Syzygeist

Another view

I am spurred to write this week on a confluence of factors, and I do not pretend to know more than the next guy about the future, only that it is ahead of us.

I do want to dispute my former Morgan Stanley colleague Barton Biggs (of Traxis Partners) who went on television two days ago with a prediction that equity markets would soon move up 15-20%, led by technology. This is in keeping with other optimists who say the US recession has ended and the US will return to powering the global economy. After all, who else can?

 

Okay Barton, maybe, but here is another view:

The debt crisis in Europe, the overheated real estate bubble in China, the $5.2 Trillion of debt the US faces in Freddie Mac and Fannie Mae, the million+ foreclosures with more to come, are all conspiring to alert the world to the obvious:

TOO MUCH DEBT (and no clear will or way to pay)!!!

This debt has risen – seemingly central governments’ only antidote to trouble – while relative earning power in Europe and the US continues to go down. Cheap labor in China/India/Asia, fueled by hundreds of millions, is not going away fast enough, soon enough. So how are these government debts to be paid off? Greece has already shown, and California (and Michigan, Illinois?) may follow in this, that people who have benefited from profligate policy will not suddenly submit to austerity. (And even if they did, the economy would not then grow enough to pay back the debt.)

I watch as the gold price continues to creep up and I am thankful that I bought it when it was still only $900 an ounce. I am further encouraged to affirm that gold is not historically as much an inflation hedge as it is valuable during deflation. To see how gold shares might act in the upcoming credit crunch, please consider a chart of Homestake Mining in the 1930's (courtesy of Gold Eagle.)

 

I like the way this chart calls into sharp relief a line of reasoning that I have been following: if governments print too much paper, eventually its value erodes and people look for something more durable. This is even truer if they want to hoard something of value as the economy stagnates. Historically, that has meant precious metals, and the Homestake chart is powerful evidence.

Barton Biggs may be right that another up-move is due in US equities because Europeans seeking a haven from their falling currency and lagging markets may choose the US. But that will not pay off our unprecedentedly high and rising debts nor counter the effects of diluted currency, a game which the European Central Bank and IMF have now fully joined with the US Treasury. US equities may seem to appeal for the moment, and the dollar may be the “least worst” of various currency options, as an analyst put it recently during a Bloomberg interview.

But it’s bad, and it’s going to get worse.

Capitalism After the Crisis

April 26th's news (see WSJ Page 1) on how Warren Buffett has intervened in the Congressional debate on derivatives is not good news. It underscores the point made eloquently and persuasively in the recent paper “Capitalism After the Crisis,” by Luigi Zingales, a professor of finance at the University of Chicago School of Business.

Zingales’ warns that the nature of American capitalism is at risk. Financial industry interests – as distinct from the interests of a fair and open-to-competition market – are becoming too powerful and risk being unduly served by government. America is becoming more like Europe or many Asian and South American markets, where it is not what you know but whom you know (or can influence to your way of thinking and in your interest).

Buffett’s latest intervention - in the interest of his holdings and the interests of non-transparent financial practice – is a powerful signal of this financial influence on the political process.

It may be that Obama can resist Buffett on this, but I would wager not. And will the resulting legislation actually serve the public interest in a fair market? Zingales is asking us to consider what is really at stake here, as a Congress heavily supported in campaign contributions by financial interests (note Goldman Sachs et al), and influenced by lobbyists (is Charles Schumer a handmaiden in disguise?), is about to decide where the power will lie. We should remember that Warren Buffett is an investor with investors to protect, and a P&L to preserve.  And P&L is not an acronym for public interest.

The Zone of Expectation

At the encouragement of a key client with whom I have been actively working for the last two years, I am starting the New Year with a fresh blog. Count me among those who fear there are too many blogs out there. We are information over-rich and over-run, and short on time. Could we please have one simple insight once in a while that actually helps?

