Efficient Market Hypothesis - EMH

EMH is a cornerstone of modern financial theory. EMH asserts that financial markets are "informationally efficient". That is, one cannot consistently achieve returns in excess of average market returns on a risk-adjusted basis, given the information publicly available at the time the investment is made.

But what if there is one big stakeholder who has enough stake to manipulate the market in the direction he wants.

The Wall Street Journal has just reported that in the copper market "a single trader has reported it owns 80% to 90% of the copper sitting in London Metal Exchange warehouses, equal to about half of the world's exchange-registered copper stockpile and worth about $3 billion."

The following reading in the context of above news report and EMH is interesting.

Copper soared to a new record of $4.2705 per pound on Tuesday in New York, and is up 28.3% this year. The LME's three-month copper contract closed at $9,353.50 a metric ton, up 1.6% on the day, a new record.

J.P. Morgan Chase & Co. recently had a large position in copper, though it is unclear whether the U.S. bank increased its holdings, or whether a new player has taken dominant position.

"Regardless of who owns it, the only thing of note here is that we are being told that one person has a substantial position," said David Threlkeld, president of Resolved Inc., a metals consultancy.

While commodities exchanges scrutinize all holdings to ensure a single player isn't trying to corner the market, and many of the positions are owned by big firms on behalf of clients, the large holdings do result in a concentration of ownership that could skew prices.

Please keep the bolded text in mind, as you read the following description of the idiocy spewed on TV tonight, via the Street:

"Everything that goes up is not a bubble," Jim Cramer told the viewers of his "Mad Money" TV show Tuesday, as he reminded viewers that the laws of supply and demand have not been replaced by the law of gravity.

Cramer said he's had enough with the skeptics keeping investors from making real money in stocks, and especially in commodities. He said it's OK to be skeptical sometimes, but being skeptical about everything will only hurt your portfolio.
Case in point, the commodities. Cramer said the last big rally in commodities like copper and oil was indeed driven by a hedge fund frenzy, but this time is different.This time, he said, commodities are being driven higher by real demand, by the fact that the world is growing, and there's an inability to find new raw materials fast enough.

In other words: per Cramer, the story broken by the WSJ is just fabulation and JPM's 90% lock of the copper market is as indication of proper supply/demand dynamics. Because, in some parallel universe, JP Morgan controlling 90% of the market is real demand...

You read that right.

Here is another twist to the financial theory.

Here's yet another diabolic cycle for ordinary Americans, engineered by the grifter class. A Pennsylvanian like Robert Lukens sees his business decline thanks to soaring oil prices that have been jacked up by a handful of banks that paid off a few politicians to hand them the right to manipulate the market. Lukens has no say in this; he pays what he has to pay. Some of that money of his goes into the pockets of the banks that disenfranchise him politically, and the rest of it goes increasingly into the pockets of Middle Eastern oil companies. And since he's making less money now, Lukens is paying less in taxes to the state of Pennsylvania, leaving the state in a budget shortfall. Next thing you know, Governor Ed Rendell is traveling to the Middle East, trying to sell the Pennsylvania Turnpike to the same oil states who've been pocketing Bob Lukens's gas dollars. It's an almost frictionless machine for stripping wealth out of the heart of the country, one that perfectly encapsulates where we are as a nation.
When you're trying to sell a highway that was once considered one of your nation's great engineering marvels — 532 miles of hard-built road that required tons of dynamite, wood, and steel and the labor of thousands to bore seven mighty tunnels through the Allegheny Mountains — when you're offering that up to petro-despots just so you can fight off a single-year budget shortfall, just so you can keep the lights on in the state house into the next fiscal year, you've entered a new stage in your societal development.

You know how you used to have a job, and a house, and a car, and a wife and a family, and there was food in the fridge — and now you're six months into a drug habit and you're carrying toasters and TVs out the front door every morning just to raise the cash to make it through that day? That's where we are. While a lot of this book is about how American banks used bubble schemes to strip the last meat off the bones of America's postwar golden years, the cruelest joke is that American banks now don't even have the buying power needed to finish the job of stripping the country completely clean.

So, it is high time that all the assumptions underlying modern financial theory like Banking, Stock Markets, Corporatization, Securitization etc. should be re-visited by honest academics, practitioners.

Is Doing PhD Worthless?

The Economist has published an article “The disposable academic – Why doing a PhD is often a waste of time”.

From reading the full article one gets that first things should always be first – first get a reasonable degree required by job market, land at a good job and then pursue your interest to become a PhD.

Following excerpts from the article are worth reading.

