Friday, August 31, 2018

Jeff Bezos and PT Barnum think alike

PT Barnum was right; there is a sucker born every minute.

Amazon recently announced a program that promises massive profits to startup local package delivery companies. It represents that entrepreneurs who participate in its program can earn $300,000 in profit per year. That's certainly an attractive proposition. Their site represents that this is achievable with only a $10,000 investment and an additional $30,000 in liquid assets. That's a heck of a potential return*

Now the math. Let's assume that Amazon is completely honest and you'll make $300,000 in profit each year with 40 vans (but if you dig a little deeper, that $300,000 headline number become $75,000 to $300,000). But let's stick with the best case scenario of $300,000. 

That works out to $7,500/year/van or $21 per day per van... and you take all the risk, you use your capital, and you are liable on the debt. You work 365 days a year, and you can be sure that they expect close to 6 sigma performance.

Amazon doesn't say anything about what happens when driverless vans come around. My guess is that you'll be dropped like a Trump staffer who has managed to piss off Ivanka and be stuck with useless vans and the need to unwind this whole operation. You think this is crazy? Well, Amazon is buying a fleet of aircraft so that it can move business away from FedEx and UPS.

Before rushing into an opportunity that seems too good to be true, think about the risks involved. Economics 101 teaches us that an efficient market will not in the long-run allow someone to earn an above average return without taking an above average amount of risk. Only suckers think otherwise.

*The NPV of an investment requiring $10,000 up front and generating a 20-year stream of profits of $300,000/year increasing 2% annually for inflation and discounted at an 8% discount rate is more than $3.2M.

Take Responsibility for Disaster Preparedness

It's no secret that I think Donald Trump is an embarrassment as a President and as a human being. That being said, all this talk about the death toll in Puerto Rico is unfair to throw on him.
Local Puerto Rican government officials failed the people of Puerto Rico. They clearly did not do enough over the decades to prepare the Puerto Rican infrastructure to deal with a hurricane that was certain to come one day. A Cat 4 or 5 storm in the Caribbean is not a black swan event - it's completely foreseeable. Instead, they wasted billions through countless crony projects, subsidies to win votes and corruption. And all these officials were elected and re-elected by the people of Puerto Rico themselves.
So while we should expect DJT to show some compassion, the 3,000 person death toll is not his fault. At most, only the deaths that could have been prevented in the period following 5 to 7 days after the storm should be his responsibility because that demonstrates a failure in our response. I've yet to see a break down of when these 3,000 deaths occurred or what they were attributable to. But the President of the United States cannot be responsible for someone choosing to live in a structure that is built to sub-par building codes because local officials were incompetent or corrput or in a flood zone.
Since Katrina, FEMA has clearly stated that every American should be prepared to survive on their own for at least 3 days after a natural disaster without assistance. That's true whether they are in Florida, NY or California, but it's particularly true when you are in a remote location like Alaska, Hawaii, Puerto Rico, Guam or anywhere else that a logistics infrastructure can't use roads or rail. I don't believe it's unreasonable for people in remote regions to expect to be on their own for up to a week until aid can be mobilized to these areas.
Look at the difficulties residents of NYC faced after Superstorm Sandy. They are in one of the world's greatest cities but very few of them had even a day or two's supplies to deal with power outages and flooding.
Sooner or later we are all likely to experience some natural disaster be that hurricane, flood, tornado, earthquake, blizzard or volcano. If you don't prepare in advance, you'll end up being one of those thousands who have to wait in line for basic necessities and you'll have nobody to blame but yourself. People need to take responsibility for themselves and stop expecting the government to be their nanny.

