Tag: finance

Understanding margins

This is part of a series that is building up over time, in gloriously random, unplanned fashion. We started with a post about understanding forward markets, then moved on to understanding leverage, then arbitrage. Today is about margins.

Imagine that you and your friends have decided to get together and throw a surprise birthday party for one of your friends. Now, birthday party implies cake. It’s the law, right?

And so you decide to go and book a cake, delivery three weeks from now (because that’s when the birthday is).

In the language of the financial markets, you’ve gone long on the forward contract for the cake, and the baker is the counterparty – she has gone short on the forward contract for the cake.

The baker says, well, ok, fine. The chocolate cake that you’re asking for will cost you a thousand bucks. And he asks that you pay, say, two hundred rupees now, and the rest on the day of delivery.

That is the basic idea behind margins. When applied to financial markets, the same principle is at work. If you have entered into a forward contract, you should pay part of the money up front. And the principle exists for the same reason in financial markets that it does in the market for chocolate cakes.

Boss, I don’t want to be left high and dry on the day of delivery. If you have paid me some money today, there’s a much higher chance that you’ll follow through on the deal. You now have, as they say, skin in the game.

So far, so simple, correct? Now let’s complicate the story a little bit.

Imagine that, a week from now, the government announces that flour, eggs, vanilla, salt, sugar, baking powder and all dairy products are free, for everybody. Yes, this is an unrealistic assumption, but I’m an economist. We get to pull these stunts.

Is the baker going to be happy? Well, in general yes. Lower prices for her ingredients means that she will be able to produce cakes at much lower prices. Of course, if markets are efficient, this will also mean that the prices of cakes will fall. And therefore, in the specific case of the contract that you have with her, she is going to be less than happy.

Because she knows, as you do, that you can now get an equally good cake from another baker, at say, seven hundred rupees. The ingredients are free, after all! And she can do math as well as you can – so she realizes that it is in your interests to forget about the two hundred rupees that you paid her, and book a cake from another baker at seven hundred.

Total costs to you? Nine hundred: two hundred rupees that you paid her, plus seven hundred for the cake from the other guy. You’re still saving a hundred bucks!

And so she comes to you and says, hey listen. We have a deal, you and I. I think there’s a chance that you are going to back out of this deal, given these low prices for the ingredients. So I’m sorry, but I need you to pay me another two hundred rupees right now.

(By the way, if your response is “Aur nahi diya to kya?”, we enter the world of enforceable contracts, property rights and the law. But we won’t go down that path today.)

What the baker has done is she has MTM’ed your contract. Marked To Market.

That essentially means that every single day, the baker monitors the situation, and asks how much is the contract worth if it was deliverable today, and adjusts the initial deposit accordingly.

It cuts both ways, of course: if the price of the ingredients were to quadruple, you would go to the baker and not only ask for your initial deposit back… but also ask that the baker gives you money instead. Because now she has the incentive to back out of your original deal.

There are rules about how margins work, and as usual, financial markets have their own little cottage industry of jargon around this. There’s the initial margin, the maintenance margin, margin calls and so on. But the point behind margins is very simple – you should have an incentive to not walk out of the deal, if things change in the market.

Financial markets, in other words, don’t take people at their word.

And on balance, that’s a good thing.

Imagine if companies said to students on the day of the job offer that you keep one hundred thousand rupees with us, and we’ll give it back to you six months after you join us. Are you likelier to stop searching for better, more high-paying jobs?

Or if the placement cell said you need to keep ten thousand rupees on deposit with us, and only then can you sit for an interview. Would that stop the “I just wanted to see what the process was like, I didn’t actually want a job offer from this company” students from sitting for the placement process?

Neither of these things is going to happen, relax. But that, in essence, is the point of margins.

Understanding Arbitrage

Part 1 and Part 2 here. I’d recommend you read those before you start this one.

Now, what if at the end of the academic year, you find yourself without a job offer? We all hope and pray that this doesn’t happen to anybody, but the sad reality is that there will always be such cases.

