Why Toxic Assets Are So Hard to Clean Up - WSJ.com:
"The bulk of toxic assets are based on residential mortgage-backed securities (RMBS), in which thousands of mortgages were gathered into mortgage pools. The returns on these pools were then sliced into a hierarchy of 'tranches' that were sold to investors as separate classes of securities. The most senior tranches, rated AAA, received the lowest returns, and then they went down the line to lower ratings and finally to the unrated 'equity' tranches at the bottom.
But the process didn't stop there. Some of the tranches from one mortgage pool were combined with tranches from other mortgage pools, resulting in Collateralized Mortgage Obligations (CMO). Other tranches were combined with tranches from completely different types of pools, based on commercial mortgages, auto loans, student loans, credit card receivables, small business loans, and even corporate loans that had been combined into Collateralized Loan Obligations (CLO). The result was a highly heterogeneous mixture of debt securities called Collateralized Debt Obligations (CDO). The tranches of the CDOs could then be combined with other CDOs, resulting in CDO2.
Each time these tranches were mixed together with other tranches in a new pool, the securities became more complex. Assume a hypothetical CDO2 held 100 CLOs, each holding 250 corporate loans -- then we would need information on 25,000 underlying loans to determine the value of the security. But assume the CDO2 held 100 CDOs each holding 100 RMBS comprising a mere 2,000 mortgages -- the number now rises to 20 million!"
To quote Stan Lee, " 'nuff said."
I don't need to fly too close to the sun to know I couldn't do anything but accept the prices provided by a service or investment manager. Is this a short-coming of GIPS?
Friday, July 24, 2009
Thursday, July 23, 2009
Calpers Has Worst Year, Off 23.4% - WSJ.com
Calpers Has Worst Year, Off 23.4% - WSJ.com:
"The California Public Employees' Retirement System, the nation's largest public pension fund, reported a preliminary decline of 23.4% for the fiscal year ending in June. The fund saw its value fall by $56 billion from the previous fiscal year to $180.9 billion."
Ending Market Value = $180.9 billion
Beginning Market Value = $180.9 billion plus $56 billion is $236.9 billion
EMV/BMV minus 1 = -23.6%
I have no qualms over the 0.2% difference given the possibility of rounding error in the original CaLPERS calculation. However, there is no cash flows components to the calculation if rounding is accepted as the reason for the difference.
"The California Public Employees' Retirement System, the nation's largest public pension fund, reported a preliminary decline of 23.4% for the fiscal year ending in June. The fund saw its value fall by $56 billion from the previous fiscal year to $180.9 billion."
Ending Market Value = $180.9 billion
Beginning Market Value = $180.9 billion plus $56 billion is $236.9 billion
EMV/BMV minus 1 = -23.6%
I have no qualms over the 0.2% difference given the possibility of rounding error in the original CaLPERS calculation. However, there is no cash flows components to the calculation if rounding is accepted as the reason for the difference.
Wednesday, July 22, 2009
Operational Definitions And Healthcare Costs
Economic Scene - Support for Health Reform Requires Facing Facts on Costs - NYTimes.com:
"The United States now devotes one-sixth of its economy to medicine. Divvy that up, and health care will cost the typical household roughly $15,000 this year, including the often-invisible contributions by employers. That is almost twice as much as two decades ago (adjusting for inflation). It’s about $6,500 more than in other rich countries, on average."
I want to figure out how Mr. Leonhardt calculated his $15,000 per "typical household" number. The U.S. economy was $14,264.6 trillion dollars at the end of 2008.
If medicine is 1/6th of the U.S. economy, then it represents $2,377.4 trillion dollars. To get the number of of households, this figure is by $15,000. Meaning there were 158 million households.
Of course, this calculation depends on the writer using the same operational definition for the U.S. economy that I did. I suspect he isn't doing so because the number of 2008 households in the U.S. is 116.8 million according to the U.S. Census Bureau. (Table AVG1)
"The United States now devotes one-sixth of its economy to medicine. Divvy that up, and health care will cost the typical household roughly $15,000 this year, including the often-invisible contributions by employers. That is almost twice as much as two decades ago (adjusting for inflation). It’s about $6,500 more than in other rich countries, on average."
I want to figure out how Mr. Leonhardt calculated his $15,000 per "typical household" number. The U.S. economy was $14,264.6 trillion dollars at the end of 2008.
If medicine is 1/6th of the U.S. economy, then it represents $2,377.4 trillion dollars. To get the number of of households, this figure is by $15,000. Meaning there were 158 million households.
