidy. As a result:

• iPhones are not selling in the UK. Carphone Warehouse staff complain that it is not doing as well as they hoped. Corroborating this, Vodafone UK told some of my broker contacts that they haven’t seen any dent in market shares since it went on sale. France may well be tracking with the UK, they tend to have the same handset habits.
• It is a hit in Germany, but not in a good way. Since a German judge agreed with Vodafone that it is morally and legally wrong to tie a phone to a single network, T-Mobile has been forced to sell iPhones SIM-unlocked for EUR999. Clever reseller Debitel is now offering you a EUR49/month 2 year contract on the iPhone you buy in a T-Mobile shop with a EUR600 rebate, similar to the T-Mobile offer. T-Mobile has to pay up to 30% of its revenue from iPhone to Apple, it is one of the business-model breakthroughs that makes the iPhone so interesting. But Debitel pays Apple nothing. This probably makes Apple very cross, and T-Mobile feel like schmucks.

This is all the more galling because, as is becoming clear,

• Apple is a false friend. An aggressive hegemonising swarm of a company, Apple is notoriously mean to its partners and suppliers. As Fake Steve Jobs puts it, “I’m a buddy fucker who screws my friends and allies just for kicks”. Many is the Taiwanese contract manufacturer I have checked out, hoping to benefit from some new Apple product ramp, only to see them killed on price and over-ording one quarter and no-ordering the next. EU operators are beginning to find this out; all are bemused as to how Apple promises to support then on iPhone and then goes and sells the iPod Touch (an iPhone without the phone but with Wifi for web browsing, which bypasses GSM and 3G networks altogether) in their geographies. Now there are even rumours Apple will buy wireless spectrum in the US, and become an operator itself! I have heard more horror stories but am sworn to secrecy. These operators have never, ever given away revenue share to a handset maker, and now they do so, look what happens! Nokia never treated them like this. . .

But that’s OK, because

• Nokia, RIMM, Samsung, LG and Uncle Tom Cobleigh and all will have touchscreen, multimedia browser models from Q1 next year. The handset market is a kleptocracy, where patent workarounds are rife and whatever new feature is adopted by one manufacturer gets trumped only 6 months later by a newer, better model from someone else which goes to 11. I have seen vaguely illicit photos of the new Nokias and they look great, all black and smooth and shiny and touchscreeny, some with retractable keyboards for texting (iPhone’s achilles heel). The Symbian OS which everyone knows and loves will be revamped to accomodate touch. The units will likely be heavily specced with GPS, 1meg 3G data download and probably 5 megapixel cameras with Zeiss lenses, while Apple is still trying to come out with 3G  — on which, by the way, they should have to pay 10-15% royalties to Qualcomm, Ericsson and Nokia. In 2008 Nokia alone will have 4-5 touchscreen models to Apple’s likely two or maybe three. These guys have scale and distribution to crush Apple in a high street shootout if they play their cards right.

The big picture here is that operators have been the kings of the wireless foodchains for some time now, blocking moves to mobile data with obtuse pricing because they want to protect their voice and texting margins, and because they’ve been able to grow revenues anyway from penetration and substitution from fixed voice. The iPhone exclusives seemed a foolproof way to gain share and regain some “cool” factor, but now they see they made a pact with Lucifer. They worry that Steve Jobs wants to claim the mobile internet for himself. The open-source business model of Google’s Android platform there to pick over the bones of what is left. They need to do what they can to regain control, or at least manage the transition from voice and text master to dumb data pipe with as much margin and dignity as they can muster.

For their part, the handset makers have always wanted to build the optimal mobile internet and voice appliance, but have always been discouraged by the lack of data-ready networks, and the expectation that operators would price data so high it would be pointless anyway. They may not have known exactly how to make the super-duper killer handset either, and they haven’t had the right user interface. Both operators and handsets have been on the verge of the mobile internet for some time, but fear, or something like it, has been holding them back.

The great thing about the iPhone –make no mistake, it is a historic product — is that it has shown everyone the way and has probably let the genie out of the bottle. The majority of operators who cannot carry the iPhone have a great need to have something to compete with it, something that they can attach data contracts to; right now the key alternative is RIMM. But even operators who do carry iPhone may want something in their shops that can weaken Apple’s negotiating position. Vodafone is even hinting that it will share revenues with operators like Nokia with their Ovi portal (no, not at all like Club Nokia, OK?) if it helps drive traffic.