What could be done?

What I am about to describe doesn’t actually happen in any college that I know of, but it helps me build my story, so let’s go with it for the moment:

What a university could do is that it could hire the services of a placement agency. Said placement agency would take on the responsibility of getting these students placed in one firm or the other. These wouldn’t be glamorous jobs, of course, and they wouldn’t be high-paying ones. But hey, at that stage, any job offer is a good offer – and you could always try and shift as soon as possible into a better job, no?

The placement agency wouldn’t do this for free, of course. The college would have to pay the placement agency for each student placed.

Here’s the interesting part, though. It is quite likely that the placement agency would be taking a fee from the firm in which this student got placed. That is, the placement agency gets a fee from the college, but it also gets a fee from the firm.

(There are variants, of course. But we’re talking Zomato, Uber, Dunzo and old school real estate agents and all that. Middlemen, essentially. The equilibrium of who pays, and how much, and why are all excellent questions for an intermediate micro class.)

So what is the placement agency doing? In the language of the financial markets, it is engaging in arbitrage. Arbitrageurs make markets more efficient, by connecting supply and demand. The type of supply and demand that wouldn’t have been able to connect otherwise.

The student that didn’t get placed, and the firm that wanted a new employee hadn’t been able to meet so far, and the placement agency facilitated this deal. We’re talking economics, of course, and the placement agency therefore deserves a fee for providing this service.

This fee can be collected in two ways. First, the way that I just described above: take a flat fee from both sides of the transaction. Or, think of a bank. What does a bank do? It connects people who are willing to loan money to people, with people who are looking for a loan. The bank acts as the middleman, and offers a lower rate of interest to depositors. It also charges a higher rate of interest to people who want to take a loan.

Why do people say a currency is stronger or weaker than another one just by looking at the exchange rates? - Quora
Original Image here

This is known as the bid-ask spread. The middleman bids a lower rate while buying, and asks for a higher rate while selling.

An efficient market is one in which there are no arbitrage opportunities. Or in the language of the economist, an efficient market is one in which there are no search costs. It’s mostly the same thing. I have fixed deposits in the bank that pay me a painfully low rate of interest. In my neighbourhood is a person who has taken a loan from the same bank in which I have my fixed deposit. She is being charged an eye-wateringly high rate of interest.

In effect, I am loaning my money to her. Because I do not know of her existence (nor she of mine), we both use the bank to “complete” the transaction. The difference between the rate of interest I get and she is charged is what pays for the rent of the bank, its employees salaries and so on.

(By the way, what if the bank gives out a new loan to another person before my neighbor has repaid hers? Leverage!)

Real estate agents made the real estate market more efficient than it would have been otherwise, but their margins were so high, that Magic Bricks, and Housing.com and their ilk had a reason to enter and promise lower commissions. So also Uber, so also Airbnb, so also (think about it) Amazon.

Perfect competition, which we learn about in microeconomics, is best thought of as an always ongoing process, not as a static equilibrium. One aspect of which is better, more efficient arbitrage. That’s not how the textbooks do it, and more’s the pity.

Anyways, arbitrage is a good thing, because it makes markets more efficient in two ways:

  1. It makes trades happen that wouldn’t have taken place otherwise
  2. Competition between arbitrageurs drives the “market-making” fee downwards, making more trades happen at cheaper rates.

A truly efficient market is one in which there are no further arbitrage opportunities, and market-maker fees can’t possibly be any lower. No, as it were, dollar bills lying in the streets. See if the joke now makes sense.

So, over the past three days, we’ve learnt about the following:

  1. Forwards markets
  2. Hedgers
  3. Speculators
  4. Arbitrageurs
  5. Efficient markets

Next week (for there is only so much finance we can take at a time) we’ll get back to trying to understand finance, beginning Monday.

Optional homework: watch (and try to make sense of) Arbitrage. And if you want an example of how to write well, read this review of the movie – whether you watch it or not.

