Financial Impacts of Foreign Events

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Events around the world have an impact on financial policy, investment strategy, trade and commerce, and each of these has an impact on the others. It is time to do another review of global events and their financial impact. This article contains both analysis and my own editorial opinion. It does not necessarily reflect the opinions of whoever publishes it.

One issue that has attracted a great deal of interest in news reports is the issue of internal and external security threats to Europe. Much of this has to do with the mass immigration of refugees from the tumult in the Middle East, and Islamist Jihadist extremists in their midst. However, in my opinion, the greatest threat at present is the deepening fragmentation within Europe of public opinion camps – and policymaking camps – over policies and policy-making of the European Union. Three factors are influencing this: the rising power of Germany within the EU; the apparent inability of the regions minorities – and particularly the recently-arrived Islamic minorities – to integrate into European society; and the threat of terrorism, largely from Islamist Jihadist cells within the immigrant population. These threaten to stall the region’s efforts at greater integration and enhanced common security. External factors that are affecting this are: the collapse of previously stable states in North Africa and the Middle East into failed states; the retreat of the United States from the world stage, both militarily and from its historic leadership role; and the resurgence of Russian State military ambitions and its apparent efforts to resume the empire-building of Peter the Great. Middle Eastern events have produced the flood of refugees that provides internal instability; the retreat of the United States leads to increased instability world-wide, and a fragmented Europe has difficulty in dealing with this without US leadership; and Russia provides threats to the eastern frontiers of Europe. Unfortunately, all of these factors are likely to intensify in the near future rather than to wane.

Europe is beset by some of its most serious threats internally since the collapse of the Soviet Union. The European Union has failed to achieve the unity of purpose and policy needed to handle the complex issues it faces. National policies tend to take precedent over pan-European issues in the stronger European countries. Economic uncertainties and failures have awoken the struggles between left and right that had remained largely submerged when Europe was facing the threat of Soviet invasion. Ethnic and religious minorities that remained relatively quiet during the Cold War are now asserting themselves, in large part either in opposition to, or emboldened by, the influx of Muslims. This threatens to balkanize Europe politically, even as national boundaries and states remain as they were. High levels of joblessness and financial insecurity among many of these minority populations produce demands that the State “do something.” Germany, Sweden, Greece, France, Italy, and Belgium are particularly affected by this. Recent terrorist attacks in France and Belgium have highlighted the problems resulting from uncontrolled immigration and the failure to screen out dangerous immigrants from those simply seeking a better life.

Externally, the situation is worsening as well. The unprecedented period of peace along the eastern periphery that followed the ending of the wars in the former Yugoslavia enabled Europe and the European nations to focus on internal issues, downsize their militaries, and further subsidize and adjust their social subsidies. The resulting decrease in levels of military, security and intelligence activity paved the way not only for internal attacks by terrorists but for Russia’s expansionist imperialism. When Europe needs her most, the United States is “leading from behind,” which means not leading. There are even calls by US politicians to reconsider whether NATO is even useful.

Internal and external political and security risks to Europe and its nations are at their highest levels in decades, and rising. The resulting instability depresses legitimate trade, encourages smuggling, increases illegal arms trade and distribution, and produces demands on central banks to “do something.” From the standpoint of central banks, there is little that can be done financially without cooperation from the political sphere. Trade and commerce need these things in order to prosper: the rule of law; stable currency; lack of barriers to trade; low levels of regulation; societal security and prosperity; and government policy that aids all of these. These things can be summed up as small government, economic freedom, and stable currency. Many politicians (and their followers), however, are headed left, which will only make the situation worse. A central bank can only do so much. All it can do is to stabilize its currency. This causes profligate governments to fail financially, and leftist politicians don’t like that. A resurgence of capitalism is needed, and the world needs the US to lead that resurgence.

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Will Wall Street ever be fixed?

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When it comes to the financial industry, there is a major fallacy that exists: that Wall Street deals only with elite, rich people who deserve to lose their money, and that Mom and Pop are not directly affected by the antics and conflicted practices in the industry.

This couldn’t be farther from the truth. Even when Wall Street CEOs are hauled in front of Congress—as Lloyd Blankfein was amid the SEC fraud charges against Goldman Sachs, and as Jamie Dimon was after JPMorgan Chase lost $6 billion on bad trades—they try to make this argument. “We are all big boys.” “We are all sophisticated institutional investors who know exactly what we are doing.”

But stop and think about this for a second. Whose money is being played with anyway?

Look at just the recent scandals: Who gets affected when a county in Alabama trades a structured derivative with JPMorgan that goes sour, and brings the county closer to bankruptcy? Who gets impacted when a government such as Greece or Italy trades derivatives with Goldman Sachs or JPMorgan to cover up its debt and kick its problems down the road? Who ultimately loses when Morgan Stanley misprices the Facebook IPO and mutual funds lose billions of dollars of retirement and 401(k) savings?

