Separating Alpha and Beta
Alan Kohler points to the separation of alpha from beta in funds management, led by QIC’s Doug McTaggart (co-author of one of the better undergraduate economics texts):
At QIC, Doug McTaggart has separated alpha and beta into entirely different business streams, with separate profit and loss statements. This applies to the 50 per cent of QIC’s money that is managed internally as well the half that’s managed by outside fund managers.
McTaggart says he is pushing for performance-only fees but he’s not quite there. But he’ll get there and so will other Australian institutions. Whether smaller investors benefit from this revolution depends on the financial planners and wrap/platform operators who say they are acting in their clients’ interests.
In fact, there is no reason why Australian retail investors can’t do this for themselves, by combining index funds such as those provided by Vanguard with investments in absolute return or hedge funds, which are readily available to Australian retail investors.
posted on 24 March 2007 by skirchner in Economics, Financial Markets
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Zero Bubble
James Hamilton goes looking for the so-called US housing ‘bubble’ and comes up empty.
posted on 24 March 2007 by skirchner in Economics, Financial Markets
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Hedge Fund Apparel
What every hedge fund manager is wearing this Autumn (Spring for those north of the equator).
posted on 21 March 2007 by skirchner in Economics, Financial Markets
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‘Free Market Supply Side Voodoo Fundamentalism Zealots’
Nouriel Roubini finally goes over the edge:
who is at fault for this utter housing and financial disaster. The answer is clear: the blame lies with free market zealot and fanatics and voodoo economics ideologues who captured US economic policy in the last six years.
Who knew?
posted on 19 March 2007 by skirchner in Economics, Financial Markets
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Friedman vs Krugman
Last night, CIS hosted a tribute to Milton Friedman, which will eventually be forthcoming as a monograph. The task of doing justice to Friedman is a daunting one, but the guest speakers did an excellent job covering the breadth of his contribution. The depth is much harder to elucidate. A common misconception is that monetarism was discredited by the monetary targeting experiments of the 1970s and 80s. Monetary targeting as practiced by central banks was quite removed from Friedman’s proposal for a constant money growth rule. Friedman’s advocacy of a constant money growth rule was itself grounded less in the quantity theory of money, than in Friedman’s view that central banks had neither the technology nor the incentives to conduct monetary policy in a stabilising fashion. The aim of the rule was to remove discretion from the conduct of monetary policy.
Friedman’s view proved too pessimistic, but only because Friedman was ultimately more persuasive in promoting the cause of monetary stability than even he could imagine. As Fed Chair Ben Bernanke recently noted:
Friedman’s monetary framework has been so influential that, in its broad outlines at least, it has nearly become identical with modern monetary theory and practice.
Contemporary monetary policy theory and practice can be given quantity theory foundations, even though it is no longer discussed explicitly in quantity theory terms. Indeed, Leland Yeager argued years ago that most New Keynesian macroeconomics was just a re-labelling of old school monetarism.
Friedman’s monetary economics is unfortunately still the subject of much misunderstanding, exemplified by Krugman’s recent ill-informed attack on Friedman’s intellectual integrity. Ed Nelson and Anna Schwartz’s response can be found here. See also Larry White.
Krugman tries to argue, contrary to Schwartz and Nelson, that Japan’s open market operations under ‘quantitative easing’ demonstrate the possibility of a liquidity trap. As I show in this paper, Japan’s quantitative easing regime was conditioned on a neo-Wicksellian rather than monetarist view of the monetary policy transmission process, and was carefully calibrated to the demand for reserves on the part of the Japanese banking system.
posted on 13 March 2007 by skirchner in Economics
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Felix Salmon and the Unbearable Lightness of Nouriel
Felix Salmon resorts to the Seinfeld defence in discussing Chairman Roubini’s latest piece of doom-mongering:
it generally asserts at least as much as it argues, and is written more colloquially than formally. Not that there’s anything wrong with that.
posted on 10 March 2007 by skirchner in Economics, Financial Markets
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Ben Bernanke’s Diary
Dow Jones Newswires have obtained Ben Bernanke’s visitor log through an FoI request:
Topping a list that included Wall Street heavyweights like Bear Stearns Cos. and Morgan Stanley, however, was a small St. Louis-based forecasting firm: Macroeconomic Advisers….