What is leveraging?

You may want to give this a read (if you haven’t already) before starting in on today’s post.

In my fourth semester while I was a Masters student at Gokhale Institute, I took this paper called Econometrics-II.

Let’s just say that it wasn’t the best decision ever. The paper was theoretical, abstruse and full of jargon, even by the standards of academia. And because it was my fourth semester, we weren’t exactly a motivated bunch. Placements had happened a little while earlier, you see, and the fourth semester was essentially us killing time until we joined whichever company we had been placed in.

And the combination of a difficult paper and a lack of motivation is a dangerous thing. By the time I and the rest of my batch trooped in to the examination hall for writing this particular paper, we knew it wasn’t going to be a pleasant experience.

And as it turned out, even adjusting for our expectations, it was a truly difficult paper. By the time we left the examination hall, all of us felt that there was a very real chance we wouldn’t pass this particular paper.

The trouble was, I had already entered into a forward contract with a firm to sell my services to them, five hours a day, eight hours a week. My services, that is, as a Masters student.

I had promised, in other words, to sell them something I didn’t possess: the services of a person with a Masters degree.

I was, in other words, leveraged.

What is leverage? The technical term is slightly different than the context in which I am using it over here, but I was in effect betting on the fact that I would be a Masters student by June 2006, in the month of January 2006. And I had promised (in January 2006) to deliver to the firm a service I didn’t have in my possession at that point of time.

To use the language we learnt about yesterday: I had shorted my services, when I didn’t actually have what they wanted.

The firm that had decided to hire me had also used leverage. It had promised to deliver (had sold) to its client a team of analysts. These analysts (one of them being me) would be ready to start work in 2006. So if you think about it:

  • the client was going to pay money to a firm…
  • …assuming that the firm would have a team ready to go in June 2006.
  • The firm, in turn, had assumed that the person they had hired in January 2006 would actually be a Masters student come June 2006.
  • And the student had blithely assumed that Trix-II (which is how all students at my college referred to that horrible paper) would be dealt with one way or the other.

When this last assumption breaks down, so do all the others, causing a chain reaction of sorts. In financial markets, this chain reaction can grow monstrously large, with extremely unpleasant consequences.

<Cough> Subprime <Cough> Crisis <Cough>

When a bank assumes:

  • that a loan that it has made will be repaid, with interest…
  • …and uses those presumed profits to buy an asset…
  • …and uses that asset as collateral to buy something else,
  • exactly the same thing is happening!

When the first loan ain’t repaid, bad things happen.

So is leveraging bad?

As I said yesterday, it depends on whom you’re asking. The student in question is unlikely to view leveraging as a very bad thing. That’s what got the student the job!

The firm will have a rather more bleak view of the affair, but so long as they can find a replacement easily enough, this won’t be an out and out disaster.

In the case of financial markets, leveraging is a (really big) problem when the losses are systemic. That is if all graduates from all colleges suddenly flunked in one year, they’d all be in trouble. As would the firms that had decided to hire them. As would the firms who had hired these firms. And so on.

But as today’s post hopefully makes clear, leveraging itself isn’t bad, so long as it isn’t overused, and that too systemically.

This is a rule that gets broken in a rather prominent fashion every now and then in financial markets the world over, with the attendant mess gaining a lot of attention.

But leveraging itself? It’s used all the time, and by all of us, one way or the other.

So what are forward markets? What is speculation?

Definitions don’t make sense unless they’re applied, and applications aren’t useful unless they’re relatable. So to understand forward markets, let’s work the other way around. Let’s start with a relatable example, and work backwards to arrive at the definition.

And what, pray tell, is more relatable than placements for students?

That is, after all, the point of an education. No?

So, anyways, placements. Here is how placements work: a company lands up on campus in the month of (say) October 2021, interviews a bunch of students, selects some of them, and offers them a job. Let’s say one of these students, who’ve been offered a job, accepts the offer.

Does the job start in October 2021? Of course not! It begins in June 2022.

