Drugs, Death and Demand

I read in the news yesterday that Indonesia executed 8 men for drug trafficking. From watching movies over the years, I have also come to know that drug possession and trafficking is a serious crime that is punishable by death in countries like Indonesia, Malaysia (and maybe even Singapore, though I am not sure).

I have always been strongly against anyone who traffics or sells drugs – because the only reason I see why these people do what they do is greed and money-motive. It is just not excusable to traffic or sell drugs knowing that what they do is affecting young people and families in extremely horrible ways. It tends to destroy a society and its culture. So it is just not excusable.

All this said, I should also note that I am generally against death penalty. I just don’t believe that the state has the right to kill people. It seems barbaric and societies need to have an honest debate if these criminals should be executed even if they seem to exhibit a genuine willingness to change for the better and rehabilitate over the course of many years. Yes, some criminals don’t change and we all have to have a debate on what to do with these repeat offenders and how to punish them or put them away from society. But there could also be criminals who could be rehabilitated. Two of the eight persons executed in Indonesia are Australians and this is what the Australian prime minister had to say – These executions are “unnecessary because both of these young Australians were fully rehabilitated while in prison.” Now, we will not know for sure if they were fully rehabilitated or not. But what if they were? – especially considering that they were arrested ten years ago when they were aged 21 and 23.

Now the other reason why the criminal justice system in many countries still has the death penalty is to stop future offenders from committing the same crime – basically, these countries argue that the death penalty acts a deterrent. It may or may not be true depending on the crime. But what needs to be studied is – is the death penalty the only deterrent?

Now coming to the drug problem, I think countries are fighting it in the wrong way. As like in any product, as long as there is demand, there will be supply. We kill one supplier, then the next supplier pops up. The more we kill, the price of the product increases, as the demand remains the same and supply dwindles. It is just a matter of time before another supplier (this time well organized) fills in the gap as the risk/reward ratio would have gone up. So we will kill more and the cycle would just continue thereby creating mafias and drug gangs along the way. So I believe to address the drug problem, the demand side needs to be addressed – meaning, demand should be brought down (almost to nil would be ideal) along with the supply. How to bring down the demand is a matter to discuss and debate by the societies concerned - but I would recommend a little civilized way rather than a barbaric death sentence.

Reference:

1. http://news.yahoo.com/australia-cant-more-death-row-prisoners-indonesia-055550357.html

The Golden Manipulation

India today celebrated the “gold festival” – the so called “Akshaya Tritiya”, where it is considered to be auspicious to buy or gift gold to friends and family. And I remembered a conversation I had with my mother last year. I asked her at that time when did she first come to know about this festival? She told me a story that around 15 years ago, one day she and a friend of hers went to a jewelry-shop in town to purchase some silver-based ornaments for the friend. And suddenly the staff in the jewelry shop recommended her and her friend to buy some gold as well as it was Akshaya Tritiya. My mom and her friend went – “What? What’s Akshaya Tritiya?” The staff explained. My mom and her friend weren’t sure if what the store-staff said even made sense. They returned home. Some jealous neighbors who had come to know what that day was about thought that my mom was out to the store to buy gold and thereby to buy “luck”. So they rushed to the store to buy some gold (my guess is they would have bought one or two gold coins). And so spread the word to a few in our street.

Fifteen years later, the entire town rushes to the local jewelry shops to purchase gold today. There are literally lines waiting outside the shop to enter. In my view, this is a classic example of manipulating consumers by a mix of religion, culture, sentiments, myth and superstition.

Now, gold mining in India has died a long time ago. Almost all gold in the country is imported. And if one has read any gold related news in the past month or so, the constant news was that this festival was calculated as a factor to support gold prices worldwide. India is the largest gold importer in the world and consumes, by some estimates, close to one-third of all gold produced globally.

In March alone, reports indicate that India imported 125 tons of gold – now in dollar terms that is around $4.8 billion. India’s trade deficit in a year stands around $200 billion. And gold imports make roughly 10% of that deficit.

When I was starting to think how the world’s gold industry has manipulated the Indian consumers by leveraging their weakness, I remembered something else my mom had said – that some jewelry shops are now promoting Akshaya Tritiya as a 3-day festival. And I know that it is not just the world’s gold industry, but the Indian jewelry industry too.

Bloomberg media

So as a person who watches Bloomberg television channel often, and as someone who frequents the bloomberg.com website to update myself on the day's financial and market news, I was taken aback by something I noticed today, or rather something I didn't notice. One of the major news in the markets today, albeit with less impact, was an outage of the bloomberg terminals that caused a disruption for traders worldwide. Here is an excerpt from an article in today's Wall Street Journal (http://www.wsj.com/articles/bloomberg-terminals-go-down-globally-1429262782) - 

"Bloomberg LP was hit by a massive computer-network outage Friday, forcing its terminals out of action for hours and leading to major disruptions for traders around the world who rely heavily on the machines.

