Conflict of Interest Between Wall Street & Regulators

Some interesting background info on the folks in charge!

Stochastic Finance on Stock Returns

The stochastic calculus based interpretation of stock returns offers a glimpse of institutional perspective and indirectly reveals how buying and holding leads to a negative expectancy. While numbers and symbols may look intimidating initially, they tell a very simple story.

Variable definitions

The excerpt comes from Stochastic Calculus for Finance Vol1.

S0: Stock price at time step 0

S1: Stock price at time step 1

r: risk free interest rate (usually off treasury debt)

S1(H): Stock price at time step 1 if “heads” were to occur off a random coin toss

S1(T): Stock price at time step 1 if “tail” was to occur off a random coin toss

p: probability of H occurring

q: probability of T occurring

u: multiple applied to S if H occurs (e.g. S1(H) = 2S0)

d: multiple applied to S if T occurs (e.g. S1(T) = 0.5S0)

Note: p + q = 1, so they are collectively exhaustive

Formula 1.1.8 displays “expected” probabilities for future price moves.

Slower than actual rate of inflation

The expected returns adjust simply with r. The “risk free” (questionably) debt instruments usually offer the lowest of interest returns compared to institutional, private loans. As way more money becomes created via institutional and private borrowing, the actual rate of inflation is naturally greater than whatever return off government debt.

Credit risk ignorance makes the model impractical

The binomial pricing model assumes all listed companies to operate with infinite lifespan. Is this belief viable for actual money management? I’d say not. By the way this also invalidates general portfolio theory, sorry Markowitz!

While some revealed, many issues remain to be addressed with quantitative financial theories. Until academic ideas become aligned with empirical evidence, traders must search out personal, unique ways to remedy quantitative model weaknesses to become/remain profitable.

NFL Players = Invested Commodities

The below documentary shows just how American football players resemble very much mid-term investments for the team owners. They nearly kill themselves training, have limited active life-spans and injury risks like that of stocks.

What about the team owners? They obviously have way more $$$ than the athletes, no need for crazy training, and call the shots. Why would anyone aspire to become an athlete instead of the team owner or even agents who probably end up making more money over time?

Enjoy.
"
TWO DAYS IN APRIL is a 90-minute documentary about the NFL draft seen through the eyes of four star college athletes.
"

Part 1


Part 2

CIT Bankruptcy Info-tainment

An hour of it off Fox Business. Learn to listen between the lines!

Statistics!

I agree with his points largely. Just one thing though, a dramatic increase in statistics understanding would vastly reduce "dumb money"; this is undesirable for the "smart money" guys. So... nice thoughts!

Banks and Smarter Money

Notwithstanding bank advisors’ alleged “low risk” claims, their reluctance to finance Buy & Hold equity “investments” should raise some obvious questions. More likely than not, top bank management understand how financial economics really work.

If Buying & Holding really appreciated as claimed,

Then multiple profits could be easily obtained via insane leverage; e.g. if the stock indexes really return double digits each year, borrow a few million from the banks, and there you go, a work-free 5/6 figure net return!

Reality

Adjust the returns for the true rate of inflation, credit risk and voila, no more magical, risk-free returns. “Diversification” simply increases transaction cost. This explains largely why banks do not usually offer loans fund personal stock “portfolios”. They KNOW it invariably ends with a net-loss.

Bank analysts= less-dumb money

While they do not belong to the smart-money crowd, these guys still have an edge over the average public market participant. It pays to explore their incentives, critical thinking remains the best action!

Accusations and etc.

Heard this from Walter Block, the Austrian economist.

" (Paraphrasing)
So you have three prisoners exchanging stories of how they ended up there.

1st prisoner 'I sold goods at higher prices than everyone, they accused me of being a price gouger, a profiteer.'

2nd prisoner 'Heck, I priced everything lower than everyone, and they say I'm a cutthroat competitor, a predatory pricer.'

3rd prisoner 'I sold stuff at the same price as everybody, and now I'm a cartelist, a price-fixer...'
"

Angry mobs on the way!