For RIMM and Nokia, it probably means the broad sunlit uplands of a new product cycle no matter what happens, with more generous support of their traditional partners, the operators, and the prospect of high margin, multiple-expanding, recurring revenue. For Apple, it threatens a slide into irrelevance in the wireless space, before they even get started properly. Unless, of course, they can find an uncharacteristic humility or, perhaps a more plausible scenario, come up with a second generation iPhone that blows everyone away all over again.

Something for everyone who reads this blog, Bento, for the money-grubbing, “econoblog”-reading crowd, as well as the student of Spinoza. Get this: a book by a contemporary of Spinoza, a fellow Portuguese Jew no less, living in Amsterdam, writing about investing!

Published in 1688, Joseph de la Vega’s Confusion de Confusiones (here reprinted as a “B-side” to Extraordinary Popular Delusions) is a book in the now neglected dialogue format, between a know-it-all “shareholder”, who takes it upon himself to educate a naive “philosopher”, and a wily but uninitiated “merchant”, in the treacherous mysteries of the Amsterdam stockmarket of the time.

I mention it not just as an interesting curio, but also to make a serious point. Contra the otherwise reasonable and only-a-little-bit-wrong Richard Bookstaber, we are not living in a time of unprecedented innovation, sophistication and complexity in financial markets. We are living in a time of unprecedented market depth, breadth, and liquidity it is true, enabled by IT, globalisation, etc. This is not new, however; we have always been living in a time of unprecedented market depth, breadth, and liquidity. To say that we are more innovative and sophisticated in terms of the financial products we create — outside what is enabled by technology –than at anytime in the past seems to me to sell very short those who came before us, and who were able to devise working, complex financial products without the vast benefit of computers, but rather with nothing more than pen (quill?), paper, abaci, applied arithmetic and ink.

Indeed Taleb (hat tip to Felix) makes reference to de la Vega in his latest broadside against Black-Scholes-Merton, the “inventors” of the “formula” that “prices” options. His point is that high volumes of derivative products were traded and priced before the evil Gaussians got their hands on them, and that what we call the BSM model was in any case derived from someone else’s work. Options are and have always been priced by traders just like anything else, say Taleb and Haug: according to the laws of supply and demand, and you don’t need a clever formula for that. The options market in C17th Amsterdam was probably priced as “accurately” as our own. More so, perhaps, due to its pristine, pre Gaussian state.

I have my own theory about option pricing: option are priced by whatever the market makers think they can get away with, the dogs. I know this from bitter, recent experience, having probably made a few of the ones running the market in TomTom very rich indeed.

Certain features of the C17th Amsterdam stockmarkets struck me as interesting:

Firstly, these guys could only trade 2 stocks! The Dutch East India Company and its poorer sister the West India were the only listings on the exchange. The business of both was sending risky and expensive expeditions to far flung outposts to sell Dutch wares to locals, bringing back spices and exotic goods. Such revenue would be, as we would put it today, “lumpy”. East India stock was probably only the reserve of the rich, like that in Berkshire Hathaway today. The nominal value of a fully paid up shares was very high, over 17,000 Guilders in 1688. I have no idea how much this is in today’s money. 

The second astonishing thing is the sophistication of the market of the time. There were options or “opsies”, “ducaton” shares, and rampant short selling, and everyone seems to have been trading on margin. It is hard to learn much about opsies from de la Vega himself, but The market must have been reasonably liquid as the Shareholder urges the Philosopher, tempted but initially reluctant to dip his toe in the water, to restrict his trading only to opsies; at one point he suggests a straddle. Ducaton shares were paid up shares of East India broken up into more manageable chunks and priced by a man with a stick off the price of the main line of stock at month’s end. It was a popular retail product, it would seem, ”engaged in by both sexes, old men, women and children”, the latter betting their pocket money: eventually, it seems, it came to a sticky end.

One curious feature was the Appeal to Frederick: de la Vega doesn’t go into it in the detail I would like, but apparently it was a measure designed to discourage short-selling, as unpopular then with financially ignorant Germanic politicians as it is today, the eponymous Frederick being the Stadholder (Dutch head of state) of the 1630s. Apparently, if you had just taken a bath on the long side and were able to prove your counterparty had sold you shares short, in other words without owning them at the time, you could “appeal to Frederick”, and renege, ie you didn’t have to pay at all (settlement was like T -25 days or the 3rd wednesday every month or something). He doesn’t say how you could prove you had been sold short, or what would happen to those who had made the appeal – presumably they would not be trusted as a counterparty next time, and may even have had to stop trading. I guess it must have acted as a “get out of jail free” card, a last resort, something useful to deploy if you ever really really really got your face ripped off. I am pleased it is an idea that died out; it would have surely had the opposite effect intended by encouraging the most egregious plunging. And we get upset about the Greenspan or Bernanke Put! 