Don't count on one here. But I am emboldened by a recent exercise undertaken just before Christmas with a crowd of Morgan Stanley-Asia executives who are variously still with the institution, or not, since they last worked together there in 2004. A scenario look into the near-term future produced what for me was - is - a real insight.

The topic that drew us together - and an interesting framework of uncertainty that we employed - was the dynamic between China and the US. These have been the two fierce pedalers (not to be confused with peddlers) of the global macroeconomic bicycle. 

That the bicycle nearly fell over in 07-08 was a function of the faltering dynamic - the US economy, fueled by consumer credit, buys low-cost-labor Chinese manufactured goods, and the Chinese accept dollar-denominated assets in return. And the global financial world turns.

With the value of financial assets suddenly plunging, and the dollar weaker, and credit shut off to US small businesses (the growth engine of the US economy), everything had to pause, and the bicycle began to tremble. That it did not fall over (yet, some would say) was credit to government liquefaction - governments print money and pump it into the economy fast.

Morgan Stanley Asia Chairman Steve Roach was on Bloomberg television moments ago to warn that the worst may be far from over - that the governments that pumped money in should begin to suck it out - now - to avert another dreaded bubble, and the bursting that necessarily follows. (Roach had been invited to our convocation at the Asia Society, but he had been unable to attend. Still he sent stern warnings about an over-stimulated Chinese economy and troubles to come.)

The insight that came to me during the session was an echo of history. In a Japan 1997 Morgan Stanley scenario exercise, a roomful of similar Japanese and Asia market experts proclaimed two key uncertainties: whether the Japanese economy would recover or decline, and whether Japan's governmental institutions would instigate meaningful reforms (or remain mired in bad practices.)

The scenario technique produced its own "zone of expectation" from the collective insight. This zone suggested that, as one participant put it, "there is no plausible upside for 3-5 years." Based on that view, Morgan Stanley ducked a proposed acquisition of Yamaichi Securities (the one that cost Merrill Lynch $1.2 billion in losses) and stayed highly profitable in the next three years in largely merchant banking activities. It paid off richly not only to see how things might not get much better but to commit to that view and behave accordingly, which Morgan Stanley Japan did under the leadership of Thierry Porte at the time.

At the Asia Society, the group discovered a similar "zone of expectation" for the global economy. Given the issues facing China and the US, the zone that emerged was implicitly negative, suggesting that for the next 1-3 years both economies might struggle and their relations might be corrosive if not combative.

Ignore this zone at your own risk.

This is just one scenario, of course. But I found myself thinking that I (and others) should take seriously the collective intelligence and intuition gathered in the room - representing about 1.5 centuries of recent financial market/Asia experience. Consider that the group might have seen clearly, if through a glass darkly, that the negatives for now outweigh the positives.

So what? Be cautious about the "Asia rescue" story that is being told, and "recovery is here" proclamations. The scenario treatment can bring to bear enormous collective insight in ways that top-down organizations, individual "experts" and off-the-shelf consulting approaches do not. So my opening salvo in 2010 is - "recovery buyer" beware.

How "New" this year?

I do not like to bring this up on the dawning of the New Year (it's barely Jan. 5 here in Brooklyn) but a serious challenge for 2009 will be our willingness to think the unthinkable in realistic and creative terms, and act on our convictions despite all the uncertainties. No one is suggesting this will be easy.
I woke a little before 3 a.m. thinking about a client who did not call me back last year after I led a session with a roomful of his clients. They were mostly CEOs in the information industry in whose companies his firm holds significant private equity stakes. I had been retained to stimulate them to "think the unthinkable" about their businesses for a couple of hours before their "real" meeting began.
It was early October in '08. The "unthinkables" were mounting: AIG's bailout, Wachovia, Lehman gone bust, Bear Stearns, Fannie Mae, Freddie Mac, to name a few, with WaMu then the largest US bank failure ever. Reserve Primary had "broken the buck" and people were beginning to wonder, as investors pulled $130 billion from US money markets in two days, well, where is a "safe" place to store cash?
Still, interest rates had not yet dropped nearly to zero and Bernie Madoff was not yet a worldwide household name. I can't detail the precise totals of new currency printed by the US government since the crisis began to unfold, but please note: it took two centuries for US monetary base to grow to $800 billion and in the last three months it has nearly doubled to $1.5 trillion - an implied annual expansion rate of 300%. This fact alone sets in motion its own new set of uncertainties.
These musings led me to recall another meeting in the spring of 2006, in which a convocation of  managing directors from one of the Top Five global financial institutions wrestled for two days with two major uncertainties likely to influence their business – would the US-China dynamic as the primary engine of global growth remain positive and healthy, or decline in serious ways? Would the US capital markets model (political, economic, regulatory) remain dominant in globalization, or come under attack, and perhaps decline seriously? A cursory look at the matrix implied here quickly revealed the dreaded "lower left quadrant" scenario, where a deteriorating global growth dynamic would converge with slippage of US influence in the world. What might happen to them in that world?
(Sound familiar?)

