February 26, 2012

Do we need another stock exchange without computers?

The computers who trade on their own at the financial markets are still here. In an earlier article, we found out that the volatility in the markets are not necessarily being caused by High Frequency Trading: HFT Is NOT Responsible for Market Volatility – You Are!

But the machines can still break because of human errors. This happened in 2010. The company Infinium Capital Management is involved in HFT. One of their systems broke down and the computer entered 6767 orders to buy oil futures. An investigation began and it came to the conclusion that Infinium Capital Management had to pay a fine of $350,000. But one interesting thing the investigation found was that the algorithm used was finished the day before the company began trading with it. The algorithm had only been tested for a couple of hours in a simulated trading environment. Each trading algorithm has an emergency break that terminates the algorithm if the order size is too big. But in this case this emergency break did not work and that's why the computer entered 6767 orders.

Other reports of computers who changes the behavior of the markets are:
  • The Flash Crash was not caused by HFT, but reports says that HFT helped to increase the size of the crash
  • Other miniature crashes happens all the time - HFT-computers are interacting with each other and affect each other in an unintended way

What's next? Traders have gone from trading on the street, to trading in large open pits, to trading in front of a computer screen, to teach computers how to trade. The next step may be computers who learn how to trade on their own. 

Is this a good or a bad thing? Eric Ries - the author of The Lean Startup - suggests that we should create a new stock exchange: 
"What is needed is a new kind of stock exchange, designed to trade in the stocks of companies that are organized to sustain long-term thinking."
Eric Ries talks about that we are too short-term. We trade and we focus on the next quarterly earnings - when it sometimes may be better to invest in and focus on long-term growth.

Source: The Economist 

Do we need a Nobel Prize in Economics?

The scientist Alfred Nobel never wanted a Nobel Prize in Economics. The prize "Sveriges Riksbank Prize in Economic Sciences in Memory of Alfred Nobel" was actually invented in 1968 by the "FED of Sweden" to celebrate the bank's 300 year anniversary. For example: The Nobel Price in Economics winners Myron Scholes and Robert Merton created the Hedge Fund: Long Term Capital Management. Because of flaws in their model, the Hedge Fund went bust in 1998.

A professor recently said that the biggest economic problems is a tsunami of misinformation. This is actually one of the reasons Trejdify.com exists - to try to find the best economic resources and avoid strange articles with misinformation. Here are 3 common misconceptions:
  1. Most of what Americans spend their money on is made in China. The fact is that 2.7 percent goes to products and services that are made in China. 88.5 percent goes to US-made products and services. For example:
    • Durable goods such as cars: 12 percent from China, 66.6 percent from the US
    • The US imported $399 billion worth of goods from China in 2011 - that is 2.7 percent of the entire economy
  2. The US owe most of the debt to China. The fact is that China owns 7.6 percent of the US government debt or $1.13 trillion. But who owns the rest? For example: 
    • Government trust funds: $4.4 trillion
    • Federal Reserve: $1.6 trillion
    • Private US investors: $3.1 trillion
    • Japan $1 trillion
  3. The US imports most of the oil from the Middle East. The fact is 9.8 percent of the oil comes from the Middle East. 49 percent of the oil is produced in the US and much of the imports comes from Canada and Mexico

Why do we spend money on things we used to get for free?

In an earlier article, How do I get rich now - the unusual ways?, we have learned about the unusual ways people got rich. One way to make money from "nothing" is to sell water on bottles to people who can get water to drink from a tap. The comedian Chris Rock made a show with this theme about how we spend money on things we used to get for free - such as ring-tones and water.

One famous brand of bottled water is San Pellegrino from Italy. Those bottles are actually filled in Italy before they have to be shipped by truck, boat, and then truck again to the grocery store. Here are some basic facts about that water and other general facts about bottled water:
  • The bottles weigh more than the water they contain
  • The bottles have to be washed before they are filled. They are washed in the same water that goes into the bottles for people to drink
  • The bubbles in the water comes from another spring. The company has to harvest the carbon dioxide from that spring, purify it, compress it, truck it north to Pellegrino, and inject it into the water again
  • The equivalent of 40,000 18-wheel trucks are necessary to bring all bottled water to the US each week
  • Bottled water is 3000 times more expensive than water from a tap
One recent trend is to prevent companies from selling bottled water at universities in the US. Several universities have begun to give away empty bottles for the students to fill with water from special taps. One thing to remember is that they do not want to ban Coca Cola and other soft drinks. Coca Cola is actually 95 percent water as well and you need 2.5 liters of water to produce 1 liter of Coca Cola. Banning bottled water may result in an increased sale of other products such as these soft drinks.

