The government of Zimbabwe is declaring a state of emergency because of food shortages within the country. This is a very sad situation, made even worse because the ways to ensure food is available are well known and easy for policy makers to implement. The problem for Zimbabweans is their government is unwilling to allow a free market in food. Instead, the government blames a poor crop for causing starvation, but if free markets were allowed, bad weather wouldn’t impact the availability of food. If free markets were allowed, farmers would simply purchase insurance against bad weather and consumers would be free to purchase imported food. Part of the reason behind the current food shortage is the government has increased the taxes on imported food in an effort to raise money for itself, but at a drastic cause to its citizens.
It’s common wisdom in North America that debt is bad. Most of us think its best to avoid debt and save rather than borrow. But if you’re a part of the working class, saving the old fashioned way will simply handcuff you to your job. Working and saving is what those in power want you to do. They want you to compliantly sell your labour and slowly save for your retirement. Its a low risk strategy that keeps you in your place.
When you work and save, you’ll never be rich and you’ll always be forced to sell your labour. The only hope you have of a materially better life is when the the standard of living generally rises. When you work and save, your station in society will always be the same. When you work and save, your life will go by, and you will always be stuck in the working class. Sure, you will retire, and pay for your kids education, and consume all the products being offered by the capitalists. Common wisdom tells us that those who work hard and save their money are admirable. But when you borrow to invest, you give yourself the potential of lifting yourself out of your class and making yourself a capitalist too.
When I talk of debtors, I’m not referring to those who borrow to consume. I’m referring to those who borrow to invest, whether its in real estate, the stock market, or their own business.
What’s the risk of debt? If you are born rich, getting into debt risks your capital. A rich person who borrows could slide down the ladder of society back into the working class. Rich people would rather lend their capital to others, rather than borrow to gain more if they already have enough capital to provide for their lifestyle. The working class should do the opposite. We should borrow as much as we can for the lowest rates possible and find good ways to profit from this borrowed capital.
For someone who starts with nothing, what’s the worst that can happen after they are highly indebted? Bankruptcy? So now the poor person who started at zero is bankrupt and they are right back to zero; right back to where they started. Nothing lost, nothing gained. Doesn’t sound so bad. At least they tried. At least they didn’t just follow instructions. At least those who borrow to invest tried to claw their way out of their station.
I can see why the rich are so worried about debt. All those working class people who are in debt might one day default, and this hurts the capitalists. At the same time, the working class have promoted government policies that benefit themselves. A generous social safety net helps the poor who lack their own resources. If you borrow to invest and it all goes wrong, the government will still provide you with a basic pension and health care. The welfare state helps debtors.
Artificially low interest rates also benefit the working class at the expense of the capitalists. Low interest rates benefits borrowers, while lenders receive less interest income from the capital they lend out.
I recently reviewed the latest research related to the issue of Gender and Risk. Based on what I’ve read, males are riskier than females, although the differences may be overstated in some situations. Whether the differences are large or meaningful seems to be the current subject of debate in academia, but from my perspective, there is no doubt that men take more risks compared to women. This is observable in the number of men and women playing poker, or the number of men and women as race-car drivers. In both cases, there are many men and very few women taking part. These are only two examples, and there are many more.
How does the different risk appetites of each gender impact social outcomes? If men are more likely to take risks, they are also more likely to have a greater variability of outcomes. Are men more likely to be entrepreneurs? Does this mean there are more men who will become bankrupt entrepreneurs and oppositely does this mean there are more men who will also be successful entrepreneurs? When we rank the highest income earners, does the basic statistics of risk cause most of the extreme high income earners to be men? Intuitively, if men are taking more risk, their outcomes will be more variable and extreme (both negative and positive).
Since I’m particularly interested in the study of financial risks, it was interesting to read about evidence showing women are better portfolio investors compared to men. Women suffer less from the drag of investing’s psychological biases such as overconfidence. Women are less likely to tinker with their portfolio, because they are less confident they can “beat the market”. Women are more likely to formulate a portfolio and stick with their plan. The greater propensity of men to tinker with their portfolio causes them to under-perform because of transaction costs.
Some studies point to physical or genetic causes behind the different risk perceptions that men and women have. These explanations are less convincing to me since more testosterone or other measurable aspects of chemical activity in the brain may be the result of the risky activity itself and not the cause of it.
Regardless of why men and women have different views of risk, I think it would be helpful to teach our children to have a greater appreciation of risk. A greater understanding of risk will help future generations manage the risky choices they will face and hopefully this education will narrow (or eliminate) the gap between the ways different genders perceive risk.
Fracklog is a new term in the energy market that describes the amount of energy being stored in drilled but untapped wells. Instead of pumping out oil or natural gas at current prices, some energy producers are drilling wells but not pumping the energy. They are waiting for higher prices and possibly hedging forward prices, which are in contango.
I think this strategy is very interesting and highlights another innovation in today’s energy markets. Many commentators attribute the current increase in North American energy to technological factors. There’s more oil and natural gas being extracted today because producers have developed more effective ways of finding and getting it out of the ground. But financial innovation has also played a part. Low interest rates make it cheaper for producers to raise capital and undertake new projects. Financial engineering has also played a role as energy companies are more financially sophisticated today than in the past. Energy companies better understand how financial factors impact their operations, and they are increasingly using more sophisticated strategies to mitigate risk and maximize returns. Fracklog is an example of this.
One of the main tax issues associated with derivatives is whether the gains/losses from hedging should be treated as capital gains or income (when they are recognized for tax purposes). The tax treatment makes a dramatic impact on the overall outcome since only 50% of capital gains/losses are treated as income for tax purposes. For those who have booked gains from hedging, especially if there is no associated capital losses to offset, there is a strong preference to treat these hedging gains as capital gains for tax purposes. Treating the gains from hedging as capital gains reduces their tax impact.
