GalaTime

• Business Week: The Biofuel Bubble

Yet behind the very real innovations and investments, the brash claims and the breathless headlines, lies an inconvenient truth. Replacing petroleum with biofuels is a tough business. Even as the industry develops, many of the companies—probably most—will not survive. “We’ve seen a venture capital-led bubble,” …

These difficulties don’t mean advanced biofuels aren’t coming, or that they won’t play a crucial role in fighting climate change. But everything will happen more slowly than many venture capitalists say. And the probable winners will be those with deep pockets and patience, such as Royal Dutch Shell (RDS), BP (BP), DuPont, agriculture giant Archer Daniels Midland (ADM), or the rare startup with revenues from another business, such as making drugs. For the rest, the demonstration biorefineries now being built are more like high-stakes auditions than a step in the process of becoming commercial biofuels producers. “The business model that makes sense for most of us is demonstrating the technology and getting it into the hands of those who have balance sheets.“

• Wealth Bulletin: Charities fear their funding crisis can only get worse

Super-wealthy families and corporate donors are tightening their purse strings after years of generous giving. The three virtues – faith, hope and charity – are mutually inclusive. Where faith and hope are in short supply, charity takes a knock. If past recessions are anything to go by, there is a lag of a year from the onset of recession before charity starts to dry up. Bang on time, the process has begun.

Swiss and US foundations were devastated by the fraudulent activities of Bernard Madoff, with many forced to close their doors to the needy or trim donation packages. The Picower Foundation, America’s seventh largest philanthropic organisation, told beneficiaries in December that its grant-making would cease without delay after it lost millions with Madoff.

• Haaretz: Irrational everything

From Kahneman’s point of view, the most important moment of the recent economic crisis came when Alan Greenspan admitted at a congressional hearing that his theory of the world had been mistaken. “Greenspan expected financial firms to protect their interests, because they are rational companies and the market is rational, so they would not take risks that would threaten their very existence,” Kahneman says.

“Where did he go wrong? Because he did not distinguish between the firms and their ‘agents’ [their managers]. There is a huge gulf between the companies and their agents. Firms take the long view, while agents have short perspectives and take the short view. The compensation models of the corporation and their agents are different. The executives did not commit suicide when they took risks; it was the corporations managed by these agents that committed suicide.

• Nature: Do nations go to war over water?

Yet the myth of water wars persists. Climate change, we are told, will cause water shortages. The Intergovernmental Panel on Climate Change estimates that up to 2 billion people may be at risk from increasing water stress by the 2050s, and that this number could rise to 3.2 billion by the 2080s⁷.

Water management will need to adapt. But the mechanisms of trade, international agreements and economic development that currently ease water shortages will persist. Researchers, such as Aaron Wolf at Oregon State University, Corvallis, and Nils Petter Gleditsch at the International Peace Research Institute in Oslo, point out that predictions of armed conflict come from the media and from popular, non-peer-reviewed work.

Nations may not, but communities definitely will.

• Capital Ideas: Uncertainty principle in the market (HT: Arjun)

Soros: Heisen­berg’s Uncertainty Principle is concerned with statistical probability. It cannot determine the behavior of specific particles, but it has pro­duced remarkably reliable estimates of the probability of certain kinds of behavior. By contrast, my interest is in the course of specific events. As an investor, I find statistical probability of limited value; what matters is what happens in a particular case. The same applies with even greater force to historic events. I cannot make reliable pre­dictions about them; all I can do is formulate scenarios. I can then compare the actual course of events with the hypothetical ones. Such hypotheses have no scientific validity, but they have considerable practical utility. They provide a basis for real-life decisions. I am not able to predict the course of events in accordance with uni­versally valid generalizations, but I can devise a general framework that helps me to anticipate and adjust my expectations in the light of experience.

• The Chronicle Review: The Roar of the Crowd

Marx was wrong: The opiate of the masses isn’t religion, but spectator sports. What else explains the astounding fact that millions of seemingly intelligent human beings feel that the athletic exertions of total strangers are somehow consequential for themselves?