The MDs quickly evidenced antipathy for the matrix and the process of thinking through its implications, perhaps because their business model – and their livelihoods – would become quite unpleasant (if not untenable) in at least two of the scenarios implied (particularly the one that has in fact developed, in which numbers of them have lost their jobs.) This is not surprising in one sense, since the most unthinkable circumstances are often those in which we won't do very well.  In psychology this is often referred to as denial.
What I watched unfold among these bankers when faced with this particular scenario framework was a two-step cognitive process.  The first step involved an intense interrogation of the "rightness" of the framework. Were these really the key macro uncertainties?  Once the framework had been explored and discussed, the second step involved painful deliberations about whether this thinking process, if pursued, could possibly suggest prudent actions.  While the discussion was eventually allowed to proceed, general resistance managed to preserve the bubble of group think. Whatever else might be true, they were not willing to take these possibilities seriously.   This particular crowd of leaders could not, or would not, look down into the dark possibilities that were clearly latent in the world system. I left the meeting thinking about reasons to short their stock, which has fallen about 65% since that day – one of the truly valuable investment insights never expressed openly (til now) and not acted upon. (Was I, too, in denial?)
Since then, several different versions of these scenarios have been broadly used by various practitioners to encourage executives to think "outside the box" of their own official futures in 2008-10. Not all are equally capable or willing to take this on, useful as it may be.

I am trying to get at something here, which came up again in a very recent meeting with a group of bankers from another top-tier institution, charged with expanding capital markets businesses. The most senior and outspoken member of the group asserted that the firm had excellent plans in place that "just needed execution!" I asked politely whether it was more important to prosecute those plans or - given how different the world had become in recent months - try to figure out what in their operations had to be radically different? What did they need to stop doing, or start doing, that would amount to real change in behavior? This question provoked uncomfortable silence, but several of the people at the table nodded in a way that suggested they might proceed down this path if enough of them dared to do it.  
In any engagement of this kind, we may struggle to find exactly the right set of uncertainties, but I do not see how most businesses can proceed in 2009 without aggressively addressing this question: Given that things have become so different from what we imagined, and unprecedented in ways likely to become more so - don't we need to radically rethink the assumptions under which we have been operating? Now?
This is the challenge many of us face in this New Year. "New" arrives with a capital N in more ways than anyone bargained for. It demands more new thinking – and new acting – than in any recent times past. I suspect that many people remain unprepared for the efforts involved, but the refusal to think about radical change is almost certainly not the answer.  The best we can do is to begin.

Let's call Cox a coward as well as incompetent

I am late reacting so I will keep it brief. Given the magnitude and duration of the Madoff fraud, the SEC has to be culpable of gross misfeasance. They had plenty of reason to investigate and they didn't. If this were China, Christopher Cox would be executed or sent to a very unpleasant faraway jail for a very long time. If this were Japan, he would have resigned and, if a man of honor, might have eviscerated himself to set things right. But this is the United States at the end of a long bull run, so Cox just goes on television to announce that he is "terribly disappointed." Hey thanks, Chris, that should be fine.