As a long-time George Weston shareholder, I’m happy to hear they were able to win their case to classify the gains from a hedge of a US based holding as capital gains income. This should also set a precedent for other Canadian businesses who are hedging the value of their US holdings. I agree with the outcome of this tax case since it shouldn’t matter if the risk being hedged was also traded during the period of the hedge. There are lots of situations where a hedge is desirable even when the underlyingrisk may not have a taxable consequence during the same time-frame as the hedge itself.
In North America at least, we are used to most interest rates being positive. We go to the bank for a deposit and we are presented with an upwardly sloping set of rates. We get some interest for making a deposit for 1 year, a higher rate for 2 years, and an even higher rate for deposits with longer terms. The same is true when we negotiate mortgages on our homes. Most of us are familiar with choosing between lower rates for short terms or paying higher rates to lock in for longer terms. An upwardly sloping interest rate seems normal, but as some central banks in Europe are demonstrating now, interest rates on bank deposits and loans don’t have to be positive. They can just as easily be negative and it all makes sense.
Remember the origins of banking. Specialist groups built physical vaults where depositors could store their excess wealth. This tradable wealth in the form of precious metals, coins, and other notes needed to be stored in a secure location and accessed from time to time as the capital was needed. Depositors paid banks to safeguard these assets and were charged for this service. The arrangement is similar to the precious metals deposit and leasing businesses of today.
Leap forward to contemporary Keynesian central banking. Central banks around the world are trying to manage their economies by managing rates of interest. Central banks believe lowering interest rates will give market participants an incentive to borrow and invest. But in a world of free floating exchange rates this incentive disappears. At any moment of time, everyone remains at square one in an era of instant global communications. The failures of central banking have been apparent for decades, but those committed to the idea that a central government should control and manage our lives won’t allow the central banking process to end.
So as central banks keep lowering interest rates, their policies will continue benefiting borrowers at the expense of savers. Those with excess financial capital will continue to see the value of their capital eroded by artificially negative real interest rates. Since the wealthy are by definition always in the minority, it remains politically popular to bleed their savings with low rates. In addition, with since fewer citizens understand how markets function and more citizens are committed to social democracy, we can expect this trend to continue. My suggestion for the poor, borrow to invest (in education, in business, and in financial assets) since you have nothing to lose (you’re already poor).
Is gambling a good financial investment? Probably not. Most players should view their gambling losses as entertainment expenses. Most recreational gamblers should be prepared to “lose what they came with”. They should ensure that their gambling bankroll does not exceed a reasonable entertainment expense. For most gamblers, their gambling expenditures should compare to a night at the movies or a beer with friends. Anything more is wasteful.
If a gambler knows how to gain an edge on the casino, how much should these “advantage players” devote to their gambling bankroll? Probably a small amount of their net worth. If your net worth is more than $1 million, and you can gain an edge on certain casino games, it might be fun to devote some hobby time to gambling. The casino games you can beat in the long run might include blackjack (by card counting), video poker, sports betting, and hold’em poker. If you’re a millionaire who is confident in their edge over the casino, and you can verify your edge using some statistical method, how should you determine your gambling bankroll?
Millionaire advantage players have the opportunity to develop large gambling bankrolls. But should they? I have a small gambling bankroll, but since I’m wealthy, my gambling bankroll might seem like a large dollar amount to most recreational gamblers. I’m comfortable with a gambling bankroll that represents about 1% of my net worth. Since most of my day is spent managing my business, and gambling isn’t my only hobby, I don’t spend much time gambling (although I do spend a lot of time studying gambling). Most of the time, my gambling bankroll is sitting in a few accounts collecting interest. I use these accounts as collateral to trade derivatives (a form of gambling) and to hold investments in casino companies. I figure that between gambling trips, I might as well grow my gambling bankroll by investing it wisely. Sometimes when my gambling winnings become so large that my gambling bankroll is an out sized portion of my net worth; I spend some of my gambling bankroll on food and lodging during my vacations in order to draw down big wins.
By viewing your gambling bankroll as part of your asset allocation, it helps frame the decision surrounding how much of your net worth should be devoted to gambling. Unless your goal is to become a full time gambler, a wise investor should keep their gambling bankroll as a small portion of their net worth. Most assets should still be devoted to productive investments such as stocks, bonds, and real estate.
In the long-run, advantage gamblers might come out ahead. But in the short run, their gambling generates many frictional costs. These costs include time spent practising, planning, scouting, and executing their gambling strategies. I view my own casino gambling as I view my derivatives trading. Both activities provide a rate of return that is uncorrelated to the rest of my investment portfolio. Gambling and derivatives are zero sum activities that carry transaction costs. These transaction costs make gambling and derivatives trading economically negative in the long run. But advantage gambling and derivatives trading are fun; and they may provide an opportunity to expand the efficient frontier.
“Grinders” is a great documentary on poker players from Toronto. The filmmaker, Matt Gallagher, creatively profiles 3 career poker players who each share their unique perspectives on poker and life. I think Ontario poker players will strongly relate to their stories. The star feature player is Daniel Negreanu, who is undeniably Toronto’s greatest poker player, and also one of the best poker players in the world. Negreanu lives a dream life in Summerlin with a putting green in his back yard. He travels the world promoting PokerStars and playing in high stakes events. My favourite part of the film is when Negreanu says that he doesn’t worry about money since he could always go back to grinding tables, and he jokes that starting from scratch might actually be fun 🙂