Former Fed Gov. Laurence Meyer and former Fed economist Brian Sack, both now with Macroeconomic Advisers’ Washington office, enjoyed the greatest access to Mr. Bernanke among private-sector economists, the Fed chairman’s visitor logs show.
The pair met with Mr. Bernanke three times last year, in March, August and September. Mr. Sack met with Mr. Bernanke an additional time in July, the logs showed…
It lists only the names of people cleared through security to meet with him specifically. He may have also met with other people who were cleared to meet with other Fed officials.
Since taking the helm at the Fed in February 2006, Mr. Bernanke has sat down with several Wall Street economists, including Richard Berner of Morgan Stanley, David Malpass of Bear Stearns and several members of the American Bankers Association’s economic advisory panel.
Top academics on his visitor logs include: Martin Feldstein, head of the National Bureau for Economic Research; Princeton Prof. and former Fed Vice Chairman Alan Blinder, and C. Fred Bergsten of the Peterson Institute for International Economics.
posted on 06 March 2007 by skirchner in Economics, Financial Markets
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The Demise (Yet Again) of ‘Peak Oil’
An article in the NYT documents how market incentives and technology are working against ‘peak oil’ Malthusianism:
Within the last decade, technology advances have made it possible to unlock more oil from old fields, and, at the same time, higher oil prices have made it economical for companies to go after reserves that are harder to reach. With plenty of oil still left in familiar locations, forecasts that the world’s reserves are drying out have given way to predictions that more oil can be found than ever before…
There is still a minority view, held largely by a small band of retired petroleum geologists and some members of Congress, that oil production has peaked, but the theory has been fading. Equally contentious for the oil companies is the growing voice of environmentalists, who do not think that pumping and consuming an ever-increasing amount of fossil fuel is in any way desirable.
‘Peak oil’ is one of those hardy perennials that never seems to go away. Last year, the Weekend Australian Magazine (no link) ran a profile of people who were hoarding tinned food and growing their own vegetables based on the Malthusian idea of economic collapse due to resource depletion. Rather than ridiculing these people, the article took them quite seriously.
posted on 06 March 2007 by skirchner in Economics, Financial Markets
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Long Isotopes
Hedge funds capitalise on the opportunity the nuclear industry missed:
Adit Capital, a small hedge fund in Portland, Ore., was an early uranium investor, buying millions of pounds for as little as $20 a pound beginning in December 2004, said Bob Mitchell, its founder.
It jumped into the uranium market after Mr. Mitchell noticed nuclear utilities allowing inventories to dwindle when the material was cheap, to avoid the cost of storing it. Meanwhile, some mining companies had been selling more future production than Mr. Mitchell figured they would be able to produce, and mines were closed when prices were depressed in the 1990s—all evidence of a coming shortage…
The uranium market hasn’t had a down week since June 2003, according to Ux Consulting Co., a Roswell, Ga., price-reporting service.
Production shortfalls at uranium mines around the world are helping drive up the price, says Jim Cornell, president of Connecticut nuclear-fuel trading firm NUKEM Inc [gotta love that name - ed]...
When selling uranium, the Energy Department makes no distinction between financial investors and end users, so long as it’s held in authorized storage facilities. Bidders must disclose their identity and the nature of their business.
The Nuclear Energy Institute in Washington, which represents utilities and fuel processors and producers, asked the Energy Department on Feb. 5 to exclude anyone but end users from federal auctions. In a letter, the institute asked the government to “protect utilities that cannot procure sufficient uranium in the open market.”…
Financial investors say they are just seizing on buying opportunities that the nuclear industry missed. Moreover, industry players say, high prices are encouraging hedge funds and others to invest in mining companies, which will help finance increased production and possibly drive down prices.