Thursday, August 30, 2018

A historic opportunity to protect the GOP

There's actually a historic opportunity here for both Senators McConnell and Schumer. They should sit down and propose a Constitutional Amendment enshrining the filibuster for Supreme Court appointments. It has to be an amendment because changing the rules of the Senate are not binding on future Congresses (or even this same Congress). Harry Reid created this mess when he double-crossed Bill Frist and did away with the filibuster rule for Article I judges after telling Frist not to do the same when he was in the majority.
It would be in the interest of both parties (because one day, the GOP will again be in the minority) and the country as a whole to ensure that the rights of the minority are protected particularly when it comes to something as irrevocable as a lifetime appointment to the Supreme Court. They could both look like statesmen and change their legacies from petty politicians to real leaders.

Supreme Court History: It wasn't always like this.

Just how divided has our Congress become? Antonin Scalia (the poster child of conservative Supreme Court Justices) was confirmed by a vote of 98-0 in a Senate that was split 53-47 between Republicans and Democrats. Ruth Bader Ginsburg (the poster child of liberal Supreme Court Justices) was confirmed 96-3 in a Senate that was split 53-47 between Democrats and Republicans.
When did our Congress become a force to divide us instead of an institution that rose above politics to do what was best for our nation? When people want to work together they can.

Who needs the KGB when you have the National Enquirer?

Can we just stop for a moment and consider what we found out last week? An organization literally has a vault full of information consisting of embarrassing and possibly illegal conduct by the person who occupies the office of the President of the United States. 
In the intelligence community, this is called “Kompromat” and it is accumulated and stored by foreign intelligence service to blackmail people into doing certain things (like spying on their country). 
So that leads me to several questions:
• was the US counterintelligence community aware that the person who holds the highest degree of clearance in the country was subject to kompromat?
• if David Pecker and Trump were friends, why was Pecker retaining this information instead of destroying it? It makes no sense to keep something unless you intend to use it in the future. How did Mr. Pecker intend to use this?
• How secure is the vault at American Media? Is it possible that foreign intelligence services may have gained knowledge of the kompromat or access to it? Is the material in paper or electronic form? Is there an inventory of it such that it can be determined whether it is all still there?
• Who else knows about it? Presumably David Pecker did not handle every aspect of the story; the investigation, collection of information, summarizing it, negotiating the deals to pay off the sources and then securing all that data in the vault? So isn’t each of those people also subject to being compromise by foreign security agencies in order to gain access to what they know?
• shouldn’t a US counterintelligence team be given full access to the information to determine what exposures exist and what safeguards need to be taken to prevent the kompromat’s use?
• who else within the administration and Trump family does American Media have kompromat on? Should their security clearances be reviewed? Were they aware of the existence of this material? Did they disclose it as required on their security clearance forms (my understanding is that providing false, incomplete or misleading information on an SF-86 is a federal felony).
This is potentially a very dangerous situation and Trump’s chief of staff General Kelly knows this. Has he addressed this with the President? Has the President disclosed all he knows? Enquiring minds want to know.

What John McCain can teach Catholics

Two big news events this weekend triggered news alerts on my phone Saturday night. One was the death of Senator John McCain and the other was the accusation by Archbishop ViganĂ². 
As a Catholic, these claims were another punch to the stomach. Each revelation brings feelings of disgust, shock, repugnance, anger, sorrow, and embarrassment. Truth be told it was a heck of a struggle just to go to mass this weekend.
Which brings me to Senator McCain. As a POW he was beaten regularly, denied medical care, had his arms broken and later re-broken, held in solitary confinement for years, had his teeth knocked out and was close to death several times. I’m sure he had doubts pop into his head hundreds of times over those years. He must have felt disgusted, shock, anger, sorrow, and embarrassment at a level I can literally not imagine. Yet when being debriefed by the Navy about his experiences in captivity he said that he made it through by having “Faith in country, [the] United States Navy, family, and God.”
This morning, the news had all sorts of stories on the life of Senator McCain. One of those told of how upon returning to the states after his release he attended the National War College. By the time he graduated, the concluded that “Mistakes by American political and military leaders had doomed the war effort.” 
How devastating must it have been to have spent 5 years in that hell hole for what you now believe was an effort led by bad leadership? And then it occurred to me. John McCain’s love of country was not diminished by the grave errors its leaders made, even though he paid a tremendous personal price for those errors. In fact, he dedicated the rest of his life to try to make the country better.
The evils that have enveloped our church are horrible. Many of us feel beaten, not by an enemy who holds us in captivity but rather an enemy from within our church who has tolerated way too much of this for way too long. But we will not fix this by turning away from the church. We must fight to fix it. And like Lt. Commander McCain, we need to retain our faith in God because it’s the only way we will make it through this.