Higher US Minimum Wage Coming to Hurt Real Estate More

Higher Minimum Wage Coming Soon (CNN)


"

Federal wage floor will rise to $7.25 an hour on July 24. Hike will be felt in 29 states. Can the job market handle it?

"

This will likely cause an unprecedented wave of job cuts on top of the existing negative momentum. Historically, negative employment numbers have always arrived with lower real estate indexes. To make a profit off this info then is a no-brainer: short real estate associated stocks, ETFs, REITs, etc.

I like the Obama administration. These folks have so far displayed very consistent bias toward short sellers, making forecasting very easy. More easy $$$, YAY!

Cointegration Requires Sound Economics

Because (Multi)cointegration could coincide with spurious regression, the relationships needs economic logic to hold validity. Blind number crunching then could lead to poorly designed relative value arbitrage strategies.

Cointegration/Multicointegration defined

From Wikipedia

“

Cointegration is an econometric property of time series variables. If two or more series are themselves non-stationary, but a linear combination of them is stationary, then the series are said to be cointegrated.

“

Example: 2 individual stock prices display varying probability distributions over time. When you subtract their daily returns, that difference in returns however does exhibit the same distribution at all periods, therefore becoming more “predictable”.

and…

“

Multicointegration extends the cointegration technique beyond two variables, and occasionally to variables integrated at different orders.

“

Issues with spurious correlation/regression

The non-Stationarity of individual security returns then makes random data set cointegration test unreliable. This partly explains how some incompetent banking wizards had picked tested numbers to make them “work”, backing unreliable risk assessments on credit instruments like CDOs, MBSs, and etc.

Back to fundamental economics

Number crunching alone is not enough, while those who acknowledged the crazy leverage and bad debt-packaging realized the oncoming crisis in 2007. When it comes down to it, understanding underlying economic relationships still rules them all.

Cali IOUs rated BBB and etc.

Saw this at the Wall Street Journal.
" ...Gov. Arnold Schwarzenegger and legislative leaders failed to produce a result. Amid the budget deadlock, Fitch Ratings on Monday dropped California's bond rating to BBB, down from A minus, the latest in a series of ratings downgrades for the state. "
Getting close to junk bond status, this is quite disconcerting. If the Americans only understood the magnitude of this crisis. To make things worse,

" A group of the biggest U.S. banks said they would stop accepting California's IOUs on Friday, adding pressure on the state to close its $26.3 billion annual budget gap. "

That will take place on July 10th, a truly unfortunate period. The American dream, land of opportunities, is it all just a pipe dream?

Given all this info, the obvious means of making a profit then lies in shorting companies affected by this, directly or indirectly.

Cap & Trade Bill could DOUBLE American utility bills

This is a massive tax bill imposed upon the Americans by the Obama administration. The added energy related regulations and expenses will likely hurt the economy some more.

The next logical question lies of course, making a profit with the above information. Listed businesses heavily dependent on general consumer segment have now become very attractive short-selling candidates.

Glenn Beck talks about the bill,

California rolls out IOUs!

Unbelievable and sadly expected, the Californian government could not settle on a budget to move forward on. According to SF Gate, the state has run out of money, and begun to issue IOUs to "thousands of vendors who provide goods and services...".

IOUs = empty promises

"
The IOUs probably won't be cashed by the state for 90 days - and then only if the treasury has the money to cover them.
"

This is bad. Without proper cashflow, many Ca government vendors face extreme difficulty or simply bankruptcy. Volatility is about to make a come back.

Russia Today on the Californian Budget Crisis

Hyundai offers 1.49 gasoline-cap. Why?

Via Business Week,

"

On Tuesday, June 30, the Korean automaker is launching a summer promotion that guarantees buyers of its vehicles one year's worth of gas at $1.49 per gallon.

"

Apparently their analysts concluded that US economy will experience further declines in the coming year, where more destruction of dollar-backed credit instruments brings about a stronger USD, therefore lower commodity prices (e.g. oil, gold). This gas/petrol scheme could lead to huge losses if they are wrong, then they must know SOMETHING more immediate than the ARM resets.

It makes me a bit nervous as non-financial institutions usually belong to the "dumb money" population, and I find myself aligned with Hyandai's sentiment. Perhaps it calls for a review of the drawing board.