But universities have discovered that PhD students are cheap, highly motivated and disposable labour. With more PhD students they can do more research, and in some countries more teaching, with less money. A graduate assistant at Yale might earn $20,000 a year for nine months of teaching. The average pay of full professors in America was $109,000 in 2009—higher than the average for judges and magistrates.

Indeed, the production of PhDs has far outstripped demand for university lecturers. In a recent book, Andrew Hacker and Claudia Dreifus, an academic and a journalist, report that America produced more than 100,000 doctoral degrees between 2005 and 2009. In the same period there were just 16,000 new professorships. Using PhD students to do much of the undergraduate teaching cuts the number of full-time jobs. Even in Canada, where the output of PhD graduates has grown relatively modestly, universities conferred 4,800 doctorate degrees in 2007 but hired just 2,616 new full-time professors. Only a few fast-developing countries, such as Brazil and China, now seem short of PhDs.

In research the story is similar. PhD students and contract staff known as “postdocs”, described by one student as “the ugly underbelly of academia”, do much of the research these days. There is a glut of postdocs too. Dr Freeman concluded from pre-2000 data that if American faculty jobs in the life sciences were increasing at 5% a year, just 20% of students would land one. In Canada 80% of postdocs earn $38,600 or less per year before tax—the average salary of a construction worker. The rise of the postdoc has created another obstacle on the way to an academic post. In some areas five years as a postdoc is now a prerequisite for landing a secure full-time job.

These armies of low-paid PhD researchers and postdocs boost universities’, and therefore countries’, research capacity. Yet that is not always a good thing. Brilliant, well-trained minds can go to waste when fashions change. The post-Sputnik era drove the rapid growth in PhD physicists that came to an abrupt halt as the Vietnam war drained the science budget. Brian Schwartz, a professor of physics at the City University of New York, says that in the 1970s as many as 5,000 physicists had to find jobs in other areas.

PhD graduates do at least earn more than those with a bachelor’s degree. A study in the Journal of Higher Education Policy and Management by Bernard Casey shows that British men with a bachelor’s degree earn 14% more than those who could have gone to university but chose not to. The earnings premium for a PhD is 26%. But the premium for a master’s degree, which can be accomplished in as little as one year, is almost as high, at 23%. In some subjects the premium for a PhD vanishes entirely. PhDs in maths and computing, social sciences and languages earn no more than those with master’s degrees. The premium for a PhD is actually smaller than for a master’s degree in engineering and technology, architecture and education. Only in medicine, other sciences, and business and financial studies is it high enough to be worthwhile. Over all subjects, a PhD commands only a 3% premium over a master’s degree.

Why Blogs (Still) Aren't Dead.......

Why Blogs (Still) Aren't Dead.......No Matter What You 've Heard

A very good article on the state of blogosphere and also how one can lie with empirical research based on statistics.

سچی خوشی

ہماری زندگیوں میں جو باتیں اہم ہیں وہ ہیں ایک دوسرے کےساتھ وقت گزرانا، قریبی دوستوں کے ساتھ گپ شپ اور خوبصورت کتابیں پڑھنا اور ہم خوش قسمت ہیں کہ ہمارے پاس رہنے کے لیے جگہ ہے اور ارد گرد اتنی ثقافتی سرگرمیاں جاری رہتی ہیں جو ہمیں متحرک رکھتی ہیں۔ اس سب کچھ کے بعد آپ کیا کسی اور چیز کا مطالبہ کریں گے۔

'

یہ ہیں خیالات متوسط طبقے سے تعلق رکھنے والے ایک برطانوی نوجوان ٹوبی اورد کے جنہوں نے اپنی زندگی بھر کی کمائی ان لوگوں کے لیے

وقف کر دی ہے جن کے پاس ان کی ضرورت سے کم ہے۔

اکتیس سالہ اورد نےجو آکسفورڈ یونیورسٹی میں محقق ہیں اپنی زندگی میں دس لاکھ پاؤنڈ ضرورت مند افراد کو دینے کا عہد کیا ہے۔ اس مشن کی تکمیل کے لیے اورد نے فیصلہ کیا ہے کہ وہ سالانہ بیس ہزار پاؤنڈ سے زیادہ جتنا کمائیں گے ضرورت مندوں میں تقسیم کر دیں گے اور ان کی اہلیہ ڈاکٹر بیرنادیت ینگ نے اپنے لیے پچیس ہزار ہاؤنڈ کا ہدف رکھا ہے۔

وہ کرائے کے ایک کمرے کے خوبصورت فلیٹ میں رہتے ہیں جس میں صرف ضرورت کی بنیادی چیزیں رکھی ہیں۔ ان کے پاس ٹی وی نہیں لیکن اس کی وجہ پیسے کی کمی نہیں بلکہ ان کی خواہش ہے۔ وہ دو ہفتے میں ایک بار باہر کھانا کھاتے ہیں، ہفتے میں ایک بار کافی پیتے ہیں۔