February 19, 2012

How to lose $9 billion and walk away with $10 million

Wikipedia has an interesting list with the title: "List of trading losses." The list is a summary of the largest trading losses of at least $100 million. The article also says that this is not a complete list since some trading losses may be hidden from the public by private companies. One can however believe that none of the bigger trading losses have been hidden, how can one hide several billion dollars without no-one hearing about it?

The top five is as follows:
  1. Howie Hubler - $9 billion
  2. Jerome Kerviel - $7.22 billion
  3. Brian Hunter - $6.69 billion
  4. John Meriwether - $5.85 billion
  5. Kweku Adoboli - $2 billion
We have mentioned Kweku Adoboli at Trejdify earlier: The new rogue trader: Kweku Adoboli. But little seems to be known of Howie Hubler, he doesn't have his own article at Wikipedia as the other rogue traders have. But who was he, what did he do, and what can we learn from it?

Howie Hubler worked at Morgan Stanley and was described as being loud, headstrong and bullying - but he was good at what he did. In 2004, he became skeptical of the subprime mortgage business and wanted to make money from it if they decreased in value. He found Morgan Stanley customers willing to sell him credit default swaps on pools of subprime mortgage loans, which was like taking out an insurance policy on a house you have built on quicksand.  

But the fall of the subprime mortgages took longer than Howie Hubler had expected. In 2006, he was put in charge of his own Morgan Stanley hedge fund: the Global Proprietary Credit Group. But since the fall of the subprime mortgages didn't happen, he had to compensate for the millions of dollars that it cost to carry the subprime bets until they started to decrease in value. He compensated by selling insurance on slightly better mortgages. The problem was that because insuring something that is less risky is less lucrative, he had to sell several times the amount of swaps that he himself had bought. The long position on these slightly better mortgages had to be bigger than the short position on the subprime mortgages.  

This is the irony in the story. Even though he had a bet against subprime loans which decreased in value, he was betting on slightly better mortgages that turned out to be worthless in the end as well. Morgan Stanley understood that the position was risky. The chief risk officer ordered tests to see what would happen to their bets and the results showed that the coming drop was $3.5 billion.

In 2008, Morgan Stanley had lost $9 billion. Howie Hubler was allowed to resign from Morgan Stanley and he took with him around $10 millions of dollars in back pay.

Today, Howie Hubler seems to be back in the mortgage business. He has created the company Loan Value Group together with former Morgan Stanley colleagues to advise mortgage lenders whose borrowers are threatening to walk away from homes that are worth less than what is owed on them.  

Source: The New York Observer, New York Magazine, Wikipedia

Should the Euro Zone sell Greece as soon as possible?

"Cut your losses short" is something every good trader knows and uses when trading. It means that when you have bought a stock and the stock decreases in value, you should sell it as soon as possible. Some traders do the opposite: They add more when the stock is moving down. But what happens if that stock is Enron and the stock never moves up again? The trader Paul Tudor Jones understands this and he has a picture on his wall saying "Losers Average Losers."

Source: Street Stories

The world is currently facing a similar problem with Greece. What would have happened if the Euro Zone had cut its losses short and removed Greece from they Euro Zone in 2009 when Greece began to show a loss? Now, two years later, the Euro Zone has added more money to its losing position while still having the same problems.

Positives with Greece leaving the Euro Zone
  • Greece might need more money in the future. Adding more money to Greece and force Greece to cut its spending might not help long-term
  • Greece returns to its old currency: The benefits of a weaker currency might help Greece to recover. A weaker currency might increase the exports to other countries helping Greece to make more money

Negatives with Greece leaving the Euro Zone
  • Greece returns to its old currency: A currency devaluation might be useless, since the benefits are being eroded by inflation
  • The cost for Greece might be 40-50 percent of GDP the first year because of internal problems when changing from Euro back to its old currency. This is because of bank-runs when people are running to the banks to save what they have before the value of their savings are decreasing because of the new weaker currency
  • Other "weak" countries in the Euro Zone might follow - such as Spain or Portugal. US banks have an exposure of 478 billion euros to Greece, Ireland, Italy, Portugal and Spain
  • Germany might lose 20-25 percent of GDP the first year because German banks have been lending money to Greece

Source: CNBC

A SWOT analysis: Is Facebook a good investment - or not?