In other words, a company and a student have entered into a contract. This contract says that the student will give the company eight hours of her day, Monday to Friday, in return for which the company will pay her a salary.

But the deal has not been struck for immediate delivery. The student doesn’t start work in October 2021. A price has been agreed, the terms of the contract have been agreed, and both the student and the company have signed on the dotted line – but for a transaction that will take place in June 2022. That, my friends, is a forward contract.

Now, having gotten the point, let’s learn the language that the beasts of this jungle like to use. The student, because she is selling eight hours of her time, five days a week, is the party with the short contract. The firm, because it is buying eight hours of the student’s time, five days a week, is the party with the long contract.

(Why the hell don’t they just say buy and sell, then, these financial folks? Lyk, srsly, ryt? Lmao. Brb.)

The price that the two parties have agreed upon is known as the strike price, because it is the price at which the deal has been struck.

So, quick recap: going long | going short | strike price | forward contract.

Here is how the placement process works in almost all colleges in India. If you sit for an interview, and you’re made an offer, you’re “out” of the placement process. There are variations to this rule, but in essence, the logic is that once you and the company have struck a deal, you can’t sit for any other firm that comes on campus later.

So here’s a conundrum for you: what if the company in October is a firm called HDFC, and it is offering you a package worth 8 lakh rupees (INR 800,000). The conundrum is that there is a very strong rumor (but it is, unfortunately, a rumor) that Google will be on campus next month, and they’ll be offering 20 lakh rupees (INR 2,000,000).

HDFC will pick up 20 students, but Google will pick up only 5.

Do you sit for the HDFC process or not?

There’s no right answer to this question, of course, and because of the uncertainty, cases such as these cause a lot of angst among students every year. But let’s assume that a student decides to “play it safe” and does sit for the HDFC process.

Here is what the student is thinking: sure, lower salary, and sure, no Google. But hey, a bird in hand is worth two in the bush, no? Better a low paying job for sure than the risk of not being placed by June 2022. Us economists would say the student is being risk-averse. Those finance guys would call her a hedger.

A hedger is somebody who ain’t worried about missing out on a high-paying job later. A hedger prizes certainty. A hedger mitigates risk. The price you pay for mitigating risk – the opportunity cost of risk mitigation – is that you lose the potential upside.

Choosing to put money in an FD rather that investing in stocks is hedging. Doing an MBA rather than starting a business is hedging. Locking in a job, even at a lower price, rather than waiting for a better one that may or may not come along – that is hedging. You’ll sleep soundly at night, knowing that HDFC is waiting for you in June 2022. You’ll feel a twinge of regret when your BFF lands that job at Google (of course you will), but hey – you played it safe, and that’s no bad thing.

OK, so you’re the hedger. What about HDFC, or Google? What should we call them?

Well, how much does a recruiter learn about you in a 15 minute interview anyway? All that they have to go on is that interview, and your CV. We know all about CV’s!

So when Google, or HDFC, or whoever, really – when they give you a job offer, they’re taking a bet on you. You may be the next CEO of those firms, who’s to say? Or you may be fired six months after starting your job. Who’s to say? Like I said: they’re taking a bet on you. They’re speculating.

Folks who take risks in financial markets: they’re called speculators.

Me, personally, I always get a little nervous when folks start to talk about excessive speculation, or banning speculation. Because, as an economist, I think about the student and HDFC as entering into a transaction in which the student sells the risk of being unemployed, and buys peace of mind in return. HDFC, on the other hand, sells the peace of mind of having money in the bank, and speculates on the student.

If you ban speculation, where’s the hedger to go?

A market needs people on the sell side, but also on the buy side. Without both of these animals – the hedger and the speculator – the jungle called financial markets can’t function. Just like without firms willing to punt on students, the market called placements can’t function.

I’ve yet to meet a student, past or present, who complained about “too many firms coming on campus”. And what’s good for one market, is also good for the other.

No?