The NEI’s Mr. Fertel conceded as much. In the long run, “I think we’re going to end up with a much better situation than we even had before,” he said…
Indeed, eventually “the price of uranium will collapse,” said Adit’s Mr. Mitchell. “I don’t know when, but the mining companies of the world will get their act together. The guts of the trade was getting into it before anybody even knew you could. But the art of the trade will be getting out before the price turns over.”
posted on 05 March 2007 by skirchner in Economics, Financial Markets
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The Party of Fiscal Prudence?
Opposition finance spokesman Lindsay Tanner would have us believe that the Labor Party is the party of fiscal prudence. Having detailed the federal government’s own fiscal profligacy, Tanner promises:
Labor’s savings strategy would claw back $3billion over the budget estimates period. That’s just for starters.
But Tanner then struggles to identify meaningful budget savings, referencing only cuts in administrative waste and duplication. Needless to say, the savings available in this regard are trivial compared to the big ticket spending programs in health, education, social security and tax expenditures.
Oppositions routinely promise budget savings in administration, since this is one of the few areas of public spending that can be safely targeted (public servants can’t speak out publicly). The NSW opposition leader, Peter Debnam, is making similar undertakings in the context of the NSW state election campaign. But these politically safe promises give the game away. Neither federal Labor nor the NSW opposition are serious about cutting federal or state spending.
posted on 02 March 2007 by skirchner in Economics, Financial Markets
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What Glenn Stevens Won’t Tell Sharon Grierson About Interest Rates
In comments on an earlier post, the Labor Party’s Sharon Grierson says that:
Our very capable Governor seized on [my] “slip of the memory” but was slightly defensive, even evasive, about the comparative level of our interest rates. Interestingly, so was the PM when the same question was asked of him today in Question Time by Kevin Rudd. The question though remains one that many Australians from all economic interests seek an answer to, and no doubt is one that Australian PMs and Treasurers also reflect upon when considering the movement of inflation rates and the impact of higher interest rates on the wider electorate.
There are several reasons why interest rates in Australia might be higher than in other countries. One reason is that Australia’s rate of potential economic growth is higher than that of other countries with lower interest rates and so our equilibrium real (or ‘neutral’) interest rate is higher. It is no coincidence that the Australian and NZ economies generally outperform those with lower interest rates. The real interest rate is ultimately determined by real factors like the rate of return on capital and we want this to be higher, not lower.
Another reason why Australian nominal interest rates might be higher is they incorporate a higher inflation or other risk premia. To the extent that inflation in Australia is on average higher than in other countries, nominal interest rates should also be higher. One could lower this inflation premium by adopting a tougher inflation target. Paradoxically, however, this might require a period of even higher interest rates and reduced economic growth while the RBA established credibility for the new, lower target range. This would be a much tougher inflation target than the one currently favoured by the RBA and both major political parties.
Most of the short-term movement in official interest rates is due to cyclical rather than structural factors such as those referenced above. As we have noted previously, you are not going to get ‘low’ interest rates in an environment in which the unemployment rate is making 32-year lows. The government’s politicisation of interest rates at the last federal election ultimately back-fired, because it put the government on the defensive in relation to interest rates, while diverting attention from the good economic news associated with rising interest rates.
posted on 28 February 2007 by skirchner in Economics, Financial Markets
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The Productivity ‘Puzzle’
The productivity ‘puzzle’ has bothered economic policymakers in Australia for some time now: employment growth has outstripped what we would normally expect to see based on recent GDP growth, implying declining productivity growth. As RBA Governor Stevens indicated in his testimony to the House Economics Committee last week, there are dozens of possible interpretations of this ‘puzzle,’ but few that seem entirely plausible or persuasive.
As the following article from Statistics Canada notes, the productivity ‘puzzle’ is not an unusual phenomenon and one that is shared by countries that have recently experience favourable terms of trade shocks:
Nor is it unusual for Organisation for Economic Co-operation and Development (OECD) countries to experience two (or more) years of little productivity growth. Just since 2000, 10 of the 29 OECD countries for which data are available experienced such an episode. Interestingly, Norway and Australia are both currently experiencing little or no growth in output per employee, and like Canada, both have large natural resource bases, which is the source of much of the productivity slowdown in Canada.
