Why did dot com venture capitalists invest money in companies that had no clear plans to make a profit? Why did banks and homebuyers assume that real estate prices would continue to increase ad infinitum? Why do people believe that you can lose weight without eating less or exercising? Why do fools rush in where angels fear to tread?
I can't agree with some of this. For one thing, hedge fund managers certainly do look at systemic risk. And after LTCM, everybody understood the dangers of over-refinement of models.
I think the bottom line has been simple greed and callousness. I know people, personally, who put these mortgage strips together, knowing perfectly well that the risks were being misstated. I had some experience with this at other levels as well, both at the point of securitization of a trading operation and at the point of sale. At the point of sale, the buyer would often be somebody who was totally unqualified to assess the risks of what he was buying into. Of course the sellers knew that too.
The managers of a state pension funds or school endowments are often political appointments or bureaucrats. They know almost nothing. They personally make $40 - $120k/year and yet control assets sometimes in the billions. You sit somebody like that down with a high powered hedge fund manager or banker, who sweet talks them and makes them feel important, tells them how SAFE this investment is, how SOPHISTICATED, blah blah blah. They can't resist. To say no in that situation, when everybody else seems to have found the golden goose, is very difficult indeed. To start, they'd have to admit have no idea what any of it means, and you're just not going to find many people willing to do that. If you call it "optimistic bias" or "overconfidence bias", to me that sounds like a false clinical nomenclature to describe simple foolishness.
In other words, fools rush in where angels fear to tread because they are fools! And in this case because the bankers, who are not fools, know how to target fools as customers.
Remember the bankers and fund managers coming out of this fine. No matter what happens now, nobody can take away the tens or hundreds of millions they made already, mostly as bonuses and much of it in off-shore accounts. Nothing could be sweeter for them then a period of devastation, because it'll let them come back in as value investors later on.
McArdle's article has a lot of valid points but I think it illustrates what's wrong with how we look at things. Instead of seeing Hubris and Greed, classic forms of human psychological distortion that were certainly on display here and have always been understood to be the root causes of these sorts of events, we're seeing kinder gentler maladies that make victims out of even the perps themselves.
The suggestion is that it's nobody's fault. It's just human nature to screw up this way. But that's not the reality and it's certainly not the world that wall street itself sees. Wall street sees a Darwinian world of predators and pray. Guess which one you are?
At the point of sale, the buyer would often be somebody who was totally unqualified to assess the risks of what he was buying into. Of course the sellers knew that too.
But everyone, the buyers, the sellers, the greedy mooks on wall street and the clueless investors, believed that house prices would increase indefinitely. House prices can't go up ad infinitum, but everyone believed that they would. How can millions of people believe something that can't logically be true? That's the question.
Maybe the Wall-Street types did know that prices would have to go down at some point, and they knew their fall would be cushioned with corporate welfare, but bankers are a cautious lot, and they will do anything to avoid any uncertainty. They seemed to believe that the market could function this way forever.
I know something about tulipmania-style greed. I worked in Silicon Valley during the '90's, and my husband worked for a company whose stock value rose exponentially in a few years. Humble geeks were living a real rock-star lifestyle. Okay, we didn't trash hotels, but office parties had the champagne fountains, the ice sculptures, the lunatic decadence. Most humble geeks left those parties early, leaving the vomiting and maybe some orgies up to marketing and sales. It was a trip. Most of us did know that stock prices permanently fall, and we were poised to sell just before the fall, but it's hard to guess when 'up' will turn to 'down'
I didn't go into hedge funds, because I didn't understand how they worked, but I was at one point thinking of setting up my own charitable foundation. At that point, the main focus isn't on making fast money, it's on growing and nurturing what you have. The truly greedy don't want to be like roller coaster riders, they want to be more like gardeners.
I used to think like you. That ended when I had a short conversation with someone I knew who ran a hedge fund.
She said 'What is a warrior?'. I said, 'A warrior is a protector. someone who manages risks with an eye to avoiding a war, or winning it if one comes'. She said, 'No. a warrior is a berserker. your warrior is a fantasy for children'.
