Leading Indicators of a Credit Crisis

I recently got a credit card from Capital One and shortly after it arrived I received a brochure from them that contained the following:

These are three stickers that I’m supposed to put on my calendar to remind myself to pay my credit card bill.  Am I the only one who finds this a little weird?

Think about it.  You’re a credit card company.  You are basically lending people money with the trust that they will pay it back.  If you want to avoid losing money you try and find the one’s most likely to pay their bills.  Those folks don’t need stickers for their calendars.

But then you get greedy.  You decide that you can make a lot more money if you can find people who will actually pay their bills, but do so late-because then you make money on interests charges and late fees.  These people are a lot riskier-how can you accurately model who is going to pay their bill late versus never pay at all?  In order to appear as a good corporate citizen who helps people become financially responsible, you give them stickers.  And if it all blows up, at least this way you can tell shareholders and Congress that you were trying to help people become financially responsible, right?

So here’s my suggestion.  The next time you sign up for anything that has a monthly payment plan and you receive sticker, short that company’s stock.  And get your money out of the stock market.  For evidence with a sample size of one, here’s Capital One’s ticker; down 60% from it’s peak and has gone nowhere for five years:

Thursday Morning Epiphany

Every day I walk past Rozzo & Sons fish wholesalers. It’s a furnace of nasty smells on Ninth Ave. By the time I’m going to work they’ve been up for hours and the street has been reduced to a sea of boxes, melting ice and fishy water.

There are two things I love about it. The first is that it harkens back to when this was a working city and the sidewalk was an extension of your shop-and possibly your workshop.

The other thing that I love is that it reminds me of how small the world is. Check out the photo below. A day or two ago, a boat in the Falklands came back to port with a fish. Hours later it was on a plane to New York. Shortly after it was sold in the Bronx at the new Fulton Fish Market and then it ended up passing through a store on Ninth on its way to a restaurant. The only trace is a box left lying on a Thursday morning.

Rolling The Dice

Glaxo Smithkline has a problem.  It’s not creating enough blockbuster drugs.  Its share price lives and dies by its ability to create the next Avandia.  It’s a tough process as it takes, on average, 90 months (that’s 7 years!) and $802 million to get a drug to market (that includes the cost of all the failed drugs).

GSK spends about $4-5 billion a year on R&D and they’re trying to figure out how to make it more effective.  As a result, they’re taking $1 billion of it and scientists are going to have compete to explain why they deserve that money for those projects.  They’ll get money for 3 years and have to pitch to a panel including a venture capitalist and the CEO of a biotech company.  Read more in the FT.

There are two things that I find interesting about this.  First, will the incentives be there for the employees?  If I was a research scientist, I’d go to GSK because I would get a huge budget to try and make fundamental advances in science and save lives.  If I knew that I was going to have to compete against a bunch of other scientists for funding, why wouldn’t I go to a startup?  Also, the upside would be better at the startup; I’d still get my salary and a tonne of equity.

The second thought I had is “I hope they pick the right VC”.  I know why they’re bringing on board a venture capitalist – the mythical VC is able to see the future and select highly profitable winners.  The problem is, there are a whole lot more bad VCs than good ones.  Check out this report from Focus Ventures – during the Dot Com boom, 4% of the firms created 66% of the value.  I really hope that VC is from one of the top 50 firms.

Will be interesting to see if 10 years from now this experiment will be a success or failure.

PS On a side note about incentives, think about how weird the incentives to change this system are for GSK’s CEO.  By the time this project either delivers its first blockbuster drug or fails miserably, he will be long gone.  What thoughts influence him as he’s trying to set up a system where all the return is going to come well after his tenure.  Kind of interesting to play around with.

The Giant Pool o’ Money

I just finished listening to This American Life‘s story on The Giant Pool of Money a.k.a. how the subprime mortgage fiasco became the credit crunch.  It’s a fascinating story, made all the more real by their “man on the street” interviews.  I highly recommend listening to it so you can get a taste of the ridiculous excess that led to where we are today.

Efficient Markets

I couldn’t help but notice on Friday that Freddie Mac’s stock ticker looked like this:

Take a look at the chart for a sec.  It closed the previous day at $8.  It opened at about half that, $4 – or a 50% plunge.  Then it rose steadily throughout the day to down a mere $0.25 (still a whopping 3.12%, but not much considering where it was).

What the hell is going on here?  Somehow, everybody woke up on Friday morning and decided that Freddie Mac was worth half of what is was the day before (that’s $2.5 billion less).  Then around 10:30 am investors had renewed faith in management and their ability to create value and that’s the reason for the stunning rise later in the day.

Why do I find this so fascinating?  Probably because typically when a stock gyrates by >10% in a day it is due to an announcement.  Take, for instance, Hercules Inc., which on Friday announced that it was going private.  Easy to understand: the company announced before the market opened and there’s a big pop in the stock:

Similarly, Lehman Brothers was pounded on Friday just like Freddie Mac. Only I guess the market doesn’t trust their management quite as much to create value (or maybe it’s the fact that they lack an implicit – and after this afternoon explicit – government backing), because they didn’t bounce back during the day.  Note again the pattern: open low and stay low:

We definitely live in interesting times.  Would love to know what was going on inside traders’ heads on Friday…