Facebook is about to become a public company and it means that you can invest in the future of Facebook. Buying Google, Microsoft, or Apple when those companies became public was a good thing and many investors got rich from doing it. For example, $100 invested in Microsoft in 1986 is now worth $49,216. Can you expect the same profits if you invest in Facebook? To find out, one way is to make a SWOT analysis:

Facebook ($FB) Stock Chart

  • 845 million users - Facebook can sell statistics about these users to external companies. And it is hard to create a competing social network. A social network needs users, but to get users, you already need to have users
  • The revenue has been growing with 50 percent each 6 month period and the revenue was $3.71 billion in 2011, up from $1.97 in 2010
  • Many people are negative to buying the Facebook stock, but isn't that a good thing? Buy when no-one else wants to buy, like at the bottom of the 2008 stock market crash
  • Some people are making money when advertising on Facebook. One guy created a simple ad in 30 minutes, paid $150 to Facebook, and made $10,000 from the new customers. Read more about it here: Brendan Irvine-Broque
  • Can save lives: How Facebook helped to save 8 people's lives

  • High valuation $75-100 billion - can Facebook grow more to justify this valuation? The profit was $1 billion in 2011 and $606 million in 2010. The p/e-ration is then about 75 to 100. Peter Lynch once said that one should buy a stock if the p/e-ratio is lower than the growth in profit. The growth in profit for Facebook was 65 percent from 2010 to 2011. So the valuation is a little bit high
  • Some say Facebook is evil and are collecting information about the users, and it's difficult to remove content you have uploaded to Facebook
  • How many are the active users? Some people have multiple accounts and I have heard that some have up to 40 accounts so they can cheat in Facebook's games. Facebook themselves says that there are more than 83 million illegitimate accounts - or 9 percent of the total accounts 
  • Facebook make most money from ads - but how many ads would the users want to look at?
  • Retailers have begun to shut down Facebook stores
  • Some people are not making money when advertising on Facebook. One company tried to advertise on Facebook, and they realized that 80 percent of the clicks on the ads came not from people - but from computers. Since you pay Facebook per click on the ads - why should you pay when the computers click on the ads automatically? Read more about it here: Limited Pressing
  • The CEO Mark Zuckerberg has a long-term vision for Facebook - but his employees may not have that. The employees at Facebook accept modest salaries in exchange for equity in the company. When the stock price is falling, the employees may get desperate since they are losing money, and they become more short-term

  • Facebook are innovative and can add features to their business model
  • You can't access Facebook in countries such as China - but it might change in the future
  • Facebook could become the next new operating system (OS) - similar to what Windows and iOS are today. You will need one of the old operating systems to run Facebook, but Facebook can replace much of what the old operating systems are doing today 

  • The business model is weak - it's easy to change to another service such as Google+
  • MySpace might be back again and has been growing lately with 1 million users in 1 month. Justin Timberlake bought a piece of MySpace in 2011
  • Other Social Networks such as Luluvise which is like Facebook but women only
  • You can't be anonymous on Facebook, which is why some people prefer Twitter
  • Dependent on companies like Zynga who contributed with something like $500 million to Facebook in 2011 through games like Farmville. What happens if something happens to Zynga?
  • The job market in Silicon Valley (where Facebook has the main office) is hot. It's not difficult for skilled employees to find better opportunities compared with the opportunities at Facebook. Three key employees recently left the company - the director of platform partnerships, the marketing director, and the mobile platform marketing manager
  • 19 analysts rate the stock as a buy, 15 as a hold and 1 is a seller. It's difficult to determine whether this is a positive sign or a negative threat to Facebook? Should you follow the analysts - or not? One analyst says that the Facebook stock is only worth $5

Confused? If you are still confused, you might be interested in this article:

Source: Mashable, The Guardian, Uncrunched, Wikipedia, Mashable, Techcruncht, ReadWriteWeb, BBC News, Reuters, theEword, Vimeo, SeekingAlpha, SeekingAlpha

If you thought this SWOT analysis was interesting, you will also like the following SWOT analysis: TwitterMicrosoftSolarCityTesla Motors

February 12, 2012

Natural gas prices are going through the floor

One often forgotten commodity is natural gas. You often hear a lot of talk about the price of oil, probably because the price of oil currently is going through the roof, while natural gas currently is going through the floor. Natural gas futures hit nearly $15 per thousand cubic feet in 2005 and is now trading at around $2.5. Here's the chart: forecast-chart.com

Here are some basic facts about natural gas:
  • 50 percent of the US households are using natural gas for heating
  • 25 percent of the US electricity is made from natural gas
  • It is common to make plastics, fertilizers and other chemicals, steel, beer - from or with the help of natural gas

Companies who may make some money from this are among others:

Source: Seeking Alpha

Develop the trader instinct and other lessons on how to trade

Trading stocks is not the easiest endeavor one can make money from, but no-one said it was impossible to learn how. The traders who lose money are the ones who refuse to learn from others and apply what they have learned. Here are 5 characteristics of a successful trader:

  • Always learn and try new ideas. One trading strategy doesn't probably work forever. The market will soon find out what is working and what is not, and you need to find something new the market doesn't know - yet
  • You can't make money every day. You need to accept losses, minimize them, and sell them as soon as possible
  • Hold on to winning trades longer than losing trades. Never hold on to a losing trade, just because it is a losing trade
  • Proper risk management. Set a daily loss limit for a trade. For example, if your trade has lost 5%, sell it no matter what
  • Develop an instinct. The best traders can develop a "feeling" and almost know if the market is going up or down depending on how the market behaves based on past experience

Source: Trade2Win

Barack Obama and the US budget of 2013

The current US president, Barack Obama, has released his proposal for the 2013 budget. If Obama survives the election of 2012, this is what the US economy should expect :
  • Reduced borrowing with $3 trillion over 10 years and spending more to decrease the unemployment
  • Reductions in spending on federal health programs and the military
  • A small raise for federal workers
  • $1.5 trillion in new taxes on corporations, hedge-fund managers and the wealthy (everything is not actually new taxes, some are the expiration of temporary lower taxes from George Bush)
  • Households earning more than $1 million should expect to pay 30 percent of their income in federal taxes
  • $850 billion in savings from ending the wars in Afghanistan and Iraq
  • New investments in education, manufacturing and federal research and development
  • Every dollar in tax increases would be matched with $2.50 in spending cuts

The result of this budget is an increase in the alarming US deficit to $1.33 trillion. But the plan is to lower the deficit to $900 billion in 2013, and then slowly lower the deficit more up to 2022. The main point seems to be that the growth of the deficit should be less than the growth of the US economy.

The psychology of the stock market during the flash crash

When trading or investing in stocks, it's important to control your own emotions. This can sometimes be a hard thing to do, especially when something unexpected is happening in the market. One example of this is the following video showing a trader during the Flash Crash of 2010.

To never forget about your emotions, you could put a sign on the wall behind your computer saying:

"Put your emotions aside"

Paul Tudor Jones is famous for having a sign on his wall saying:

"Losers Average Losers"

February 5, 2012

Is Australia the forgotten country you may make money from?

Wikipedia: A contrarian is a person who takes up a position opposed to that of the majority, no matter how unpopular. This could be a good thing when investing, buy when the asset is unpopular and sell when it is popular. For example, buy gold when no-one else does and sell it when everyone else is talking about how much money they are going to make from their recent gold purchase.

One country you don't hear much about these days, at least not here in northern Europe, is Australia. But, are kangaroos really a good commodity to invest in, or can you find more investment opportunities in Australia? David Dittman says you can:
  • Australia was the only developed economy that did not sink into a great recession in 2007-2009. Because of the large commodity resources available in the country, Australia is similar to the emerging markets. One can find coal, iron ore, natural gas, and other resources
  • The debt-to-GDP ratio was 5,5 percent in 2010 while the average was 64 percent among advanced economies
  • Australia is the largest provider of basic commodities needed to run the economies of China, India and Japan
  • Exports of coal, iron ore, gold, natural gas and other commodities grew in 2010-11 with 27 percent to 9 percent above the previous record in 2008-09
  • International energy companies have committed more than $100 billion to develop natural gas reserves and trapped stores of methane. Australia could surpass Qatar as the largest LNG exporter in the world by 2020
  • Iron ore exports may increase over the next six years by 7 percent per year


Ignore the news and avoid competing against the best

What's the losers game when investing? The losers game is the game of following global economics and markets and investment advice and trying to make smart decisions along the way.

The first thing you should do to avoid the losers game is to ignore 99.9% of the financial news. What you hear is probably only distracting news. The financial news is not something that is unimportant, but you don't really need it when you are investing.
The second thing you need to understand is that you are competing against the best. Involved in the financial markets are people with PhD-degrees, people with Nobel Prizes who are working for billion-dollar institutes. Here it is also important to remember the Hedge Fund: Long-Term Capital Management, who hired a couple of Nobel Prize winners, but still had to shut down after a couple of years. Intelligence is not everything, but there are a lot of intelligent people who are making money in the financial markets. You need to be financial intelligent.

So what should you do to avoid the losers game? According to Business Insider, you should:
  • Invest in a diversified portfolio of low-cost index funds
  • Rebalance automatically when the allocations get out of whack

Apparently, the reason to why you do not hear more about this strategy is because of the financial media you are supposed to avoid. How would they make money if  you only invest in low-cost index funds and ignore the news? It is also harder to make many mistakes when investing in an index-fund, and you will probably save money from expensive fees.