Of course, this calculation depends on the writer using the same operational definition for the U.S. economy that I did. I suspect he isn't doing so because the number of 2008 households in the U.S. is 116.8 million according to the U.S. Census Bureau. (Table AVG1)
Monday, July 20, 2009
Not Smelling Right: Auto Makers' Firmer Pricing Risks Denting Sector's Recovery
Auto Makers' Firmer Pricing Risks Denting Sector's Recovery - WSJ.com:
"Firm pricing may have worked for the auto industry when a sales level of 16 million cars and trucks a year in the U.S. was considered normal; now the annual-sales rate is less than 10 million."
A couple years ago, analysts assumed 16 million in annual auto sales was a legitmate number. Now that legitamte number is 10 million. A 37.5% drop points towards the annual sales rate as a figure that doesn't pass the smell test.
Adjustments for seasonality and annualizing one month rates are likely the two big factors that "offend" an investment performance measurement expert. Valuing portfolios for large cash flows covers the seasonality i.e. surges in assets under management due to IRA payments in April, and an outright ban on annulaizing returns less than one year covers the tricks on one-month sales' rates.
Rationalized or not, I can't shake the feeling the car and trucks annnual sales rate is too volatile to be accepted at face value.
"Firm pricing may have worked for the auto industry when a sales level of 16 million cars and trucks a year in the U.S. was considered normal; now the annual-sales rate is less than 10 million."
A couple years ago, analysts assumed 16 million in annual auto sales was a legitmate number. Now that legitamte number is 10 million. A 37.5% drop points towards the annual sales rate as a figure that doesn't pass the smell test.
Adjustments for seasonality and annualizing one month rates are likely the two big factors that "offend" an investment performance measurement expert. Valuing portfolios for large cash flows covers the seasonality i.e. surges in assets under management due to IRA payments in April, and an outright ban on annulaizing returns less than one year covers the tricks on one-month sales' rates.
Rationalized or not, I can't shake the feeling the car and trucks annnual sales rate is too volatile to be accepted at face value.
Friday, July 17, 2009
Does Medical Care Have A GIPS?
In Massachusetts, a New Idea for How to Pay - WSJ.com:
"Under the new system, doctors and hospitals would be organized into groups responsible for all of a patient's health-care needs. The groups would receive a 'global payment' per patient, which could be adjusted with performance incentives based on the quality of care provided."
My question is a simple one - how will "quality of care" be measured? I see all sorts of difficulties in setting up performance measures. Two of the bigger ones are the presence of an indepedent standards-setting organization and a way to stave off the worst instincts of selection bias in choosing patients for the initial benchmark.
Investment performance measurement has the CFA Institute and the Global Investment Performance Standards to address the former and a set of requirements and recommendations to deal with the later i.e. inclusion/exclusion rules, specific ROR calculation methods, verification, etc. This framework provides investors with the confidence their potential asset manager is doing all it can to adhere to the highest standards in the investment industry.
Whether this model can be replicated within a universal healthcare coverage setting is debatable. To the extent it can be will determine the overall success of such a plan.
"Under the new system, doctors and hospitals would be organized into groups responsible for all of a patient's health-care needs. The groups would receive a 'global payment' per patient, which could be adjusted with performance incentives based on the quality of care provided."
My question is a simple one - how will "quality of care" be measured? I see all sorts of difficulties in setting up performance measures. Two of the bigger ones are the presence of an indepedent standards-setting organization and a way to stave off the worst instincts of selection bias in choosing patients for the initial benchmark.
Investment performance measurement has the CFA Institute and the Global Investment Performance Standards to address the former and a set of requirements and recommendations to deal with the later i.e. inclusion/exclusion rules, specific ROR calculation methods, verification, etc. This framework provides investors with the confidence their potential asset manager is doing all it can to adhere to the highest standards in the investment industry.
Whether this model can be replicated within a universal healthcare coverage setting is debatable. To the extent it can be will determine the overall success of such a plan.
Wednesday, July 15, 2009
A Real Life Lesson In Operational Definitions
Small Business Faces Big Bite - WSJ.com:
"...employers with payrolls exceeding $400,000 a year would have to provide health insurance or pay the 8% penalty. Employers with payrolls between $250,000 and $400,000 a year would pay a smaller penalty, and those less than $250,000 would be exempt. Certain small firms would get tax credits to help buy coverage."
As the politicians go back and forth on trying to protect "small busineses" in the healthcare coverage debate, I sat and wondered what exactly a "small business" was. Was it a mom-and-pop store with a few full-time employees, typically family, and low-paid part-timers? Was it a 250-employee private asset management firm? Heck, was it a couple of guys teaming together to offer performance measurement and GIPS expertise?
Well, the House majority answered the question, and the POTUS supported it today in his public encouragement to pass the bill. A small business, operationally defined by the House of Representatives, is one with a payroll less than $250,000.