The Conservative Hypocrisy on Free Speech

Donald Trump and people who claim to be conservatives are all up in arms about the purported censoring of their speech by social media platforms. 
The hypocrisy from the right is again stunning. In the Hobby Lobby case, the right advocates that forcing Hobby Lobby to provide certain types of birth control to its employees is an impermissible infringement on its first amendment rights - because it creates the appearance that they condone it and therefore forces them to speak or act in a manner inconsistent with their beliefs. 
Likewise, in the Colorado baker case, the right argues that you can't force a commercial actor to do something that they are against on religious or political grounds. Now, these same people want to ignore those very arguments and insist that all points of view must be afforded equal protection by private businesses. 
Though there is no evidence that they are censoring speech, I'd ask why should Hobby Lobby and the Masterpiece Cakeshop be protected from being forced to speak or act in a manner that they disagree with, but Google, Facebook, and Twitter not be given the same rights?
The fact that the President of the United States invoked the first amendment when discussing this matter and conservative are parroting it, shows the ignorance of all them. The first amendment restricts the government, not a private business, from restricting speech. I cannot believe why conservatives are not up in arms that the President, speaking from the White House, threaten to use the police powers of the state against a private enterprise when he perceived that it is not permitting his point of view to be spread. How would his actions be any different than when a third world dictator threatens to seize a television station or newspaper? 
When it comes to the second amendment, conservatives tell us that we should support the Constitution in its entirety, not pick and choose what provisions and amendments are important. I wholeheartedly agree. But this also means that other people have all the same rights you do, whether or not you agree with them.
The fact that the GOP is going along with this is just one more piece of evidence that the party is conservative in name only. It has no problem with big government, as long as that government is doing what they want it to do.

Tuesday, April 17, 2018

Caveat Emptor When Buying Land in South Florida

Caveat Emptor

The principle that the buyer alone is responsible
for checking the quality and suitability of goods
before making a purchase.

I recently read the following article:

The article sparked my financial curiosity. In law school, everyone takes a class in real property law. There you learn about the various type of interest someone can buy, hold or transfer in land. The highest form of ownership someone can hold in land is called fee simple absolute. A fee simple absolute interest gives the holder of it the full possessory rights and obligations now and in the future in the land. It is restricted only by government powers (the right to tax it, use eminent domain to seize it and police powers) and encumbrances or restrictions contained in the deed or arising by law. Essentially it's your land as long as you pay the taxes on it and don't do anything illegal on it.

Contrast this with a leasehold estate which gives the holder the right to possess but not own the land. When you rent an apartment, you have a leasehold estate in the property for the term of the lease. When the lease expires you no longer have the right to use the property. 

When you buy a piece of property you are usually mean  acquiring a fee simple interest in the property. It's yours for an indefinite amount of time (until you transfer it to someone else). Obviously, the price of something is greater if it grants you the right to hold it indefinitely than if you can only hold it for a specific period (this is why it is [seemingly] cheaper to lease a vehicle than to buy it outright).

A common principle of insurance is that you don't typically insure the value of the land (since land is rarely ever destroyed (yes I know, sinkholes exist in Florida but very little land in the big scope of things gets destroyed). The property on it may be destroyed or wear out, but the land will be there as it has for thousands of years. 

However, as the article points out, it is possible that large amounts of land in Miami-Dade County may no longer exist within the next 100 years.

If that happened, just how much wealth would be destroyed?