If the productivity ‘puzzle’ is ultimately attributable to the positive terms of trade shock, then it may not be something over which policymakers should lose much sleep.
posted on 26 February 2007 by skirchner in Economics, Financial Markets
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Valuing US Financial Markets
RBA Deputy Governor Ric Battellino made the following observation in testimony before the House Economics Committee yesterday:
The popular perception is that, somehow or other, the US is out there spending a lot of money and has to go around the world borrowing to fund that expenditure. I am not sure that is the correct interpretation of what is happening. I think that what is really happening is that the investors of the world want to invest in the US financial markets. They are inundating the US with money, and the US economy and US households are responding to those financial pressures.
I am not sure that there is a huge problem of US indebtedness. I think this is really a sign that world investors actually very much value the characteristics of the US financial markets. There is no doubt that they have the deepest, most liquid and most credit-worthy financial markets in the world. People who have excess savings want to put a lot of their money in the US.
Regular readers will not be surprised to learn that I agree with this proposition. What surprises me is that there seems to be so little appreciation of these institutional strengths of the US economy and financial markets within the US itself. The mistaken notion that ‘global imbalances’ are somehow a problem stems from the failure to recognise this fundamental institutional reality.
posted on 22 February 2007 by skirchner in Economics, Financial Markets
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‘I am not proposing that money be free, but…’
Glenn Stevens’ first appearance before the House Economics Committee in his capacity as Governor of the Reserve Bank saw very little change in the dynamics of these hearings.
Committee Chair and federal member for Qantas, Bruce Baird, did his usual thing of reading out loud newspaper articles and seeking the Governor’s reaction, which says a lot about his level preparation for these hearings. The Labor Party’s Sharon Grierson disgraced herself with this contribution:
I am not proposing that money be free, but why can’t Australians enjoy the low interest rates being enjoyed by countries like New Zealand.
New Zealand’s official interest rates are of course 100 bp higher than in Australia, but I guess we can take comfort from the fact that she is not, afterall, proposing ‘free money.’
Glenn Stevens avoided addressing the monetary policy outlook directly in his prepared statement, only to make a more explicit statement under questioning (see Terry McCrann on the significance of Stevens’ remarks). This only serves to highlight the fact that the Bank is being less than candid in its Statements on Monetary Policy and in its opening statements before the Committee.
Governor Stevens’ informed the Committee that his own home was ‘a piece of spec rubbish, built in the 1970s,’ which was somehow meant to be reassuring. Former Governor Ian Macfarlane also had occasion to note the appalling standard of housing in Australia in his own youth. Much of the silly prejudice against housing investment among the commentariat in Australia stems from the failure to recognise how woefully undercapitalised Australia’s housing stock has been, at least until the most recent boom in residential investment.
Stevens laid to rest a long-standing myth that there is a convention against the RBA adjusting interest rates in the context of federal election campaigns:
There seems to be a view abroad that there is some almost unspoken tradition that we do not adjust rates in an election year. I have seen a number of references to my predecessor supposedly having said that. I do not recall that he did say that. What I can recall is that he said we would not be all that keen to be changing them in the election campaign. I know that the political process often talks about being in permanent campaign mode, but what I think he meant by that was the formal campaign in the months prior. He also said if it had to be done it would be. So I do not accept, and I do not think we ever could accept, the idea that in an election year—which, after all, is one year out of three—you cannot change interest rates. When you think about that, I do not think any central bank could accept the notion that somehow a rate change is off limits for one year out of three. That would be crazy. So the answer to the question is: if in August it needs to be done it will be done.
Unfortunately, these myths have a life of their own, and this one will almost certainly feature in pre-election commentary this year.
posted on 22 February 2007 by skirchner in Economics, Financial Markets
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Too Busy to be Treasurer
Professor Stephen Bell, author of Money Mandarins, on the delay in filling vacancies on the RBA Board:
I think everyone agrees it took a hell of a long time. One possible interpretation was the Treasurer was just busy and didn’t get around to it.
posted on 15 February 2007 by skirchner in Economics, Politics
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