Looks like a mom-and-pop store can have 16.5 full-time employees at the soon-to-be minimum wage of $7.25. If it doesn't exist right now, it will soon - a way for the mom-and-pop owners to pay themselves minimum wage whilst reaping the reward for the risk-taking inherent in owning and operating a business.
As for the two-man team offering performance measurement and GIPS expertise....
"...employers with payrolls exceeding $400,000 a year would have to provide health insurance or pay the 8% penalty. Employers with payrolls between $250,000 and $400,000 a year would pay a smaller penalty, and those less than $250,000 would be exempt. Certain small firms would get tax credits to help buy coverage."
As the politicians go back and forth on trying to protect "small busineses" in the healthcare coverage debate, I sat and wondered what exactly a "small business" was. Was it a mom-and-pop store with a few full-time employees, typically family, and low-paid part-timers? Was it a 250-employee private asset management firm? Heck, was it a couple of guys teaming together to offer performance measurement and GIPS expertise?
Well, the House majority answered the question, and the POTUS supported it today in his public encouragement to pass the bill. A small business, operationally defined by the House of Representatives, is one with a payroll less than $250,000.
Looks like a mom-and-pop store can have 16.5 full-time employees at the soon-to-be minimum wage of $7.25. If it doesn't exist right now, it will soon - a way for the mom-and-pop owners to pay themselves minimum wage whilst reaping the reward for the risk-taking inherent in owning and operating a business.
As for the two-man team offering performance measurement and GIPS expertise....
Monday, July 13, 2009
Why Perfexc For Your Performance & GIPS Needs
Rising Health-Care Costs Are Pushing Entrepreneurs to the Limit - WSJ.com:
"At the same time, to keep costs in check, countless companies...Some are turning to freelancers...instead of hiring full-timers..."
Wow. That quote plus ellipses looks like a movie review. If this was a performance presentation and reporting topic, it could have been in the gray area of fair representation under the GIPS standards.
"At the same time, to keep costs in check, countless companies...Some are turning to freelancers...instead of hiring full-timers..."
Wow. That quote plus ellipses looks like a movie review. If this was a performance presentation and reporting topic, it could have been in the gray area of fair representation under the GIPS standards.
Thursday, July 9, 2009
Losing Money Is Easier Than Making It Back
Small Investors Pile Into Funds Devoted to Riskier Investments - WSJ.com:
"Murray Schofield, a retired orthodontist in Arizona who sold most of his foreign investments in the second half of 2008, has been buying emerging-market funds, and funds dedicated to China and India, since March. He now has 23% of his portfolio in funds that invest in these stocks. “I have to recapture part of my losses,” says the 84-year-old. “Otherwise I’d be more conservative.” His portfolio is up 20.4% for this year, following a 44% loss in 2008, he says."
I have bolded the last sentence attributed to Mr. Schoefield because it demonstrates a natural flaw in people's thinking when it comes to percentage losses and gains towards recovering them. A common error is to see the 44% loss and the subsequent 20.4% gain and do a quick back of the envelope calcuation that he is down 23.6% now.
That is wrong. The back-of-the-envelope calculation is to take the 20.4% gain and multiply it by the 44% loss to see how much Mr. Schoefield has recovered - about 9%. That still leaves him down about 35% from start of 2008. (A performance measurement professional would say from 12/31/2007.)
To see how far he is actually down, assume $100 on 12/31/2007. A 44% loss in 2008 would leave him with $56. In the first half of 2009, he has gained 20.4%. $56 plus ($56*.204) equals $67.42. Or still down a cumulative 32.58%.
FWIW, Mr. Schoefield will need to see an additional 50+% return over the next six months to get his portfolio back to its 12/31/2007 value.
"Murray Schofield, a retired orthodontist in Arizona who sold most of his foreign investments in the second half of 2008, has been buying emerging-market funds, and funds dedicated to China and India, since March. He now has 23% of his portfolio in funds that invest in these stocks. “I have to recapture part of my losses,” says the 84-year-old. “Otherwise I’d be more conservative.” His portfolio is up 20.4% for this year, following a 44% loss in 2008, he says."
I have bolded the last sentence attributed to Mr. Schoefield because it demonstrates a natural flaw in people's thinking when it comes to percentage losses and gains towards recovering them. A common error is to see the 44% loss and the subsequent 20.4% gain and do a quick back of the envelope calcuation that he is down 23.6% now.
That is wrong. The back-of-the-envelope calculation is to take the 20.4% gain and multiply it by the 44% loss to see how much Mr. Schoefield has recovered - about 9%. That still leaves him down about 35% from start of 2008. (A performance measurement professional would say from 12/31/2007.)
To see how far he is actually down, assume $100 on 12/31/2007. A 44% loss in 2008 would leave him with $56. In the first half of 2009, he has gained 20.4%. $56 plus ($56*.204) equals $67.42. Or still down a cumulative 32.58%.