The taxable value of all the real estate in Miami-Dade County is reported to be around $283B (2016). I'll assume that the fair market value is at least 25% higher, or $353.75B. If we assume that personal property is 50% of the value of the real property you are looking at $530.625B in total property values at risk. This excludes anything that is property tax exempt (government buildings, schools, houses of worship, etc...). I'm gonna guess that this is probably no more than 5% to 10% of the property in Miami-Dade, which takes us to $557B - $583B.

To put that in perspective, that's about 14% of the total current US federal budget. The closer this comes to reality, the more likely that insurers are going to pull out of the state (or at least the areas subject to flood) and thereby ensure that the property owners end up being the financial losers. 

It seems to me that any decision to buy property in Miami needs to assume that what you are really doing is buying a ground lease that has a finite expiration date on it; that is, you are looking a buying a leasehold rather than a fee simple interest in the property. 

Monday, February 5, 2018

Bubble, bubble toil and trouble - is the easy part

Talking head on TV and the internet love to point out the existence of bubbles. Depending on who you listen to, some or all of the following markets are in a bubble: cryptocurrencies, equities, and real estate.

But to point that out is of relatively little value. The real money is made by determining where in the bubble the asset valuations are at.

In the late 1990's I was absolutely sure that the stocks were in a bubble - so I stayed away from them, not investing in a single one. By doing so, I managed to avoid the significant losses many investors suffered when the bubble popped. But I also missed out on much of the profit opportunities that they experienced as these stocks appreciated to their stratospheric valuations.

My point? Pointing out that there is a bubble doesn't make you a great investor. Figuring out where in the bubble cycle you are at is what makes you money... and that's a lot more difficult to do than just saying, "we are in a bubble."

Wednesday, January 31, 2018

New Year's Eve, Alcohol, Mortgages and Morality

Several years ago at the height of the housing crisis, I was at a New Year's Eve party. A friend of ours who held a senior position in a local credit union (let's call her J), was complaining about the number of people who were committing strategic defaults (walking away from mortgages that they could afford but chose not to pay because the house had negative equity).

"The law should be changed to prevent them from doing that," said J in between sips of her adult beverage.

"Why?" I asked.

"Because it is immoral," she quickly responded.

Now, those who know me know I like a good discussion. The more controversial the position, the better. So given this setup and the fact that I too had consumed several rounds of pre-midnight libations, a discussion was going to occur.

A - "Let me ask you a question. Let's assume that before this crisis, you had a customer who had made 29 years and 6 months of timely mortgage payments on their home and got cancer right at the end so that they couldn't afford to make the last six mortgage payments. Is there any scenario under which the bank would not have foreclosed on them?"

J - "No."

A - "So explain to me how that would have been moral? You've got a customer who's done everything possible to comply with the loan and through no fault of their own, they've suffered an illness that makes it impossible for them to pay their loan."

J - "We are just doing what the mortgage agreement allows us to do."

A - "Well aren't the people who are strategically defaulting doing the same? A mortgage spells out the agreement of the parties. The bank lends the money, the borrower makes the payments. If the borrower doesn't make the payments, then one of the remedies the bank has is to seize the house and sell it to recover its money."

"For almost all of the last 80 years, that was a remedy that was very favorable to the banks because people's houses usually went up in value. Now if the borrower must be bound by that remedy, why shouldn't the bank also be bound?"

"It seems to me that you want to impose an after the fact, unilateral, morality clause on the borrower. So how exactly is that either fair or moral?"  [This draws a chuckle from the small group of other friends who have gathered around as we were discussing this.]

J - "F*ck You, Alex."

Friday, January 26, 2018

Possibility. Probability and Effects

People often confuse possibility with probability. Though they are related, they are not the same. Probability is the likelihood of some event occurring.  Any event with a probability greater than zero is possible. If the probability of an event is one, then it is guaranteed to occur. Very few things in the world are impossible. They might be extremely unlikely to happen but not impossible.