She was right. Most warriors in history have not been noble protectors, but conquerors. The greedy are not gardeners, but barn stormers. They may pose as gardeners, and Buffet is especially good at giving that impression of himself, but they are predators through and through.
Nobody with a brain, and fund managers are nothing if not smart, thought that home price appreciation was sustainable.
The fund managers knew what they were doing. Their rationale makes sense.
The investors were lied to. They knew about real estate bear markets. The endless decline in Japanese real estate in the 90s is one of the iconic features of late 20th century finance. But they
1) believed they were securing their investments with AAA debt, which was a lie, and
2) were using securitization as a cover for putting their money in far more risky trades than was in any way appropriate.
Booming commodity markets, raging emerging stock markets from India to Mexico to Israel ... Sophisticated computerized trading doing everything from arbitrage to geeked out prediction methodologies, most of which work a little bit but most of all promise to break the correlations that plague money managers who are still thinking in terms of asset/geo diversification and building portfolios that neutralize correlation on paper. blah blah blah.
The securitization was just a cover, discovering that the ratings were false would have required effort, and the people who's job is was to make that effort only knew how to make a SHOW of oversight with their pointless and complicated forms to fill out and lots of ridiculous paperwork.
Basically, everybody but the wolf was faking it, and the sheep thought the wolf was on their side.
----
Megan's article is good as a general bubble primer. Tulipmania. And bubbles are not in themselves bad things. They fund research. It the market's way of probing the unknown and in the long term it leads to growth.
But this wasn't just a bubble, and definitely not just a real estate bubble. Notice that commodity markets are also pulling back. Oil didn't come down because of anything to do with oil, but because _that_ bubble was being sustained by _this_ bubble.
In pure bubble terms, this is what one would expect at the end of a debt cycle (so called supercycle). In itself, not evil or bad. Everything has two sides.
Basically, everybody but the wolf was faking it, and the sheep thought the wolf was on their side.
That's a good explanation, and it does fit. The sheep knew that a fall was coming, but they thought they were special, and they'd be safe. I'm very glad that I never invested in anything that was too complicated to understand. Anything beyond stocks and bonds was (is) over my head.
I'd guess that the new bubble is forming out in Silicon Valley again, where they're developing alternate energy & green technologies. It looks pretty hopeful, except for the fact that nutters like Bill Joy and Al Gore are involved.
You're gonna do great. If you managed to hold on to cash you can now hook up with a sober, intelligent value oriented manager and load up on good stuff. Also, strength in secondary markets (India et al) is real. I believe this dip is buyable.
In a day or two you'll be able to buy Ford for $1. One Dollar!
-- disclaimer ---
this is not a solicitation to buy or sell securities. blah blah blah. .....
Just between you and me, since I'm sure nobody else is reading this -
The next bubble won't be green. That's a political agenda.
The next bubble - let's call it the next big growth story - will be in manufacturing. There are a lot of forces pointing that way.
1) transportation costs are increasingly becoming an obstacle to the current model, where everything is made in cheap backwards countries and shipped to various destinations. The normalization of wages in those countries also dooms the model.
2) new technologies, from sewing automation to micro-fabrication systems will fundamentally change the way things are made, quite soon. A manufacturing revolution will not be a new age of big factories, but of small ones. The mega success stories will be the companies that make the tools rather than the companies that make the consumer items, just as in software the companies that make the operating systems and platforms are the big winners.
So, localized manufacturing, addressing the particular needs and tastes of various locales, will fragment and democratize the physical world in the same way the internet has fragmented and democratized information. The current cleansing in the financial sector will make way for a new finance that understand these trends and serves them effectively.
That could mean, for example, that a company like Ford will only make engines and unibodies, while local companies, buying those as kits, make all the parts needed to build the perfect Arizona vehicle, or the perfect Alaska vehicle, etc. In this way Ford would transform itself into a platform maker, selling the physical equivalent of the OS.
fwiw it's not clear that American companies will lead this.
Thanks for the info on new trends in manufacturing. The micro-fabrication idea is especially interesting.
Specifically 'green' technologies will probably fall by the wayside when the fad has worn itself out, but there is real interest in alternative energy sources. Oil companies are acknowledging that we will need alternates to oil in the next few decades. Since it takes decades to develop alternatives, some people are starting now.