Maybe it is time to rework Andy Warhol’s observation that in the future, everyone will be famous for 15 minutes: Thanks to spectator sports, each of us can know fame for most of our lives, so long as we are satisfied with the ever-shifting, warmed-over shadow of someone else’s.

Spectator sports offer quick and easy entree into an instant community. Never mind that it is ersatz. It is there for the joining; no need to “make the team.” Instead, just buy a ticket, a T-shirt, or turn on the television or radio.

Thus the popularity of IPL.

Nice article on judgement / decision making  by us moist robots.

Seed Magazine: Thinking Meta

There is no universal solution to the problem of decision making, for the real world is just too complex. In fact, many scientists now argue that the best predictor of good judgment isn’t intuition or intelligence or even experience. Rather, it’s the willingness to engage in introspection, to cultivate what Philip Tetlock, a psychologist at the University of California, Berkeley, calls “the art of self-overhearing.” The mind that thinks about itself thinks better.

As Dan Ariely, a behavioral economist at Duke University, says, “Unless we are aware of our tendency to act irrationally in certain situations, then we’ll continue to act irrationally. That much is predictable.” Although the mind is full of flaws, we can learn to outsmart them.

Also check out Ariely’s TED Talk: Why we think it’s OK to cheat and steal (sometimes)

I’m reading V. S. Ramachandran’s Phantoms in the Brain:

It’s a mind-blowing piece of work, pardon the pun.

Do check out his essays @ Edge; the earlier ones talk about mirror neurons while the recent ones discuss self-awareness (The Last Frontier).

On a related note, given all the denial in the financial world, what we need to do is squirt some cold water in Greenspan’s left ear canal.

• The Oil Drum: How Can $30,000 Be Greater than $300,000?

There is a ‘monkey-trap’ that exists among people with high incomes, which makes them both unable to see they have ‘enough’ and slow to change their markers into real capital. Based on recent and real conversations with those making north of $1 million per year, it is COMMON among this crowd to feel great pressure to continue at or near this level. They ’see’ the upcoming depression and energy crunch and feel that making more money is their best defense. Also, over time, their ‘nut’ has gradually ratcheted up (country club memberships, private school for their kids, 2-3 expensive resort vacations per year, etc.) While every one of these 7-8 friends has far more money than I do, they are trapped by their expectations. Furthermore, they are surrounded all day by people with an internal success barometer measured by digits. The jump to a lower consumption lifestyle is a long one. I might also note that few of their wives would willingly sign up.

Research in sociology, biology and economics suggests that however much money we make in one year, we want ‘more’ the following year (these studies were undergone in the heart of an era when ‘money’ was a proxy for social standing -similar results may not hold in the future). In economics, the hedonic treadmill is a phenomenon (described by Richard Easterlin) where irrespective of ones success at obtaining material possessions over time, ones desires for more material possessions increases faster. Having been on this treadmill for much of a decade, I can assert (n=1) that it is true.

• The Independent: ‘Run on UK’ sees foreign investors pull $1 trillion out of the City

A silent $1 trillion “Run on Britain” by foreign investors was revealed yesterday in the latest statistical releases from the Bank of England. The external liabilities of banks operating in the UK – that is monies held in the UK on behalf of foreign investors – fell by $1 trillion (£700bn) between the spring and the end of 2008, representing a huge loss of funds and of confidence in the City of London.

Some $597.5bn was lost to the banks in the last quarter of last year alone, after a modest positive inflow in the summer, but a massive $682.5bn haemorrhaged in the second quarter of 2008 – a record. About 15 per cent of the monies held by foreigners in the UK were withdrawn over the period, leaving about $6 trillion. This is by far the largest withdrawal of foreign funds from the UK in recent decades – about 10 times what might flow out during a “normal” quarter.

• Financial Armageddon: Sometimes, All You Can Do Is Laugh

• Mint: LIC MF gets mega bailout from parent
  

State-owned Life Insurance Corp. of India Ltd (LIC) may have bought illiquid debt paper, largely of real estate firms, worth at least Rs1,755 crore from its unit LIC Mutual Fund Asset Management Ltd (LIC MF) in October.

The acquired debt included bonds worth Rs650 crore sold by BPTP Ltd, Rs543 crore by Housing Development and Infrastructure Ltd, Rs195 crore by Unitech Ltd and Rs117 crore by Sobha Developers Ltd.