The blackout, which started shortly after European markets opened, also caused the U.K. to postpone a scheduled multibillion buyback of government debt. The £3 billion ($4.5 billion) tender was rescheduled for the afternoon."

And here is an except from an article in today's New York Times (http://www.nytimes.com/2015/04/18/business/dealbook/bloomberg-terminals-outage.html?_r=0) - 

"The failure at Bloomberg, which provides data and trading services for 325,000 financial professionals around the world, effectively shut down some parts of the capital markets and forced traders to confront their level of reliance on the Bloomberg system."

Now, I was actually watching Bloomberg television channel this morning - almost for an hour just before the financial markets opened and Bloomberg never reported this news. I actually first found out when I accidentally switched channels to CNBC which had this "breaking news". I thought I might have missed this reporting on the Bloomberg channel when I was busy enjoying the taste of my morning coffee. But then I went to bloomberg.com and still didn't see this news anywhere. And now again in the evening, I checked the site and even googled for it - but I don't see it. I just don't see it. I don't know if it is buried somewhere in the website under the pile of news, but I don't see it.  

I have had great respect for bloomberg media, but if they did not report this news or under-reported it, then I am afraid that I just would have lost a little bit of respect for them. 

Netflix

Netflix: is a company I admire; it’s product I enjoy; its stock I watch with envy. Just five years ago, a Netflix share was around $100. Today, it closed at around $560. That is a whopping 460% rise in the share price of the company. Just from the beginning of 2015 alone, the stock has risen more than 60% - that is, in the last 4 months.

This is a company where you could have the “felt” the growth over the years – a company that grew almost without any formidable competitor. I have to admit that I have been a Netflix customer for less than two years now, but even I “felt” it in this time period. As cable channels grow boring and repetitive filled with commercials every day, Netflix becomes interesting with ever changing content. Recently, I have also noticed that the content quality has vastly improved. What’s more? - For a crime/mystery/thriller fan like me, who is very much into the details of every scene and dialogue, the “rewind” option comes handy, which I don’t get it in regular TV. And that is just one lovely option amongst many.

Moreover, Netflix has a lot of room to grow in international markets and the company has tested only one kind of revenue streams so far – the subscription model. All this make me drool for this stock. And by the way, I have to admit that I have entered and exited this stock once with a small profit in the past. But I question myself: why did I exit so early? First of all, I entered this stock because of enormous growth potential. But I exited the stock (in hindsight too quickly – it was relatively a quick in and out) because of some of the same reasons why I won't enter again today –

·        The stock is trading at 130 times its earnings. That’s too high a ratio for me to be comfortable with.

·        I fear that the potential future growth in the international markets is over-estimated. Yes, in Europe, Japan, Australia and New Zealand, I see enormous room for growth. But in other Asian markets, I fear that Netflix might face a severe competition from piracy. Lack of proper high-speed broadband infrastructure in most of the Asian and African markets is not even discussed in Netflix’s strategy. And what about local content and their costs? And what about competitors in these international markets from local businesses? Like I said, I still see a lot of room for the growth in subscribers, but I just fear if the expectations are running too high that potentially could not be met due to the above mentioned reasons.

·        Competition is starting to pop up. I am amazed that Netflix has had too little competitors so far – who, by the way, were not even close to Netflix’s brand and growth. But I see that changing. Amazon Prime is a prime example. At first, I shrugged it off. But with their package model – where reduced rate (or free) retail shipping combined with video-streaming looks like it is working. Going forward, online shopping is going to be the norm, and amazon is well positioned to capture these twin markets of online shopping and video-streaming in one package offer. My opinion is that – currently, the pricing model of amazon is crippling its growth, but over-time, I think they might be able to work it out – especially given the fact they have multiple businesses under the same brand - which they can leverage.

·        Apple/HBO product could turn up to be another formidable competitor.

·        I tend to agree with people who say that Amazon or Apple/HBO need not necessarily cripple Netflix because the customers might go for both Netflix and amazon (or HBO) instead of choosing one among the many. But my problem is that this fact is already priced into the stock.  And what about more competitors? I am thinking that there is going to be many more companies before new competition fizzles out. I know Netflix has a first-mover advantage in the market, but the companies that will be entering this space in the future are ones who already have the infrastructure or will move so fast that it will be difficult to see a significant time-lag (remember, this is based on internet technology and not machine parts production).