Mom and Pop, that’s who.

Whose lives are affected when a sovereign entity such as Libya loses a billion dollars of its own people’s money betting on derivatives? Who loses when Barclays and other major banks rig the London Interbank Offered Rate (LIBOR), the interest rate that underpins trillions of dollars in student loans and mortgages? Whose savings evaporate when JPMorgan brokers sell underperforming mutual funds to their clients to generate more fees?

The list goes on and on and on. All this ultimately affects the citizens, teachers, pensioners, and retirees whose destinies are tied to these organizations that are managing their money. Mom and Pop are more affected by the bad behavior on Wall Street than anyone else—it is their money on the line. But how does Wall Street make so much money, anyway? Surely there are times when they must lose? Don’t count on it. Think about this:

There are certain quarters when a Wall Street bank makes money every single day of that quarter. Yes: ninety days in a row. One hundred percent of the time, it generates a profit. How is this even possible?

Two words: asymmetric information. The playing field is not even. The bank can see what every client in the marketplace is doing and therefore knows more than everyone else. If the casino could always see your cards, and sometimes even decided what cards to give you, would you expect it ever to lose?

Here’s how it happens: Because Wall Street is facilitating business for the smartest hedge funds, mutual funds, pension funds, sovereign wealth funds, and corporations in the world, it knows who is on every side of a trade. It can effectively see everyone’s cards. Therefore, it can bet smarter with its own money.

Worse, if Wall Street can persuade you to trade a custom-made structured derivative that serves the firm’s needs, it is as if your cards have been predetermined. Certainly not much scope for the casino to lose in this scenario.

Now consider where the gambling takes place. In a real casino, it is on a casino floor with cameras all over the place. Even if you don’t like Las Vegas gambling, it is regulated. On Wall Street, the gambling can be moved to a darkened room where nothing is recorded, observed, or tracked. With opaque over-the-counter derivatives, there are no cameras. In this darkened, smoke-filled room, there is maximum temptation to try to exploit clients and conflicts of interest. And this temptation and lack of transparency are what led to the global financial crisis in 2008.

Finally, think about the dealer. Your salesperson or trader might seem objective—like a friendly casino dealer who jokes around and is on your side—but there are times when he or she might be trying to steer you toward the thing that makes the casino the most money. If you were playing blackjack and you had 19, would you ever expect the dealer to tell you to hit? Sometimes, on Wall Street, they urge you to take another card.

Ironically, real casinos may actually be better regulated than Wall Street banks. The SEC and the U.S. Commodity Futures Trading Commission (CFTC) were not able to stop what led up to the crisis, and are still struggling to put appropriate measures in place to limit the conflicts I’ve described. With all these advantages, how can Wall Street ever lose? Even real casinos don’t make money every single day of the quarter.

As proof of this information advantage: Why do Goldman Sachs and JPMorgan Chase mutual funds —housed in their respective asset-management divisions on the other side of the Chinese wall—underperform their peers, as measured by Morningstar? Why do some hotshot traders from banks such as Goldman Sachs, Morgan Stanley, and JPMorgan go out on their own, start their own hedge funds, and flounder? Because they no longer have the advantage of being able to see everyone’s cards. No more asymmetric information, no more batting a thousand, when you are out on your own without unfair advantage.

The reforms Wall Street is pushing back the hardest against are in the areas it knows are the most profitable: opaque derivatives and proprietary trading. But these also happen to be the areas that are most dangerous to the stability of the financial system. The Wall Street lobby has already spent more than $300 million trying to kill measures to regulate derivatives (so that they are brought into the light of day and become transparent on exchanges), and to eliminate proprietary trading so banks can no longer bet against their customers using their information advantage as prescribed by the Volcker Rule. Wall Street hates transparency and will fight as hard as possible to prevent it from coming.

I am a hardcore capitalist. I am all for people getting filthy rich and for businesses making as much money as possible. It is the fuel that keeps our economy growing and wealth should be an aspiration to motivate entrepreneurs everywhere. But I want it to be done fairly. I just don’t believe that capitalism is embedded with some kind of assumption that ethical boundaries should be pushed as far as possible, and that deceiving your customers is necessary to generate maximum returns.

I believe in a business model that is long-term-oriented, where there is an intrinsic fiduciary responsibility to do right by your clients so they will keep coming back to you. Not only is it the right thing to do, but it is also better for business. You will make just as much money—but you will make it more slowly and steadily and transparently. This should be good for shareholders, too, who like a predictable revenue stream and a steadier book of business. Today’s take-the-money-and-run model is just not responsible, or sustainable.

How can it be that years after the crisis nothing has been done to fix any of this? Don’t we live in the greatest democracy in the world? People should be outraged that there is no political will to fix a problem that hurts everyone, enriches a super minority that has learned to rig the game, and could threaten the world with another calamity in a few years’ time.