Of course, government interference is a distraction. A few years ago, I was talking to a friend about alternate energy technologies. He suggested investing in companies that supplied corn for ethanol. I didn't listen, since ethanol is not the most efficient source of fuel out there and I couldn't imagine how it could make money. I didn't think about the government. The gov. is funding ethanol, and ethanol related investments have probably done pretty well.
Well, adam, that link caused all kinds of alarms to go off in my security system, so I'll have to pass. But I do think you could be right about the changes in manufacturing..
If Japan and Germany produce cars that have high ratings in reliability in Consumer Reports, why can't American car companies?
The problem with American car manufacturers is that they use inferior designs, inferior materials, and produce inferior cars.
I'm sure engineers, designers, workers would LOVE to design and build great cars, but Management holds the company back - to maximize profit over quality.
No American should Buy American just because the company is American. If Americans buy more foreign cars instead of American cars, it means that the market has concluded that foreign cars are better.
Seeing that their market share is dropping, American Auto companies should look at what they are doing, and change to meet the wants of the market.
a chartbook app. a way to review charts throughout the market, organized by sector, exchange or by making personal chartbooks, with a trader's diary attached.
still very beta. hardly implemented at all. but there's enough to make it quite usable and enough to serve it's core function, which is to help traders find ideas. mid to long term orientation.
I've been a trader for a long time. I know exactly what I want, and what google, yahoo and marketwatch aren't giving me. so I'm doing it myself. planning to make it some kind of social app as well, but the details are not worked out.
eddie I agree with you totally. if chrysler had made cars instead of caricatures of cars, and put their efforts into quality and offering real value, they might have survived.
I can't agree with some of this. For one thing, hedge fund managers certainly do look at systemic risk. And after LTCM, everybody understood the dangers of over-refinement of models.
I think the bottom line has been simple greed and callousness. I know people, personally, who put these mortgage strips together, knowing perfectly well that the risks were being misstated. I had some experience with this at other levels as well, both at the point of securitization of a trading operation and at the point of sale. At the point of sale, the buyer would often be somebody who was totally unqualified to assess the risks of what he was buying into. Of course the sellers knew that too.
The managers of a state pension funds or school endowments are often political appointments or bureaucrats. They know almost nothing. They personally make $40 - $120k/year and yet control assets sometimes in the billions. You sit somebody like that down with a high powered hedge fund manager or banker, who sweet talks them and makes them feel important, tells them how SAFE this investment is, how SOPHISTICATED, blah blah blah. They can't resist. To say no in that situation, when everybody else seems to have found the golden goose, is very difficult indeed. To start, they'd have to admit have no idea what any of it means, and you're just not going to find many people willing to do that. If you call it "optimistic bias" or "overconfidence bias", to me that sounds like a false clinical nomenclature to describe simple foolishness.
In other words, fools rush in where angels fear to tread because they are fools! And in this case because the bankers, who are not fools, know how to target fools as customers.
Remember the bankers and fund managers coming out of this fine. No matter what happens now, nobody can take away the tens or hundreds of millions they made already, mostly as bonuses and much of it in off-shore accounts. Nothing could be sweeter for them then a period of devastation, because it'll let them come back in as value investors later on.
McArdle's article has a lot of valid points but I think it illustrates what's wrong with how we look at things. Instead of seeing Hubris and Greed, classic forms of human psychological distortion that were certainly on display here and have always been understood to be the root causes of these sorts of events, we're seeing kinder gentler maladies that make victims out of even the perps themselves.
The suggestion is that it's nobody's fault. It's just human nature to screw up this way. But that's not the reality and it's certainly not the world that wall street itself sees. Wall street sees a Darwinian world of predators and pray. Guess which one you are?
It sounds like the old saw "Nobody ever got fired buying IBM".
If Lehman Brothers said it's OK, it must be OK.
At the point of sale, the buyer would often be somebody who was totally unqualified to assess the risks of what he was buying into. Of course the sellers knew that too.
But everyone, the buyers, the sellers, the greedy mooks on wall street and the clueless investors, believed that house prices would increase indefinitely. House prices can't go up ad infinitum, but everyone believed that they would. How can millions of people believe something that can't logically be true? That's the question.
