The last decade has seen both the tech wreck and the housing bubble burst, leaving greater skepticism about financial institutions and a deeper interest in identifying “bubbles” among both the professional and investing public. Explaining past crises and predicting future ones has become a common subject for authors; here are some recent titles from authors predicting another doomsday.
Vikram Mansharamani's BoomBustology poses the question, Is there a bubble in boom-bust books? While acknowledging the faddish subject material of his work, Mansharamani believes that recent and persistent market volatility across all asset classes necessitates further study for the serious investor. His work is an attempt to lay out the patterns familiar to all boom and busts, rather than a guide to current economic events or an attempt to provide risk management practices for financial professionals.
Mansharamani, a lecturer at Yale, attempts to integrate economics, psychology and biology, among other disciplines, into a general theory and description of market cycles, and he heavily cites the traditional theorists of CAPM, as well as economists like Minsky and Mises, before going on to examine insights from behavioral finance on why economic agents make irrational decisions that contribute to booms and busts. He also explains the effects of government policy which have contributed to past cycles, both here and abroad. Mansharamani uses biological explanations of herd behavior to illustrate why investors chase assets even as prices move higher, and then proceeds to describe familiar historical examples of busts such as Tulipomania, the Great Depression and Japan's great boom and longstanding bust.
He concludes with a useful, albeit familiar, checklist of potential warning signs for future bubbles: excess leverage, excessive optimism, poorly designed government policy, and herd-like behavior — all the while injecting humorous and telling indicators such as skyscraper height to illustrate these risks. There is a concrete and useful road map of 13 indicators presented in his penultimate chapter to serve as a guidepost to future bubbles. He suggests looking for signs of relaxed credit criteria, cheap money, conspicuous consumption, “New-Era Thinking” (ie. “It's different this time”), regulatory shifts that make speculation easier, and large crowds of amateur investors.
Mansharamani relies heavily on an Austrian school of economics approach, approvingly quoting short seller Jim Chanos when he declared, “Most of the time when bubbles burst, they can be laid at the feet of excess credit creation.” This book provides a worthy and thoughtful guide to some of the symptoms that emerge from that central disease which is common to all bubbles.
The Coming Rise in Interest Rates
Marilyn Cohen's Surviving the Bond Bear Market begins with a familiar contradiction: “What is good for the economy is disastrous for the bond market.” Cohen notes that bond yields are at historic lows and will rise in the future, hurting bond prices; she argues that municipal bonds will get clobbered as budget deficits continue to rise. Yet Cohen is not a total pessimist. In her view, the biggest risk to bonds is a slowly recovering economy, which will inexorably push up bond yields. Her book is aimed at investors seeking to protect their capital in the face of this scenario. She walks the reader through eight economic indicators such as unemployment, housing data, and consumer confidence figures to instruct readers on how to recognize the beginning of the trend toward higher interest rates, arguing that the appearance of five or more of these indicators will signal the beginning of the end for low rates.
Cohen lays out a scenario for a steepening yield curve, greater market discipline among buyers of U.S. government securities, and illustrates, for example, how Illinois might end up looking like Greece, explaining credit default swaps in the process. She then goes on to explain how to structure a safer bond portfolio, chiefly by shortening maturity and duration and advocating floating-rate bonds or derivations thereof. The book comes with an e-workbook to help investors analyze their exposure.
Cohen also lays out the opposite scenario, one in which the economy doesn't recover and we enter a Japanese-style deflation. Of course, in this scenario, the prescribed portfolio is exactly the opposite of her prior recommendations, consisting of long-dated Treasuries, so Cohen's suggestions will require frequent monitoring. She also goes on to make familiar and worthwhile suggestions of bond funds such as PIMCO Total Return and Loomis Sayle's Bond Fund, although she sees them as trading vehicles, not long-term holds, and walks the reader through ETFs that could be used as trading vehicles.
Cohen's book does an adequate job explaining bond market structure and terminology to individual investors, and lays out a course of action for multiple scenarios in a professional and well-considered manner. Her detailed explanations of the risks facing municipal bonds is well reasoned but hardly revelatory given the attention these issues have already received. For the advisor experienced in bond market analysis, this book will not bring new insight, but it does serve as a worthy introduction for clients or advisors looking for reference material or educational tools for neophyte clients.
Blame Financial Innovation
Brendan Moynihan's Financial Origami focuses on the credit creation of the last 40 years, arguing that financial innovation on Wall Street led to the 2008 crisis. In Moynihan's view, many of these instruments, starting with convertible bonds and mortgage-backed securities, were attempts by Wall Street to offer products that appeared to have safety while offering good total returns. Achieving both goals is, of course, impossible, and so opaque products that promised both and delivered neither became increasingly common. For Moynihan, perhaps the central culprit was the conversion of Wall Street firms from privately-held partnerships to public corporations, which created moral hazard by leaving bankers unexposed to any shortfall in their security creation, and facilitated massive expansion of leverage at investment banks. The same moral hazard, Moynihan shows, was present at GSEs like Fannie Mae and Freddie Mac, as well as rating agencies like Moody's and S&P.