 All this being said I still love Netflix. I so badly wanted in. In fact, an analyst recently mentioned that the stock could go to $900 a share. I might be completely wrong and would have missed a great opportunity, but because of its enormous price tag for a share where all the positives of the company are already priced in, I fear any negative can significantly bring down the stock price. Netflix has mentioned that they might do a stock split preceded by possible dilution – if they do, depending on the diluted price, I might look for a good entry point. But for now, I am going to sit on the sidelines while enjoying my Netflix shows.    

Monetary policy and financial stability

With very low (near zero) interest rate setting in many of the advanced economies, there have been many discussions recently (check this link) on if monetary policy should even be used as a tool to maintain financial stability? Many experts argue that any risks to financial stability is better handled through macro-prudential tools (such as regulations, oversight, capital reserve requirements etc.) and the monetary policy of setting interest rates and controlling money supply in the economy should be used only to achieve price stability and full employment.  They argue that any meager benefit one would get by using monetary policy tools to address the risks to financial stability (such as asset bubbles) is not worth the cost of losing price stability and/or full employment.

Now, in my view, there is partial truth to this, but only partial. There are lots academic papers that dwell into this, but we don’t have to go that far. Just by looking at our own bank statements, we could come to the conclusion that holding money in the bank today in, say for example, US, is guaranteed to give us a return that doesn't even exceed the inflation rate. In essence, this means that we are in a negative real interest rate setting. To put it in other words, holding money in a savings account today that barely gives 1% return annually is equivalent to losing the value of that money to inflation. So naturally, every individual is forced to chase assets that would give them a better yield. And how do they do it? More importantly what vehicles they have to do this? – stocks, bonds and real estate are the most commonly used vehicles by an average investor to make some returns on their capital a.k.a savings!

Now what is the basic definition of price inflation? – too many people chasing too few goods. So again, too many individual investors (a.ka. retail investors) chasing too few high performing assets inflates the price of these assets, thereby forming an asset bubble. And when asset bubbles form, many individual investors who were forced to invest in these assets, have a false sense of economic security – they see their net worth going up every day (not knowing why and not understanding the fundamentals) and start to take a lot of risk to further improve their net worth. It gives them a sense of comfort to take out loans (with the assets as the collateral and note: no amount of financial supervision can determine the "real" value of an asset other than the market value of the asset itself) and misallocate capital. This was one of the main reasons for the 2008 financial crisis (albeit that crisis had more to do with failure of regulators and financial supervisors to prevent banks from taking excessive risks where people who shouldn't have been given a loan were given a loan). But as you can see, monetary policy mistakes can also lead us to the same situation as monetary policy affects short term rates, which have an impact on your bank rates. In essence, a monetary policy that punishes savers is never a prudent policy in the long run. No nation or individual can survive indefinitely without adequate savings. And without a proper rate of return on savings for individuals, the misallocation of capital will continue to occur.

The problem currently is that monetary policy is in itself is seen as a solution to a financial crisis. It never should be that way. Monetary policy should only act as a cushion until fiscal policy catches up to recover the economy. The current zero interest rate environment should be seen as just that – a cushion and not a solution.

So to conclude, in my view, it is not whether monetary policy tools or macro-prudential tools should be used to address risks to financial stability, but rather both these tools should work in tandem to achieve an overall stable financial system. 

Chinese stocks make me dizzy

I am extremely worried about the Chinese stock markets. The growth in the value of the Chinese stocks has been explosive and never seems to back down. For the last few months, I haven't seen any fundamentals supporting such growth in the Chinese stocks other than pure speculation - speculation that China would introduce some sort of stimulus to offset any weak economic performance.

My guess is that part of the appreciation in Chinese stocks is because the market is young - meaning, there would probably be many newcomers to the Chinese stock market. And those newcomers, per my guess, are chasing the stocks. Is there a bubble forming in Chinese stocks? I think so. And probably it is a good time to get out. But with China's massive forex reserves, they so far have always beat any fundamental logic that would call for a correction in the Chinese stock prices. 

One of the best ways to prevent any massive bubbles in the stock market and to allow for a gradual market correction is for China to allow more appreciation of its currency. The sooner they do it, the better are the chances of preventing China from becoming another Japan. Normally, the story has been that China intervenes in the currency markets to keep its currency devalued. But recently that might have not been the case and instead the dollar's strength and europe's QE might have been the reasons for yuan's weakness more so than China's intervention in the currency markets itself. If so, China's intervention might be needed again- but this time not to weaken the yuan but to strengthen it by selling dollars in the open market. If that is done, it would be beneficial to both the US and China and in fact the world economy as a whole as that would adjust the imbalances to an extent that we are starting to see in the world economy today.