اورد نے بی بی سی سے بات کرتے ہوئے کہا کہ جب وہ طالب علم تھے اور سالانہ چودہ ہزار پاؤنڈ کماتے تھے اس وقت وہ دنیا کے امیر ترین چار فیصد لوگوں میں سے ایک تھے۔ 'میں نے سوچا کہ اگر میں اس آمدن کا دس فیصد کسی کودے دوں تو میں پھر بھی دنیا کے امیرترین پانچ فیصد لوگوں میں شامل ہوںگا۔'

اب اورد تنہا نہیں۔ ان کی دیکھا دیکھی چونسٹھ لوگ ان کی تحریک

'Giving What We Can'(اپنی حیثیت کے مطابق دے دینا) میں شامل ہو چکے ہیں۔

Fallacies of Research

Researchers tend to generalize theories based on their observations and experiments. Sometimes these generalisations are too general, seeing things from the very high and assuming a dream world to be of any help in solving the real world phenomena and sometimes these generalisations are based on limited data that make these research meaningless in our day to day life. Take the case of Capital Structure theories in Finance, there is no link to real world and interaction of human beings who are not so rational and the markets are not so efficient.

Behavioural Finance has come to rectify this anomaly. But it also have its limitations. Here is an excerpt from an article that shows what these are

The behavioural revolution in economics and psychology has successfully identified and named close to three dozen biases (my favourite behavioural folk song defines them in verse).  I had thought that these biases transcended issues of culture.  Indeed, both neoclassical and behavioural economists were united in a belief that cultural variables were of secondary importance when it came to the deep drivers of behaviour.  But a series of experiments now has me thinking that the underlying heuristics are less universal.

The article, “The Weirdest People in the World” (ungated working paper), has the startling thesis that social scientists in trying to investigate basic psychology may have erred by oversampling outlier populations.  The “Weirdest People” of the title are Western, Educated, Industrialized, Rich, and Democratic.  (The cuteness of the title is not one of the article’s strengths.)  But the idea that “we” are the exotics usefully jars one from complacency.

The heart of the review is a catalogue of experiments where the results differ markedly across different societies.

Take, for example, the Müller-Lyer illusion, which I would have bet dollars to doughnuts would be a universal trick of the eye:

Turns out not only that different societies display different degrees of illusion bias, but the U.S. subjects (represented here by subjects in Evanston, Illinois) are outliers when researchers tested for the prevalence of the illusion across more than a dozen societies throughout the world.  The WEIRD subjects, as expected, require “segment a” to be on average 20 percent longer than “segment b” before they subjectively assess the two to be the same length.  But other cultures exhibit markedly less bias.  Indeed, the “San foragers of the Kalahari seem to be virtually unaffected by the illusion”:

MM Theorem and Reality

MM proposition 1 says that value of a firm is independent from its financial structure. If this is the case then the ideal financial structure is 100% debt.
But fortunately this is not the case otherwise everything on the earth might be held by banks as collateral. The reasons for the current scenario is different than advocated by MM are
1. Arbitrage mechanism has its limits.
2. Interest rate on personal debt is different from corporate debt because of underlying collateral, size of debt and remaining borrowing capacity.
3. Borrowing capacity of corporations as well as its shareholders is limited because there is a real cost of bankruptcy.
4. Capital markets are not perfect, there is asymmetry of information between corporations and its capital providers.
5. Interest rate varies with the leverage because of risk of default.
6. There is no “equivalent return” class because the underlying risk is different from firm to firm, which is accumulation of numbers of factors.
7. Firms within the same industry post very different operating income because of difference in strategy pursued.
8. Securities of all firms in the world are not traded on capital markets.

Sure Win Turnaround Formula

One of the reason for a turnaround of Ford Motors is slashing of debt and reducing interest cost. This is another evidence that debt exert unbearable pressure on companies and bring them down. Here is an excerpt from an article from Economist

That turnaround is impressive (see chart 1). Despite the sluggish recovery in the North American market, in the third quarter Ford’s automotive businesses made an operating profit of $2.1 billion, twice as much as a year before and the fifth quarterly surplus in a row, on revenue of $29 billion. Its net income was a quarterly record of $1.7 billion. Analysts at Morgan Stanley, an investment bank, expect the company to make a profit of $10.5 billion in 2010. In 2009 it made one third of that. Ford has also slashed $12.8 billion off the automotive debt of $33 billion it had at the start of the year. By late November the company reckoned it had lowered its annualised interest costs by nearly $1 billion.