Decentralized Finance

A citizen of Sherwood Forest was popular this past week, and things got plenty weird plenty quickly.

Outrage aside, it is better to build than to scream, as Naval suggested on Twitter…

… and if you are interested, read this…

Decentralized finance (commonly referred to as DeFi) is an experimental form of finance that does not rely on central financial intermediaries such as brokerages, exchanges, or banks, and instead utilizes smart contracts on blockchains, the most common being Ethereum. DeFi platforms allow people to lend or borrow funds from others, speculate on price movements on a range of assets using derivatives, trade cryptocurrencies, insure against risks, and earn interest in a savings-like account

https://en.wikipedia.org/wiki/Decentralized_finance

… and watch this:

An update to fixed income markets, courtesy Vipul Singh Chouhan

Vipul Singh Chouhan, who I had the privilege of teaching about six years ago or so, has forgotten more about fixed income securities than I’ll ever know. Immediately after posting the previous post, I messaged asking if he would like to add to the list.

What follows are his recommendations, lightly edited for the sake of clarity. Thanks a ton, Vipul!

  1. Factsheets of all the Mutual Funds released on a monthly basis. I’ve linked to the Morningstar website, but I believe this is available through multiple sources. Here’s an actual factsheet, pulled out completely at random.
  2. Vipul recommends that you keep a close eye on the commentary of the Debt CIO on the current situation of the fixed income markets. See this, for one example.
    Specifically, Vipul recommends you try and get answers to the following questions:

    1. What are they holding?
    2. In what proportion?
    3. In what maturity bucket?
    4. What is the credit rating?
  3.  It doesn’t end there! After getting to know about the credit rating of a structure, read it.  For example, let’s say a particular CMBS (Commercial Mortgage Backed Security) is rated AA+ by India Ratings, go to the website and read the entire two page rationale. Then go and read rationales for similar CMBS structures – peer review, if you will. Poke around! Compare and contrast! Find faults!
    This next paragraph is quoted verbatim:

    “Pester someone like Ashish sir and tell him “Sir in my view this should be AA and not AA+, pls correct me if I’m wrong”. Take feedback from him and improve your analysis on a continuous basis. “

    Well, please don’t take up Vipul on this suggestion quite literally, but don’t ignore the larger point, which is that you must find for yourself a mentor in the subject area you are trying to learn more about, and bug that mentor about learning more. I assure you, this is a vastly under-rated, and under-exploited skill. By me as well, to be clear.

  4. Learn to look for patterns, and learn to connect the dots. This is easier said than done, and you need to bury your nose in these reports for weeks on end, but eventually, you’ll “get a feel” for what you’re looking for. Here’s an example from Vipul:

    In the fact sheet, find patterns, let’s say investment grade AUM has increased in the last few months, while the credit risk AUM has nose dived. Explore the internet for reasons.

    Maybe that didn’t make sense to you. Well, look up the terms and phrases, try to make sense of them, and then ask your mentor the question. The question should never be, “What is XYZ?”. It should be, “I didn’t understand this term, so I looked it up, and here is what I specifically don’t understand about XYZ.” Asking the right question is a great skill!

  5. Again, a straight quote, unedited:

    Among the various structures, which MFs buy what: LAS, CMBS, Corporate guarantee, Letter of Comfort, DSRA guarantee. Understand each in detail. Which structure is preferred by which issuer and for what reasons. Pros and cons of each structure.

  6. With regard to that last point, if you want to really be a part of the industry,  learn each of those terms, once again with a weighted average of research online and follow-up questions with your mentor. The internet will tell you what the terms mean, and your mentor will tell you why it matters. Both are important, and in that sequence.
  7. Vipul recommends that you browse RBI site regularly. Specifically, whether you understand the reports or not, look out for data on the following:
    1. Outstanding G-Secs
    2. Primary auctions of CMBs (s is small, not to be confused with the CMBS mentioned above)
    3. SDLs,
    4. T-Bills. 
  8. Government Securities Market for Beginners: A Primer, which I myself hadn’t read until now (Thanks Vipul!)
  9. And finally, FIMMDA for corporate bond spreads and base yield curve.