See NY Times on Cox/Madoff

High Time for Zimbabwe

It's high time that George W is finally calling on Zimbabwean President Robert Mugabe to resign, as inflation there hits a reported 231 million percent (really?) and cholera takes hold with 589 reported cases. (Please look up the history of cholera to confirm this is the "Black Death" of yore.) Bush has always been lame, and never lamer than now, duck-wise, but he is late to this party if he ever intended to express moral and political outrage in a timely manner. Could courage be a factor? It can't be a coincidence that he does it now in the shadow of a black President-elect. Obama gives the U.S. added moral legitimacy in attacking black politicians for racism and destructive social policies, but the US as a post-slavery state has always been a bit compromised here. (The last time I checked the U.S. could still boast the highest per capita prison rate, of which non-whites are disproportionately in residence. Please check those numbers the next time you're googling, and they may make you question the efficacy of current drug laws.) Anyway, I applaud Bush's move - better late than never. And I fully expect Obama to go where no U.S. President has effectively gone before in helping Africa to modernize, peacefully, for the sake of its own peoples.

See NY Times on Cholera

Also BBC News on Cholera and political unrest

The Queen Who Couldn't? (Or Wasn't Allowed?)

(Note to readers: The following is an allegory of Wall Street. Correspondence between this tale and the recent firing of Zoe Cruz by Morgan Stanley CEO John Mack is coincidental beyond the author's capacity to explain.)

Long ago and far away a girl child was born of Greek parents.
The Gods had been very generous to the girl. She grew to be brilliant, beautiful, passionate and dedicated to the pursuit of ideas, and of excellence in herself and those around her.
The Gods in their generosity decided that no one should be gifted without any burdens, and so they made the girl impatient and outspoken. As time went by, the girl grew to become a highly successful foreign exchange trader and risk manager in a Wall Street money-machine world dominated by men.
 Some loved the woman because she was brilliant, some because she was beautiful, and some because she had an extraordinarily joyful laugh that had the power to erase negative moods of those close to her and fill others with light.  But for some of the same reasons, and also because she was a woman, a number of the more senior men hated her. None hated her more than those whose jobs she threatened or whose income and influence she might overtake in her ascent to the throne. And sometimes when her brilliance flashed in a way that made men feel small or inept a current of hatred ran in the corridors and collected in the corners of the castle, as if waiting.
It came to pass that after some years of stellar performance she was promoted by the king of that time to rule the very region of the kingdom that he had ruled before ascending the throne. He had ruled with a mixture of brilliant charm and brutish cunning uncommon among leaders of his ilk, one of whose responsibilities was to prepare the next ruler. For in these Wall Street castles, those who ascended were privy to unspeakable wealth and therefore often protected their personal riches or reputation before the good of the kingdom. Some courtiers in the castle reviled his choice while others rejoiced to see this luminous woman on her path upwards. It is too simple to say that the richest and most powerful of the men felt enmity while the largely underpaid or legitimately ambitious women felt uplifted, because there were many on both sides of the gender line who were challenged and threatened and inspired by her. So it was not surprising that whisper campaigns wafted through the castle at her expense almost from the beginning.
It further came to pass that the king who promoted her was driven out by a new king, which left her among lieutenants who had been appointed and promoted to positions of influence by the first king. While they pretended to serve her they also schemed to block her ascent to the throne, for none wished to be governed by a queen, however gifted she might be. So they pointed to her emotive tendencies and overtly expressed opinions that they could fault, watched for any serious errors they could pin on her, and bided their time.
 For a while she prospered under the new king, who admired her, but the courtiers soon conspired to drive him out, and to everyone's surprise the first king returned.
Of course things could never be the same between the returning king and her, for both of them had changed. She had grown closer to being a queen in her own right and he was battle-scarred from fighting to stay on thrones he had occupied among courtiers he could never fully trust. So should we be surprised to learn in our story that he would try to get rid of her in the first major war that made her appear weak or unprepared to rule the kingdom in his place? Because that is what happened, and the people of the kingdom, amid all the whispers and their own prejudices and fears - not just about the nature of the king they had versus the king or queen they wanted, but about themselves - are still trying to determine what happened in the final days, when the king accused her of failing to serve, of being ineptly blind to some new danger, and drove her out. Was she really the gifted one all along, destined to rule but made a victim of a powerful man's whim? Or did she bring it on herself in her own human frailty, and then fall victim to those who always wished her ill? Many had opinions but none seemed able to settle this vexing question, which was in its way a mirror to all their own fears and disappointments about life in the castle of wealth, where greed and scheming at the top overran compassion and fairness, and stories were born not so much of truth but in the interests of the richest and most powerful, who would always shape history to their own ends.