In business, one must at least consider all possible outcomes. Yet people frequently analyze just the best and worst case scenarios and then conclude that the expected result is the average of these two outcomes. This implies that the probability of the outcomes is 0.5 for both the good and the bad outcome. It also ignores the reality that most of the time, outcomes fall somewhere in between the best and worst case scenarios.

Good planning neither ignores these outcomes nor does it treat all those outcomes as equally likely to occur. Instead, a competent manager should attempt to assign probabilities to the range of possible outcomes to attempt to analyze how these outcomes impact the organization. This requires an analysis of the probability of something occurring and an analysis of what happens if that occurs.

It is vital to ensure you are using probability to answer the appropriate question. Professor Sam Savage of Stanford University once wrote a brilliant illustration of this issue. He provides a hypothetical scenario where a drunk man randomly staggers across a busy two-lane highway (one lane of traffic in each direction) with a median in the middle. The drunk stumbles randomly to the right and to the left, spending about half the time on each side. If you were asked what his average position is, you'd be correct to say right in the middle of the road on the median. However, if you used that answer to conclude that he's alive, you'd likely be wrong.

In other posts, I will explain why I believe that a proper understanding of risk is crucial for success in both one's business and personal life as well as introducing what simple tools exist performing this analysis.

Thursday, January 18, 2018

Estate Tax and Double Taxation: Really?

A common argument against the estate tax is that it is unfair because it results in taxes on the wealth you have already paid taxes on – commonly referred to as double taxation. In theory, this can be true, particularly if wealth was acquired through cash wages - but with the estate tax rules currently exempting more than $5.5M of wealth from taxation, very few individuals acquire and save more than $5.5M of their cash earnings over their lifetime.

Instead, most people owing estate taxes do so because of the value of stock and other property they own at the time of their death. Take Jeff Bezos for example. He recently became not just the world’s richest man, but the wealthiest man ever in the history of the world with a net worth estimated to exceed $100 billion.

The vast majority of this wealth is in the form of Amazon stock, the company which he founded and built in an organization that has transformed electronic commerce throughout the world. As the company’s founder, he acquired this stock for little or no money. Instead, he was granted those shares at the time Amazon was formed and then went public.

Under most tax systems, including the US’s, a taxpayer does not pay income tax until a realization event occurs. Without getting too complicated, a realization event is usually the sale of the property (shares in this case) for cash.

Therefore, Mr. Bezos’ has avoided paying taxes on the vast majority of his wealth. If the estate tax did not exist, he would be able to transfer this $100 billion estate to whoever he wanted and have (legally) avoided ever paying taxes on it.

In no way do I begrudge Mr. Bezos' success. He is entitled to every penny of wealth he's created because Amazon has transformed the world. Mr. Bezos should be rewarded for his vision and leadership. But at the same time he shouldn't be able to avoid taxes forever, just because he acquired his wealth by forming companies, rather than a weekly paycheck. 

There are many problems with the estate tax, but it also serves a purpose as ensuring that some tax is paid when massive amounts of wealth are accumulated.

Bitcoins and Hurricanes

Recently, millions of my fellow Floridians did what Floridians do when a major Hurricane is bearing down on them - they all ran to the local grocery store and bought as much water as they could. People lined up at 5 AM to be the first to buy ridiculous amounts of bottled water - so much water that grocery carts were tipping over as they tried to maneuver them to the checkout lines. Stores would run out of water minutes after opening only causing people to turn to social media to either update their friends about the scarcity at one location or seek advice on where else water could be found.

Craigslist was full of entrepreneurial sellers offering 16 oz bottles of water for $2, $3 or even $5 a bottle when a case of 24 usually sold for less than $4/case. Police agencies across the state had to divert officers from disaster preparation to ensure that fights didn't break out over the water. Such behavior wasn't just happening in coastal areas of the state that were expected to suffer widespread damage. Instead, it was happening everywhere, regardless of risk or time until expected impact.

In Gainesville, FL (located in the North Central Florida, roughly 90 miles from either coast) stores were out of supplies a full week before the earliest anticipated landfall.