Akash (and anybody else interested in this topic), this should keep you busy for days on end. My thanks to Vipul for taking the time to respond so quickly, and for sharing a most excellent set of links 🙂

What should you read to learn more about fixed income markets?

Akash (I hope I got the spelling right, my apologies if I didn’t!) writes in to ask what he should read to learn more about fixed income markets. As he puts it, everything from basic to intermediate!

That might make for a long (and by definition) and somewhat less than comprehensive list, but the good news about a blog post is that it can always be edited! If anybody has additional links, send them along, and we’ll keep updating this post.

In terms of a very simple introduction to the topic, begin here. Very basic, very introductory, and therefore a good place to start. Wikipedia is a modern miracle, and an invaluable gift.

So, what very basic text should you begin with if you want to start learning about fixed income securities? More advanced folks might turn up their noses, but I think there is still something to be said for Investment Analysis and Portfolio Management, by Prasanna Chandra. Never trust my memory, but I think the fourth section deals with fixed income securities in India. If you are an absolute novice, begin there.

Ajay Shah and Susan Thomas have a book that is a very good introduction to financial markets in India in particular, and the book has two separate chapters on fixed income securities in India, one being devoted to the government securities market, and the other to the corporate bond market. Perhaps a little out of date now, but still worth a read.

I’ve not enrolled in, or finished either of the two courses on Coursera I am about to recommend right now. Nor is there any particular reason to recommend courses from Coursera alone. There are plenty of other online courses available. But I tried to put myself in the shoes of somebody who is just beginning their journey in this field, and selected courses from the Coursera website keeping this in mind. That led to the two courses below:

  1. Bonds and Stocks, by Gautam Kaul at the University of Michigan
  2. Introduction to Financial Markets, by Vaidya Nathan, at ISB.

As I mentioned, there is no reason to limit yourself to just Coursera, or just these courses. But these seem to be decent introductions. Here are two links to the syllabi of courses taught at the NYU Stern School of Business that deal with our topic:

  1. Debt Instruments and Markets, by Bruce Tuckman
  2. Debt Instruments and Markets, by Ian Giddy.

A useful thing to do is to go through the course outline, get yourself a copy of the textbooks they recommend, and try and read through the recommended course structure on your own. If you will allow me to be a bit heretical, might I suggest not worrying too much about not following everything all at once? Just read through it haphazardly, all higgedly-piggedly, and keep coming back every now and then to topics that seemed particularly abstruse. By the way, speaking of every now and then, have you considered spaced learning?

 

As a thumb rule, if you are interested in finance, always read everything written by Aswath Damodaran. Visit his homepage, click open whatever links grab your fancy, and read. I am not joking. Here are some blogposts to get you started:

  1. Dividend Yield and the T-Bond Rate.
  2. His favorite novels on financial markets.

All that besides, watch his videos, read his books, read his papers – be a greedy, greedy pig when it comes to devouring stuff written by him. My personal favorites are his attempts to value Uber and Tesla, but it is a long, long, long list.

 

 

Another useful resource is Ajay Shah’s blog. Again, some links to get you started:

  1. Difficult questions about the bond market.
  2. A presentation about developing the corporate bond market in India.
  3. A presentation about the bond-currency-derivative nexus.

I hope this helps, Akash – thank you for asking the question.