FWIW, Mr. Schoefield will need to see an additional 50+% return over the next six months to get his portfolio back to its 12/31/2007 value.
Monday, July 6, 2009
GIPS 2010 And Operational Definitions
Stan Liebowitz’ informative study, “New Evidence on the Foreclosure Crisis”, in Friday’s Wall Street Journal brought to mind one of the 2010 Global Investment Performance Standards (GIPS®) changes. The change is the requirement of firms claiming GIPS compliance to revalue its portfolios at every large cash flow.
Mr. Liebowtiz’ operational definition of sub-prime mortgage provides the basis of his study. He uses the technical one used by mortgage and lending professionals to show it isn’t sub-prime borrowers (FICO scores less than 620) that are the root of the foreclosure crisis, but those borrowers who have negative equity in their home.
He contrasts that with the operational definition politicians and ordinary people may be using for “sub-prime mortgage” – a loan to a person who cannot afford it. Whether this is an actual sub-prime loan or prime one or a liar loan or a 103% loan, these are mortgages taken out by borrowers, and granted by lenders, who would not have been expected to get one even 15 years ago.
Here is where the 2010 GIPS requirement to value portfolios at “large cash flows” runs into the issue of operational definitions. The CFA Institute is not providing a definition of what a “large cash flow” is. As a result, expect wide latitude in operational definitions of “large cash flow” amongst firms claiming GIPS compliance.
Mr. Liebowtiz’ operational definition of sub-prime mortgage provides the basis of his study. He uses the technical one used by mortgage and lending professionals to show it isn’t sub-prime borrowers (FICO scores less than 620) that are the root of the foreclosure crisis, but those borrowers who have negative equity in their home.
He contrasts that with the operational definition politicians and ordinary people may be using for “sub-prime mortgage” – a loan to a person who cannot afford it. Whether this is an actual sub-prime loan or prime one or a liar loan or a 103% loan, these are mortgages taken out by borrowers, and granted by lenders, who would not have been expected to get one even 15 years ago.
Here is where the 2010 GIPS requirement to value portfolios at “large cash flows” runs into the issue of operational definitions. The CFA Institute is not providing a definition of what a “large cash flow” is. As a result, expect wide latitude in operational definitions of “large cash flow” amongst firms claiming GIPS compliance.
Friday, July 3, 2009
Why Annualizing Partial Returns Fails
Tilting at Windmill Jobs - WSJ.com:
"...it's worth recalling that Mr. Obama's economists predicted late last year that the stimulus would keep the jobless rate from exceeding 8%. That was a percentage point and a half ago."
The CFA Institute's Global Investment Performance Standards prohibits firms from annualizing return data for periods less than one year. One need only see a 1% weekly return presented as a potential 68% annual return to see why.
In the real world, annualizing returns for partial periods is no different than trying to predict the future. And no matter how smart a firm's investment team has demonstrated itself to be, nobody can predict the future with reliability.
Unfortunately for the real world, their are no GIPS reporting and presentation standards for politicans. I've often wondered though, whether a politican with a CFA needs to adhere to the Code of Ethics.
"...it's worth recalling that Mr. Obama's economists predicted late last year that the stimulus would keep the jobless rate from exceeding 8%. That was a percentage point and a half ago."
The CFA Institute's Global Investment Performance Standards prohibits firms from annualizing return data for periods less than one year. One need only see a 1% weekly return presented as a potential 68% annual return to see why.
In the real world, annualizing returns for partial periods is no different than trying to predict the future. And no matter how smart a firm's investment team has demonstrated itself to be, nobody can predict the future with reliability.
Unfortunately for the real world, their are no GIPS reporting and presentation standards for politicans. I've often wondered though, whether a politican with a CFA needs to adhere to the Code of Ethics.
Thursday, July 2, 2009
Using Averages
Big Pay Packages Return to Wall Street - WSJ.com
This above-linked WSJ article talks about the average compensation per employee at a few of the largest Wall Street firms. Saying the average pay at Goldman Sachs is $700,000 leaves the impression that every employee enjoys such opulent compensation.
I wonder what the median is or the quartiles. That type of information would be more informative. Otherwise I am left thinking about the old anecdote about Bill Gates and six people in a bar having an average salary amongst them of $170 million or however Gates's salary plus six $0 salaries average out.
This above-linked WSJ article talks about the average compensation per employee at a few of the largest Wall Street firms. Saying the average pay at Goldman Sachs is $700,000 leaves the impression that every employee enjoys such opulent compensation.
I wonder what the median is or the quartiles. That type of information would be more informative. Otherwise I am left thinking about the old anecdote about Bill Gates and six people in a bar having an average salary amongst them of $170 million or however Gates's salary plus six $0 salaries average out.
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