Did people need that much water (particularly in the center of the state, 90 miles from each coast)?

People were buying water because they saw everyone else doing it and feared missing out. All the local water systems were fully functional, and every one of those people could have filled containers of water from their faucet at a negligible marginal cost. They could have filled bathtubs or gone to any number of stores and purchased clean 5 or 10-gallon plastic buckets with lids for $2 each with no wait.

These acts were irrational; the water had value not because people needed it for something, couldn't readily obtain it or because it was expected to appreciate in value in the future. No, it had value just because people wanted to make sure that they didn’t miss out regardless of the probability of that happening.

This behavior is a lot like what is now going on with Bitcoin and the other cryptocurrencies. Why does anyone need these cryptocurrencies? They are not particularly useful means of exchange. The transactions costs for using them are high. They are not universally accepted. They are not currently functional stores of value given their large prices swings over short amounts of time. They are challenging to safeguard and if stolen, completely untrackable. However, people are readily exchanging real money for these digital bits of data that live in the cloud.

Blockchain technology does offer tremendous potential in the future. But what makes Bitcoin better than Ripple? Ethereum better than Litecoin?

As we know, where supply and demand balance we have a real market price. If we talk about Bitcoin, in particular, the supply side of the equation is very well defined - there will only ever be 21M BTC. 

But other than for speculation, can anyone explain what drives current demand? Just because everyone wants something at this moment doesn’t mean that there is fundamental demand for the item (or an appropriate market price for it). In my opinion, the demand here is based merely on the perceived scarcity. People don't want to be left without if others have bought it.

What stops anyone (or any group) from deciding to start a competing cryptocurrency? Just this week we saw Kodak launch a cryptocurrency for photographers. What if OPEC agreed that from here forward all purchases would have to be in its proprietary "OCoins"? What if Amazon develops its currency? Any or all of these things can happen, flooding the market with new supplies of cryptocurrencies for which there would be a higher demand. 

After the storm risk passed, people were left with large amounts of bottled water, that was worth significantly less than what they paid for it. At least the water had some value. You could drink it over time. I'm not sure that Bitcoin or any of these other cryptocurrencies will have value unless they are the one that prevails. Currently, there are over 1,400 competing cryptocurrencies compared to 180 different paper currencies. A few of these digital coins will survive, but most will not.

Too many people who pour money into cryptocurrencies may wake up like millions of Floridians after Irma and realize that their cryptocurrency is worth far less than what they paid. Some people will have guessed correctly and will make money. Most will not and will lose money. But even those who guessed correctly shouldn't try to justify what they are currently doing as investing. Instead, they are gambling and hoping that they are right.

Wednesday, January 10, 2018

Math and the Federal Debt

The total US federal debt now exceeds 20 trillion dollars. A trillion is such a large number that most people have trouble even conceptualizing it. Think of it this way, there have only been 63,683,236,800 (~63B) seconds since the beginning of the common era 2018 years ago. One trillion seconds won't have elapsed in the common era until the year 31688.

Keep in mind, that's just one trillion. Our federal debt is 20x larger than that number and growing. In fiscal 2017 (which ended on September 30) we added $666 billion dollars to our federal debt.

In 2017 US GDP was approximately $19T. This means that our federal deficit spending added approximately 3.5% to our GDP.

Since almost all of the government's spending is a component of GDP, the balancing of our budget would result in GDP falling by 3.5%. The biggest exclusion of government spending from GDP is amounts paid to service its existing debt. In the last ten years US GDP growth has averaged 2.77%/year. Therefore, if we had balanced our budget each of these years, our economy would have shrunk instead of grown.

So when politicians talk about "balancing the budget" and "living within our means" we should ask them are they really willing to shrink our economy to do so?

As for paying off the debt - well you can forget about that. If we were to somehow balance our budget we would need to keep it balanced for the next 100 years and commit to paying down the debt at the rate of $200B a year. To put that in perspective, total US foreign aid was $22.7B.