Maybe the Wall-Street types did know that prices would have to go down at some point, and they knew their fall would be cushioned with corporate welfare, but bankers are a cautious lot, and they will do anything to avoid any uncertainty. They seemed to believe that the market could function this way forever.
I know something about tulipmania-style greed. I worked in Silicon Valley during the '90's, and my husband worked for a company whose stock value rose exponentially in a few years. Humble geeks were living a real rock-star lifestyle. Okay, we didn't trash hotels, but office parties had the champagne fountains, the ice sculptures, the lunatic decadence. Most humble geeks left those parties early, leaving the vomiting and maybe some orgies up to marketing and sales. It was a trip. Most of us did know that stock prices permanently fall, and we were poised to sell just before the fall, but it's hard to guess when 'up' will turn to 'down'
I didn't go into hedge funds, because I didn't understand how they worked, but I was at one point thinking of setting up my own charitable foundation. At that point, the main focus isn't on making fast money, it's on growing and nurturing what you have. The truly greedy don't want to be like roller coaster riders, they want to be more like gardeners.
That's why I don't think they saw the risk.
Mary,
I used to think like you. That ended when I had a short conversation with someone I knew who ran a hedge fund.
She said 'What is a warrior?'. I said, 'A warrior is a protector. someone who manages risks with an eye to avoiding a war, or winning it if one comes'. She said, 'No. a warrior is a berserker. your warrior is a fantasy for children'.
She was right. Most warriors in history have not been noble protectors, but conquerors. The greedy are not gardeners, but barn stormers. They may pose as gardeners, and Buffet is especially good at giving that impression of himself, but they are predators through and through.
Nobody with a brain, and fund managers are nothing if not smart, thought that home price appreciation was sustainable.
The fund managers knew what they were doing. Their rationale makes sense.
The investors were lied to. They knew about real estate bear markets. The endless decline in Japanese real estate in the 90s is one of the iconic features of late 20th century finance. But they
1) believed they were securing their investments with AAA debt, which was a lie, and
2) were using securitization as a cover for putting their money in far more risky trades than was in any way appropriate.
Booming commodity markets, raging emerging stock markets from India to Mexico to Israel ... Sophisticated computerized trading doing everything from arbitrage to geeked out prediction methodologies, most of which work a little bit but most of all promise to break the correlations that plague money managers who are still thinking in terms of asset/geo diversification and building portfolios that neutralize correlation on paper. blah blah blah.
The securitization was just a cover, discovering that the ratings were false would have required effort, and the people who's job is was to make that effort only knew how to make a SHOW of oversight with their pointless and complicated forms to fill out and lots of ridiculous paperwork.
Basically, everybody but the wolf was faking it, and the sheep thought the wolf was on their side.
----
Megan's article is good as a general bubble primer. Tulipmania. And bubbles are not in themselves bad things. They fund research. It the market's way of probing the unknown and in the long term it leads to growth.
But this wasn't just a bubble, and definitely not just a real estate bubble. Notice that commodity markets are also pulling back. Oil didn't come down because of anything to do with oil, but because _that_ bubble was being sustained by _this_ bubble.
In pure bubble terms, this is what one would expect at the end of a debt cycle (so called supercycle). In itself, not evil or bad. Everything has two sides.
Basically, everybody but the wolf was faking it, and the sheep thought the wolf was on their side.
That's a good explanation, and it does fit. The sheep knew that a fall was coming, but they thought they were special, and they'd be safe. I'm very glad that I never invested in anything that was too complicated to understand. Anything beyond stocks and bonds was (is) over my head.
I'd guess that the new bubble is forming out in Silicon Valley again, where they're developing alternate energy & green technologies. It looks pretty hopeful, except for the fact that nutters like Bill Joy and Al Gore are involved.
You're gonna do great. If you managed to hold on to cash you can now hook up with a sober, intelligent value oriented manager and load up on good stuff. Also, strength in secondary markets (India et al) is real. I believe this dip is buyable.
In a day or two you'll be able to buy Ford for $1. One Dollar!
-- disclaimer ---
this is not a solicitation to buy or sell securities. blah blah blah. .....