“Eat what you cook” or “pack your own chute” is Moynihan's central and enduring advice to fixing Wall Street regulation. He argues that new regulation alone won't work, because “rules-based systems encourage participants … to skirt these rules.” For Moynihan, the Wall Street of the future looks much like the Wall Street of the past; he holds up privately-held Brown Brothers Harriman as an example of what Wall Street firms should endeavor to become, and also mentions Egan-Jones, a subscription-based credit rating agency, as a firm with an unconflicted business model. It is a useful lesson, and the history of the departure from this model, as well as the evolution of the credit products which brought on the 2008 crisis, is well told. But this prescription may be no more than an act in nostalgic thinking. How could any private partnership support the balance sheets of Goldman Sachs or Morgan Stanley or Merrill Lynch? Not even 1,000 Warren Buffetts could accomplish this task. In short, financial institutions are too big to return to the structure of yesteryear.
Capitalism, Pesticides Are the Problem
Damon Vickers' The Day After the Dollar Crashes features a ringing endorsement from Glenn Beck on its cover, and the tome provides many elaborations on Beckian themes, offering up a breathless condemnation of American politics, the Federal Reserve, the fiat dollar, and the Food and Drug Administration.
Vickers does not stop there. He provides a curious jumble of Fox News populist screeds, along with Daily Kos-inspired distrust in capitalism; he argues that oil and pharmaceutical companies are only in it for the money and therefore should not be trusted. He affects a tabloid TV show-style, replete with scary facts (bees in Japan are dying! So are the Seattle area oyster beds!), and New Age environmental holism and hysteria. For example, he says that we are “bathing” in a “chemical soup of fertilizers, pesticides, hormones, and petrochemical products.”
There is little in the way of concrete policy analysis or specific suggestions for improvement. Instead Vickers regales us with a litany of urban legends, Internet memes, folksy parables about boiling frogs (see page 82), primitive villages and their dry riverbeds (page 65), apricot orchards (page 87) and the “Hundredth Monkey” (page 90). I am NOT making that up. He does provide one suggestion on entitlement reform: “There are many people in this country who do not need to rely on Social Security and I think they should seriously consider not claiming their benefits.” Elsewhere he exhorts the public to have more “faith” and practice more “kindness,” encouraging us to bring juice to the elderly, which will help keep down health care costs. (Again, I am not making this up.)
He is fond of citing YouTube and chain emails as definitive sources on the dangers of petrochemical fracking, a method of extracting domestic natural gas that has some concerned about environmental impact, and the immutable value of silver, but he doesn't prove his argument. He tells us the FDA is “full of fools” because they approved mosquito repellent. Since mosquito repellent kills mosquitoes, and mosquitoes are living things, and humans are living things, then “obviously” mosquito repellent is also dangerous to humans! In his next volume I am sure Vickers will argue that antibiotics, which kill bacteria, are also bad, as is Roundup and every other pesticide.
At other points the hysterical rhetoric becomes embarrassingly evidence-free. Vickers tells the reader, “I believe that drug convictions make up a vast number of cases that end up in jail.” Um, okay, maybe he could provide some data that serves as evidence to support his assertion. Similarly, Vickers goes on to explain that he has “heard for years” that doctors order more tests than necessary, and that alternative medicine is a useful approach. He says he knows for a “fact” that it works better than some FDA-approved “stuff.” Again, how about some data, or at least tell us which “stuff” to avoid and which Chinese herb or potion to use in modern medicine's place.
But sometimes Vickers gets it right. His discussion of the wasteful stimulus package, derived from information he found at www.recovery.gov, offers up a cogent analysis of specific parts of the stimulus bill, including one $11 million expenditure that saved just 52 jobs. Vickers doesn't provide a cost-per-job calculation, telling us to “do the math.” Elsewhere he is more charitable. In condemning natural gas hydrofracking, he tells us “about 45 percent of our aquifers have been affected or are at risk. That's almost half.” Presumably some readers would not grasp that 45 percent is nearly half of the aquifers, although I was left wondering what “impacted” and “at risk” actually meant.
There is hardly a large organization or political entity Vickers doesn't condemn. The Federal Reserve needs auditing. Nation-states are failing due to greed. Large corporations are corrupt, as is the current administration and corrupt unions governments work closely with. Given the total failure of all human organizations to date, it does not come as a surprise that Vickers envisions a future with food riots in America, a global default on debt, both sovereign and private, and a fire sale of the U.S. economy to the Chinese and Russians in a bankruptcy proceeding. How private U.S. economic assets will be sold to satisfy bankruptcy claims against defaulting a U.S. government is not explained.
Even more curious is his solution: A truly bizarre conception of a “New World Order,” one in which the inability of nations to “control their greed” and the manipulation of economies by the IMF, World Bank, Inter-American Development Bank and other NGOs is held in check by a new “Central Government,” which the author refers to repeatedly as the “CG” without ever truly defining what it would be or what it would do — besides protecting us from nation-states and NGOs. That the CG would be at once similar to both of these organizational types, yet somehow immune to their flaws, is a logical contradiction Vickers doesn't address.
As a glimpse into the Zeitgeists of both the populist right and the environmentalist left, Vickers' tome contains an amusing snapshot of the two blended together, along with the URL of his brokerage firm and instructions on how to transfer your securities to his firm for safeguarding. It might make an enjoyable — and enraging — read for your Glenn Beck-obsessed uncle in Littleton, Colo., or your Monsanto-despising yoga-practicing aunt in Taos. Anyone looking for concrete analysis of our current economic system should give this book a pass.
Nate Wendler is the pen name of a hedge fund analyst.