People know that there is something deeply wrong with the system, but very few can put their finger on what the problem is. After the crash in 1929, the U.S. Senate conducted the Pecora Hearings, to investigate the causes of the crash. This inquiry led to real reforms that held banks accountable and eliminated the abusive practices that had caused the stock market crash. This was followed by decades of calm in the financial system.

If I ever achieve anything in my financial activism, I hope it will be to empower some people with enough understanding to call their congressman, congresswoman, or senator and ask this question: Why don’t you have the guts to do the same thing?

Share your thoughts…

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Is Greed Good for the Goal of Improving Society?

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Remember the infamous quote of villain financier Gordon Gekko in the movie Wall Street…back in 1987?

“I am not a destroyer of companies. I am a liberator of them! The point is, ladies and gentleman, that greed–for lack of a better word–is good. Greed is right. Greed works. Greed clarifies, cuts through, and captures the essence of the evolutionary spirit. Greed, in all of its forms–greed for life, for money, for love, knowledge–has marked the upward surge of mankind. And greed–you mark my words–will not only save Teldar Paper, but that other malfunctioning corporation called the USA”.

I guess in this context, Gekko is using “greed” to define the constant desire for more, whether someone else has it or not.  He likens it to an evolutionary drive, that the need for more makes us figure out how to get it faster, more efficiently, and ultimately, easier.  And that this, in turn, results in benefits to everyone.

This is clearly a very particular definition of greed, and if you look at it from that perspective, it is indeed “good” in that it is a simple motivator that derives benefits beyond the individual actor.  In essence, it’s an “ends justify the means” argument.

Though this was quoted over two decades ago in one of the most controversial Hollywood movies ever, it resonates more than ever today… The only difference is that it is occurring at a much bigger scale.

So what do you make of it? Is greed good?

I guess as with any question like this, we need to start with the word “good.”

It is a fault of our language that “good” is most often used in an unqualified way. This is a symptom of our natural preference for dualistic thought. So what does unqualified ‘good’ mean?

Is greed good if your goal is monetary gain?  Absolutely, it’s the prime motivator.  Is greed good if your goal is running a successful soup kitchen?  Probably not.

Is greed “good” for the goal of living a happy life?  It could be, because it motivates you to improve your life in very real ways; on the other hand, there’s a fair amount of research that indicates over-attachment to material belongings draws your focus from other aspects of life that pay higher happiness dividends (personal relationships, self-improvement, etc).

Is greed “good” for the goal of improving society?  I doubt it.  I suppose it could motivate you to amass more resources, which you could then apply to humanitarian causes, but a very greedy person would probably also be unlikely to part with it.

Another way to use the unqualified “good” is as a sort of estimated sum of how effective greed is for helping you meet each of your goals, weighted by priority.  Let’s call this the “all-in-all” meaning.

So, is greed “good” in the all-in-all sense?  Will greed help you live a happier life?

From a wide-scope approach, it might be said that an economy of greedy people is an economy of motivated, productive workers.  This might be true, to a certain extent.  However, a society of extremely greedy people would mean a society of very stingy people; I doubt a country of greedy financiers, sitting on their money would lead to a robust, healthy economy.

But this is all about your average person.  Aberrations exist.  What if you’re not like most people?  What if poverty starvation is a serious possibility in your life?  Well then yes, greed would be a good thing to have.  What if material wealth is the big thing that makes you happy?  The only thing that makes you happy?  What if greed is your only motivator, the only thing that gets you out of bed and drives you to accomplish?  Then yes, having greed would be good in relation to your goals.  You might get better results though from examining your priorities and possibly changing your goals.

So in general, I would say that a little greed is good; it’s nature’s way of getting you to take care of your self-interests.  It’s also one of the major forces that keep societies progressing past the survival point.  Too much greed though poisons you.  There are countless examples of callous damage done to the world by the business community, and the only cause we can point to is human greed.

Bottom Line: I believe greed is ‘good’ only to the extent that it can be channeled productively.  Most of modern greed leads to people skimming money off of the productive and creative members of society; it results in many people with enormous intelligence and capability dedicating their lives to essentially worthless endeavors (such as predicting minor movements in stocks, bonds, currencies, etc.).  It also leads to frivolous lawsuits, ‘gaming the system’, overcharging and overbilling, etc.  It also leads individuals to steal and engage in other criminal activities.  Greed – when it leads one to invent, create, increase productivity, work harder, etc. can be good.  But it doesn’t always or even rarely has that effect.

I have no problem with people that amass large amounts of wealth — but if it pools up, it leads to problems. Wealth, like water, needs to move. Ideally that motion through society will be generated by the heavenly virtue that is classically contrasted with the deadly sin of greed.

Share your thoughts…

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