One of Bookstaber’s theses is that as we run “tightly correlated” markets, we are prone to periodic blowups. Well, de la Vega’s market seems to have had blowups much nastier than anything I have experienced. He tells of the recent “unheard of collapse in the price of the shares, which spelled such a deplorable crash in so short a time”. The market was caught leaning the wrong (bullish) way when a rumour that a recently arrived treasure-ship was carrying less gold than last year. ” The blow could not have been so severe if the contremine (bears) had not speculated on a rise too”. An immediate -20% whoosh down followed, followed by a further drop as the crafty bears, now short, spread rumours of an imminent war, despite the fact that “as things turned out, the importations. . . yielded an exceedingly fine result”. While East India recovered quickly, being down 50% must have been a nasty shock, and it apparently wiped out a lot of the ducaton traders in particular.

Some truths of investing seem eternal; for instance, de la Vega recognises the huge advantage better information and analysis begets:

If the wise speculator is eager to correspond with India  in order to learn . . . whether many ships are sailing to the motherland, and whether they are richly laden, particularly with spices, it has been shown that, although there are difficulties, information about them all can be obtained.

However, he realises that no matter how well you know the form of the horses in the race, yours can still fall over and get the botts in the final furlong

Even if we assume that the news is good and correct (something which one can only tentatively establish from private letters), that the reports come at the right time, and that they announce the happy arrival of the ships, nevertheless an untoward event occurring subsequent to the acquisition of the news, but before the conclusion of the business may destroy this splendour and contentment. For ships can sink inside a harbour and hopes be thwarted.

How true. Happens to me all the time.

What also seems to remain unchanged is the propensity of participants to solidify into camps of optimists and pessimists with idées fixes. De la Vega has a fairly florid, allusive and obscurant style, which can grate, but he still manages to skewer both groups rather neatly. Like today, the bulls, or liefhebberen (“lovers” in Dutch):

are like the giraffe which is scared by nothing, or like the magician the Elector of Cologne,who in his mirror made the ladies appear much more beautiful than they were in reality. They love everything, they praise everything, they exaggerate everything. And as Bias deceived the ambassador of Alyattes during the siege of Priene by showing him hills of sand covered in wheat. . . that such a wealthy town would never surrender because of famine, so the bulls make the public believe that their tricks signify wealth and that the crops grow on graves. When attacked by serpents, they, like the Indians, regard them as both a delicate and a delicous meal.

Those oafs from Sandford Bernstein who plague me with their chirrupy voicemails spring to mind. And of course that Jimmy Glassman, of “Dow 36,000″ fame. The bears, or “the contremine“, on the other hand — pay attention Buttonwood, this means you:

on the contrary are completely ruled by fear, trepidation, and nervousness. Rabbits become elephants, brawls in a tavern become rebellions, faint shadows appear to them as a sin of chaos. . . every dwarf will become a giant in the eyes of the bears.

De la Vega’s advice, which rings true to me, is to maintain a balance between cynicism and optimism:

If you wish to succeed in your enterprises, don’t drink continually from the well of the liefhebberen . . . but don’t drink always from the well of the contreminers either. . . In short, always speculate for a rise from natural inclination and on a fall only on occasion, because experience has shown that usually the bulls are victorious and the bears lose out

Finally, Confusion appeals to me because the author’s affection for the stockmarket shines through every sentence, even the ones where he is describing the nefarious shenanigans of speculators trying to fleece each other. No other job I know can offer the same variation, dynamism, intellectual stimulation, drama and excitement and sheer life, without being shot at, and this was clearly true in de la Vega’s day:

Among the plays which men perform in taking different parts in this magnificent world theatre, the greatest comedy is played at the exchange. There. . . the speculators excel in tricks, they do business and find excuses wherein hiding-places, concealment of facts, quarrels, provocations, mockery, idle talk, violent desires, collusion, artful deceptions, betrayals, cheatings, and even the tragic end are to be found.

Yeah, that’s still about right. What do you think, Bento?

Don’t quite know what to make of this (via Andrew Sullivan), Bento: “The way to win the war is to kill so many Moslems that they begin to question whether they can bear the mounting casualties.” — though note this is only a third-hand reading.

Perhaps he was just out to annoy as many people as possible, in the old game of “bait the lefty”. Seems to have succeeded.