Housing Development Finance Corp. Ltd, India’s largest home loan company, and its partner Standard Life Plc. have taken a similar route. Standard Life holds a 40% stake in HDFC Asset Management Co. Ltd.

It’s so nice to have a sugar daddy around.

• Economist: Finding the gaps

WHEN will the arbitrageurs return? A look across the financial markets at the moment reveals all sorts of potential anomalies that are not being exploited.

So why don’t investors do this and eliminate the discrepancy? One reason may be that some risk would linger in such a trade: the risk that the swap counterparty might default at exactly the same time as the issuer of the corporate bond.

But the most important reason seems to be that arbitrage trades usually require borrowed money—leverage, in other words. Earning a percentage point over Treasury bonds is not enough for a hedge fund, especially considering the fees it charges (2% on an annual basis, even before the performance fee). At the moment, it is so difficult and so expensive for hedge funds to borrow money that the bond/CDS trade is not worth doing.

• Wall Street Journal: How Bernie Madoff Made Smart Folks Look Dumb

Mr. Madoff emphasized secrecy, lending his investment accounts a mysterious allure and sense of exclusivity. The initial marketing often was in the hands of what one source described as “a macher” (the Yiddish term for a big shot).

Robert Cialdini, a psychology professor at Arizona State University and author of “Influence: Science and Practice,” calls this strategy “a triple-threat combination.” The “murkiness” of a hedge fund, he says, makes investors feel that it is “the inherent domain of people who know more than we do.” This uncertainty leads us to look for social proof: evidence that other people we trust have already decided to invest. And by playing up how exclusive his funds were, Mr. Madoff shifted investors’ fears from the risk that they might lose money to the risk they might lose out on making money.

For a brief window in 2006, the Securities and Exchange Commission required hedge funds to file standardized disclosure forms. William Goetzmann, a finance professor at Yale School of Management, found that hedge funds disclosing legal or regulatory problems and conflicts of interest ended up with lower future performance. But the disclosure of these risks had no impact at all on how much money flowed into the hedge funds.

Greed. Incompetence. The Perfect Ponzi.

Live Science: The Financial Fiasco: Emotional, Irrational, Inevitable

James Grant, editor of Grant’s Interest Rate Observer, was quoted in The New York Times as also pointing out the irrational side of financial decisions: “People keep stepping on the same rakes because money, like romance, is only partly an intellectual experience. Money, like sex, brings out some thought — but also much heavy breathing and little stored knowledge.”

On a societal or global level, why don’t more cautious-minded people balance out those who take foolish risks? In essence, Kuhnen says, people are unwilling to bet against irrationality all the time because they might “simply run of money while betting against the irrational guys.”

Bloomberg: Taleb’s `Black Swan’ Investors Post Gains as Markets Take Dive

Universa Investments LP, the Santa Monica, California-based firm where Taleb is an adviser, has about $1 billion in accounts managed to hedge clients against big moves in financial markets. Returns for the year through Oct. 10 ranged as high as 110 percent.

The Black Swan Protection Protocol bought puts and calls on a portfolio of stocks and S&P 500 Index futures, along with some European shares. The Black Swan Protocol doesn’t rely on commodities, currencies or insurance on bonds known as credit default swaps

Forbes: Dimon, Munger, Rohatyn: No More Vegas

Munger wants Wall Street balance sheets reduced by 70% and insists that the firms “be a market maker, a broker, an underwriter and a custodian of securities but not the hedge funds they have become.” He wants to restrict leverage to 50% on every securities transaction except for the Treasury trading desk where “you’re dealing with the safest securities around.”

 The abhorrent excessive compensation on Wall Street is bound to be severely reduced. If Wall Street firms can only be leveraged 10 to 1 instead of 30 to 1, then the excessive gains made on borrowed funds will be reduced by two-thirds. So the path to $5 million to $10 million annual payoffs will be more reasonable but still in the millions. Hamptons summer homes will be reduced in price. Private jets will be out of range for many. Applications to law school should go up.

Will screw up the RoI calculations for a lot of recently minted MBAs.