In a day or two you'll be able to buy Ford for $1. One Dollar!
That's probably true. I'm also looking at Toyota - and places like India and Brazil. But just looking..
-- disclaimer ---
this is not a solicitation to buy or sell securities. blah blah blah. .....
Just between you and me, since I'm sure nobody else is reading this -
The next bubble won't be green. That's a political agenda.
The next bubble - let's call it the next big growth story - will be in manufacturing. There are a lot of forces pointing that way.
1) transportation costs are increasingly becoming an obstacle to the current model, where everything is made in cheap backwards countries and shipped to various destinations. The normalization of wages in those countries also dooms the model.
2) new technologies, from sewing automation to micro-fabrication systems will fundamentally change the way things are made, quite soon. A manufacturing revolution will not be a new age of big factories, but of small ones. The mega success stories will be the companies that make the tools rather than the companies that make the consumer items, just as in software the companies that make the operating systems and platforms are the big winners.
So, localized manufacturing, addressing the particular needs and tastes of various locales, will fragment and democratize the physical world in the same way the internet has fragmented and democratized information. The current cleansing in the financial sector will make way for a new finance that understand these trends and serves them effectively.
That could mean, for example, that a company like Ford will only make engines and unibodies, while local companies, buying those as kits, make all the parts needed to build the perfect Arizona vehicle, or the perfect Alaska vehicle, etc. In this way Ford would transform itself into a platform maker, selling the physical equivalent of the OS.
fwiw it's not clear that American companies will lead this.
Thanks for the info on new trends in manufacturing. The micro-fabrication idea is especially interesting.
Specifically 'green' technologies will probably fall by the wayside when the fad has worn itself out, but there is real interest in alternative energy sources. Oil companies are acknowledging that we will need alternates to oil in the next few decades. Since it takes decades to develop alternatives, some people are starting now.
Of course, government interference is a distraction. A few years ago, I was talking to a friend about alternate energy technologies. He suggested investing in companies that supplied corn for ethanol. I didn't listen, since ethanol is not the most efficient source of fuel out there and I couldn't imagine how it could make money. I didn't think about the government. The gov. is funding ethanol, and ethanol related investments have probably done pretty well.
At these stock prices, what if Bill Gates or Steve Jobs were to buy GM or Ford?
Streamline, modernize American car companies.
Mary,
I'm working on a tool that could be helpful to you. If you're interested I can set up an account for you as a beta tester.
sthomes [[ at ]] vignetteco [[ dot ]] com
Eddie,
That's good thinking. GM and Chrysler are talking about merging, but there's no sign they're fundamentally changing their thinking.
How can I get them to hire me? :)
Well, adam, that link caused all kinds of alarms to go off in my security system, so I'll have to pass. But I do think you could be right about the changes in manufacturing..
If Japan and Germany produce cars that have high ratings in reliability in Consumer Reports, why can't American car companies?
The problem with American car manufacturers is that they use inferior designs, inferior materials, and produce inferior cars.
I'm sure engineers, designers, workers would LOVE to design and build great cars, but Management holds the company back - to maximize profit over quality.
No American should Buy American just because the company is American. If Americans buy more foreign cars instead of American cars, it means that the market has concluded that foreign cars are better.
Seeing that their market share is dropping, American Auto companies should look at what they are doing, and change to meet the wants of the market.
Oh, ok, it wasn't the link that caused my security to go nuts. It was another problem.
it was an email address. the invitation is open.
Hi Adam - I know, I was talking about vignetteco.com.
What type of program are you working on?
a chartbook app. a way to review charts throughout the market, organized by sector, exchange or by making personal chartbooks, with a trader's diary attached.
still very beta. hardly implemented at all. but there's enough to make it quite usable and enough to serve it's core function, which is to help traders find ideas. mid to long term orientation.
I've been a trader for a long time. I know exactly what I want, and what google, yahoo and marketwatch aren't giving me. so I'm doing it myself. planning to make it some kind of social app as well, but the details are not worked out.
eddie I agree with you totally. if chrysler had made cars instead of caricatures of cars, and put their efforts into quality and offering real value, they might have survived.
in the "link builders bible 2010".