 

 

EC101: Links for 27th June, 2019

  1. “Total Expense Ratio aka TER means cost incurred by a fund house to run a fund. It includes management fee, legal fees, registrar fee, custodian fee, distributor fee etc. The major part of the TER consists of management fee followed by distributor fee. The TER is calculated daily and will be deducted by AMCs on the same day, which means your NAV includes the impact of fees on your fund.”
    ..
    ..
    A good article to help you understand how mutual funds make money, what the new SEBI regulations mean for retail investors, and how dependent the mutual funds are (as of now) on the distributor.
    ..
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  2. “…Say’s Law provides a theory whereby disequilibrium in one market, causing the amount actually supplied to fall short of what had been planned to be supplied, reduces demand in other markets, initiating a cumulative process of shrinking demand and supply. This cumulative process of contracting supply is analogous to the Keynesian multiplier whereby a reduction in demand initiates a cumulative process of declining demand. Finally, it is shown that in a temporary-equilibrium context, Walras’s Law (and a fortiori Say’ Law) may be violated.”
    ..
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    Econ nerds only – and perhaps the even stranger beasts called macro-econ nerds only. David Glasner gives us a view of Say’s Law that may actually be (gasp) Keynesian in nature.
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  3. “Why incentives? Economics is based on the premise that incentives matter. Incentives can help by increasing or decreasing the motivation to take up a certain activity, by changing the cost or benefit of the activity. If someone were to pay John enough for each time he hit his steps goal, he would likely begin walking, perhaps even enthusiastically. After all, health consequences are in the distant future, but cold, hard cash can be given in the present. ”
    ..
    ..
    That is from this link – you’ll actually have to download and read the PDF. This excerpt is useful to me because it essentially says that behavioral economics is, well, economics.
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  4. “This view goes something like this – there are no priors (in fact, you discredit experience as being biased – after all you guys have been doing development for decades and we still have poverty and misery in abundance) >> and therefore conventions, latent wisdom, and experience counts for little >> therefore there are no theories >> so we need evidence on everything >> how better to create evidence than look for data >> so let’s do experiments (RCTs) or mine administrative data and understand reality and design evidence-based policies.”
    ..
    ..
    Gulzar Natarajan is less than pleased with Raj Chetty’s new course at Harvard (the first item from 23rd May, 2019’s posting), and I am very inclined to agree with his views. Empiricism is slightly overrated today.
    ..
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  5. “The Baumol effect predicts that more spending will be accompanied by no increase in quality.
    The Baumol effect predicts that the increase in the relative price of the low productivity sector will be fastest when the economy is booming. i.e. the cost “disease” will be at its worst when the economy is most healthy!
    The Baumol effect cleanly resolves the mystery of higher prices accompanied by higher quantity demanded.”
    ..
    ..
    Alex Tabarrok over on Marginal Revolution is on a spree with the Baumol Effect, and having followed his series, I’d say with good reason. It upends several things in microeconomics that we might have taken for granted.

Links for 22nd May, 2019

  1. “Perhaps the most typical thing about Bergstrom’s gambling was that for him, as for so many others, the money seemed to signify something else. Gamblers often describe how, when the chips are on the table, money is transformed into a potent symbol for other psychic forces. In Bergstrom’s case, the action on the craps table seemed, like a love affair, to be a referendum on his self-worth.”
    ..
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    What are the motivations for gamblers? How do they view money? Is it the means to an end, is it a metaphor, is it symbolic? How might the lessons one gleans from reading something like this be applied elsewhere? For these reasons, a lovely read.
    ..
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  2. “Virat Kohli, Mahendra Singh Dhoni, Rohit Sharma, Suresh Raina, Dinesh Karthik, KL Rahul, Kedar Jadhav and Ambati Rayudu are all collectors if you go by their IPL batting. I had mentioned in the copy (which later got edited out) that it is worrisome that the Indian batting lineup ahead of the World Cup has a sort of sameness to it.Fortunately, while they all bat the same way in T20 cricket, they are all different kinds of beasts when it comes to One Day Internationals.”
    ..
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    Beware of relying too much upon data, but that being said, the cricket fans among you might want to subscribe to this newsletter, which analyses cricketing data to come up with interesting ideas about the upcoming world cup.
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  3. “Well, you know what Graham understood, I think, better than probably anyone who had written about investing before him is that there’s a big difference between what people should do and what they can do. Another way to think about this is that distinction between what’s optimal, and what’s practical. And we pretty much know how people should invest. Investing is – as Warren Buffett likes to say “It’s simple, but it’s not easy.” And dieting is simple, but not easy. In fact, a lot of things in life are simple, but not easy. And investing is a very good example. I mean, if all you do is diversify, keep your costs low, and minimize trading. That’s pretty much it. It’s like eat less, exercise more. Investing is just about as simple, but it’s not easy. And so Graham understood that people are their own worst enemy, because when they should be cautious, they tend to take on risk.”
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    David Perell interviews Jason Zweig, and it is an interview worth reading, and perhaps even re-reading. I have linked here to the transcript, but if you prefer listening, you should be able to find out the link to the podcast.
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  4. “Any time a central bank – unless it has a completely sealed closed economy – raises or cuts interest rates, it is taking currency and interest rate risk vs. the major reserve currencies, even if it is not directly buying or selling foreign currency.”
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    A short, clear and concise article about the RBI’s rupee-dollar swap.
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  5. “Diets have changed most dramatically in Africa, where 18 countries have diets that have changed by more than 25 percent. Sugar consumption in Congo, for example, has increased 858 percent since 1961.”
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    A truly excellent visualization – worth seeing for a multitude of reasons: data about nutrition, visualization techniques being just two of them. And that statistic about sugar consumption in Congo is just breathtaking.