A Case for Vision, Fearlessly

I have been working for months with a top level executive who has been redefining his strategic challenge in the context of the last 10 years on Wall Street - what he feels he has and has not achieved. He wanted to reset the bar for himself and the organization he heads, personally, professionally and globally. And he has set out to do so in a visionary way.
Now he must convince the organization above and below him that this is the way to go - at least for the next four years.
 Along comes the most extreme crisis in financial markets in his lifetime - a perfect storm of collapsing asset values, weakened balance sheet and challenged business models. How should he handle this confluence - of ambition for the organization, and himself - with conditions that incite fear amid uncertainty, as well as greed amid perceived scarcity? If the pie is to shrink - as it surely must in the near term - how is he to get other leaders in the organization to step up and work together more productively and collaboratively than they ever have? If REAL change - a transformation and restructuring partly demanded by adverse markets - must be their response, how can they define and deliver this optimally?
Presumably this challenge faces many leaders in many organizations in 2008, not just on Wall Street. Let's assume we know we must restructure in the face of collapsing budgets. How to do that in a way that does not sell out the future for the present, nor backslide to old or timeworn practices that must be replaced by new ways of operating?
This requires clear intention, conviction about the path forward, and commitment to follow it.
We have evidence that short-term thinking amid profitable times has too often failed to build foundation for the future. What about short-term thinking in UNprofitable times? Won't that produce even worse results for the medium to longer term? The danger is that companies will fight to survive to see tomorrow, only to discover on the day after they have either eaten their seed corn or failed to plant for the next harvest, whether in human resources or technical capability or investing in markets for the more distant future.
These challenges can be addressed by conducting the right strategic conversations at the right levels of the organization - top down, bottom up and side to side. Executives and managers must:

• Clarify strategic intention (often scenarios help here, provided a vision has been set);

• Define the sacred (profitability is only one index);

• Understand the commitment (experience and talent are just two dimensions of required organizational capability); and,

• Act to be, where leadership by example is a sine qua non.

I find myself working hard with my client to identify and address the many dimensions of the challenge, some transparent and some opaque. In the perfect storm you must determine what is the next right thing to do, and then you must do it right. Much of this is in the content of your plan and how you communicate it. You must make sure your vessel is ready to go the distance, and your crew with it. This means you have thought about the risks, the range of uncertainty, and the actions that ensure the present AND the future. Failing to acknowledge the darkest possible scenario now - a real depression? - would be foolish. But in such times of stress strategic advantage is to be gained by thinking fearlessly about the future and bringing along the people in your organization needed to help create it.

The New Era of Imagination

I stood in the voting line in Harlem at 118th Street and Malcolm X Boulevard on Tuesday morning and watched a small boy react to his mother's disappearance into the polling booth. She had just asked the poll-watcher's help because, she explained, "I've never voted before." The boy looked apprehensive as the curtain closed behind her and I encouraged him to follow her in.
"You'll be glad you did," I said. "This is history being made today. You'll never forget this."
He looked at me with the expression a child often has when he doesn't know what to make of a stranger. Beside me an older woman looked across at the boy, who might have been six years old, and added, "Not only that - this means maybe someday you can be President."
Around me the sound of murmurs rose in assent. It occurred to me that I had not been so surrounded by African Americans since attending a church service in Arizona a few years ago, and this felt a bit like that church to me, with an unspoken prayer in the air. The convocation of voters in Harlem was unprecedented, as several had told me. They had never seen such lines of voters here, ever.
So now we know how it came out: the "unthinkable" for some, but much dreamed of and hoped for by many others, punctuated at the end by President-elect Obama's reiteration of his battle cry, and a reminder and encouragement to any who would listen and respond:
"Yes, you can."
As he repeated it at the end of his post-balloting speech on Tuesday night, I felt chills to think what it might mean if taken up in all its implications around the world.
"Yes, you can."
As a young college graduate I worked with delinquent and disadvantaged youth in Massachusetts and once heard a social worker say "a young person cannot aspire to a future they can't imagine." I believed it then and now. Obama's imprecation made me think about all the aspiration that might be liberated in the world by his election. What if every young person - whether of color or not - who grew up under a sense of oppression by caste or class or race, could now imagine...  "Yes, I can."
What might they aspire to do?
Well, the answer must be: whatever the question suggests to you and however it touches your desire and will. The new US president has appeared as living proof that he could, a man of 47 whose father was Kenyan and mother American, and who as a youth was fatherless, and footloose, but was aided by the love of good people, and propelled by the earnest application of his mind and heart and the purposeful determination to succeed.
What if we could multiply all those young people, everywhere, by newly imagined possibility and the levels of aspiration it will conjure up? What might then be possible? And what more might be possible if the US reclaimed its moral leadership in a world desperate to make the most of every individual's talents and efforts.
I keep thinking about this, with a sense of hope, and I asked the question over lunch to a fellow banker, who also sees America's place in the world, and the world itself, shifted momentously by this election.
"What might be possible?" He smiled at the question.
"More than twice what you're thinking," he said. "Whatever it is."

Vote Obama

It occurs to me that it may be hard for me to reach anyone "undecided" in this campaign - at least among my friends, voluntary readers and business associates. This brief blog, however, is intended for them, wherever and however this may find them.
I do not personally find it a close call between Obama and McCain, for a host of reasons. And as a child (politically) of the 60s I am reminded of my feelings about JFK, and his leadership style. One candidate for me is, as JFK was, the candidate of hope, aspiration - spirit, if you will, that encourages me to believe that better, not worse, will be around the corner if we choose him. And certainly America in my lifetime has not previously had greater need for the best leadership it can get from its political process.
I will borrow a few phrases and ideas from the Economist (Nov. 1-7), which reached the same conclusion, apparently for some of the same reasons.
We follow from an administration "whose war on terror has left America less feared by its enemies and less admired by its friends." And the state of America's reputation in the world now means the new leader's challenges are  "not just a matter of handling the rise of India and China, drawing them into global efforts, such as curbs on climate change; it means reselling economic and political freedom to a world that too quickly associates American capitalism with Lehman Brothers and American justice with Guantanamo Bay."
I belief Obama has demonstrated a greater capacity for doing that than McCain, by a wide margin. I also believe, after living in the United States on both coasts, working as a journalist and in business from the Central San Joaquin Valley to Wall Street, and abroad, and after months of campaign-watching, that this is election is, as a business colleague of mine (and a native of the Middle East) observed, "America's referendum on racism."
I don't believe that if Obama were white we would hear some of the arguments raised - "elite?" "aloof?" inexperienced?" - about a man who was head of the Harvard Law Review and early on committed himself to social and economic change, eventually waging such an astonishingly effective campaign that has, as the Economist notes, "out-thought, out organized and out fought the two mightiest machines in American politics - the Clintons and the conservative right."
So for me the choice is clear, on many counts. I have reason - and every hope - to believe that Obama may win on Tuesday. But I would not want to think I had failed to raise my voice in his favor in the waning hours, if only to reach one or two people who might be persuaded that this is the right thing to do in 2008 - for America and the rest of the world.