Links for 7th May, 2019

  1. “Cyclone Fani slammed into Odisha on Friday morning with the force of a major hurricane, packing 120 mile per hour winds. Trees were ripped from the ground and many coastal shacks smashed. It could have been catastrophic.

    But as of early Saturday, mass casualties seemed to have been averted. While the full extent of the destruction remained unclear, only a few deaths had been reported, in what appeared to be an early-warning success story.”
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    A short read from the NYT about how Odisha was rather more prepared this time around for Cyclone Fani. Makes for encouraging, happy reading!
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  2. “Perhaps the earth has life because it came from other solar systems, seeded by alien probes, and indeed that is what I would do if I were a very wealthy alien philanthropist. If you end up with 100 successfully seeded solar systems for each very advanced civilization, the resulting odds suggest that we are indeed the result of a seed.That’s partly why, to this observer, the most likely resolution of the Fermi paradox is this: The aliens have indeed arrived, through panspermia — and we are they.”
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    An equally short, equally interesting take on aliens and the Fermi paradox from Tyler Cowen.
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  3. “We Are Pro-Technology, but only as a means, not an end. Technology is only as good as our understanding of it, and an incremental approach will save more lives in the near and long term while mitigating the second order consequences of an all-or-nothing approach.”
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    I was sent this by Aadisht Khanna, and while I do not necessarily agree with all of it, it does raise some fairly interesting points – and the manifesto itself is certainly food for thought.
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  4. “This looks quite tough, and there’s a significant chance the company will be valued at less than the debt itself, even if there was a buyer. After all if a buyer is paying that much money, why doesn’t he just start a new airline (or acquire a significant stake in an existing airline) and take over whatever slots, planes and rights Jet had? That’s likely to be much cheaper.”
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    Deepak Shenoy ponders the question of Jet Airways unusually high share price, and is unable to resolve the paradox.
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  5. “Without going too far down this rabbit hole, the following is worth noting: What sport psychologists, coaches, parents and players are prescribing as a model of mental toughness is equally likely to be the success-producing traits of highly successful and highly functional psychopaths. I have worked with a few psychopaths. I’ve seen the so-called attributes of mental toughness in them, which help deliver results on the field. I have seen how fans, friends and the media adore these people. But I have also seen what it looks like when their mental toughness is unmasked as psychopathic behaviour. They come across as being narcissistic and entirely self-serving, compulsive (and clever) liars, manipulators without any remorse and an inability to take responsibility for their errors. These are not qualities we should encourage as general conditions for performance.”
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    A fascinating article in Cricinfo about mental toughness, and how it doesn’t really exist – at least, not the way you think it does.