The EU disintegration

When Humpty falls off the wall, it does not look like all of the EU's politicians, lawyers, economists, and businesses will be able to put the pieces back together. The shadow is rocking and only a short time remains before a mess is splattered across the entire continent.

An earlier post discussed possible outcomes to the EU currency default crisis. An excellent summary of the new awareness growing across Europe can be found in the Telegraph article - The horrible truth starts to dawn on Europe's leaders.

Favorite EE Video Blog

One of my favorite Electrical Engineering Video Blogs is from Dave Jones on YouTube. When I get a moment I listen to recent episodes. He covers topics from Product Teardowns (a recent episode had the new Kindle) to design, testing, test equipment evaluation, and Dilbert marketing experiences. Of course YouTube tries to come up with the best "suggestions" for people who view the EEV Blog. See the red rectangle on the screen shot below. :)

What is the future price?

Cisco closes below $20 today and my inbox gets inundated with emails asking, “How low it will go?” I pulled up the spread sheets to run my pricing probability indicators, which performs analysis based on a number of statistical indicators, volatility information, frontier calculations, and Monte Carlo probability runs. Keep in mind that historically this method is fairly accurate for 30 day and under periods and not very useful for 90 days or more in predicting price probabilities.

CSCO is showing that it has a 17% probability of hitting $18 in the next 30 market days and a 28% chance of hitting this price in the next 90 market days.

Flash Crash – Algorithms Gone Mad

Sometimes it is worthwhile to revisit the past; especially when trying to avoid the same fiasco in the future. High Frequency Trading has now reached levels representing over 80% of the trades on most market days. The common depiction put forward by these firms is that they provide liquidity that helps the markets. The harsh reality is that their trades are actually cutting in front of line of retail orders causing investors to get cheated when they buy or sell.

The details of High Frequency Trading has been shrouded in mystery; now the curtain is being pulled back thanks to firms like Nanex; a company that captures market data. Nanex has posted an extensive analysis of the Flash Crash of May 6th.

Not content to limit the information to May 6th, the Crop Circle of the Day by Nanex is an interesting graphical chart of HFT algorithms at work each day. Some of the charts are fascinating and simply make you ask “what is going on and why”. Are these the key algorithms at work or are they simply making noise to cover up other trades? Are these a type of coded communication between firms to manipulate the market? Are some of these algorithms simply bugs? Should Quote Stuffing be banned? And does the SEC ever look at this activity? An endless train of questions can be arrived at.

Maybe the key to winning in the markets is decoding what these algorithms are attempting to do. Many simply swing at hyper speed spewing thousands of quotes per second across various price ranges switching between bid and ask. Should the new fantasy of an individual trader be creating a software bot that will “go to war” with these algorithms and steal profits from the HFT firms.

Probably by the time that any retail trader figures out the magic, the government regulatory authorities will come down on the HFT firms and limit their activities. It is becoming clear that hyper trading activity accounting for the vast majority of the trades does not lead to orderly markets and easily can cause more Flash Crash scenarios when all the computers pull their bids simultaneously.

Quick News - Structured Finance

Structured finance came to the front in the press today as more hedge funds disclosed trading losses relating to CDO bets in the market.

The Future of the Euro

The fire and brimstone clouding the European sky is not the volcanic ash from Iceland but rather the bleak outlook for a unified currency. To put it mildly the Euro is doomed, it is just a just a question of how the entire scenario unfolds.

Currencies only work for a nation when their own central government has control over the money. A country using a currency while ceding control of the exchange mechanism simply makes the nation a victim of all the other entities using the notes. Germany and other northern European nations recently learned this harsh lesson. The Euro worked while all the economies across the continent were rising, but quickly imploded when a recession occurred. The southern European nations with poor financial controls that that have historically defaulted multiple times are now in a position to collectively drag down the entire collection of economies due to the common currency. Prior the Euro these countries would default and their individual currencies would be devalued.

It is true that the more people that use a currency then the stronger the value. Witness the strength of the deutschemark after the inclusion of East Germany. However a country must have sole control over their currency and not yield power to a central authority in order to be successful. I found that the Germans were very supportive of the merger of East and West Germany despite concerns over the poverty in the East at the time. Today, Germans are outright furious that the country is bailing out Greece and other nations. Most of the people on the street recognize what is going to happen next which is why they are lining up at banks to demand Euro notes with X’s in the serial numbers that are associated with Germany and not other countries.

While the entire situation can play out in multiple scenarios; there are two obvious ones. The first is that the Euro will divide into two segments, the stronger northern European nations with one version of the Euro and the southern European nations with a version of the Euro which is next to worthless. This explains why German citizens are lined up demanding “their national Euro notes”. It is likely that outside notes will soon be devalued.

The second possible scenario involves individual countries withdrawing from the Euro exchange mechanism and reinstituting their own national currencies. A good number of barriers and political negotiations will have to be overcome to allow this type of withdrawal. On the other hand people rioting in the streets generally has the tendency to make central union decision making to move with more haste.

Another likely scenario involving individual nations withdrawing from the Euro focuses on the central union giving countries with debt problems the boot and demanding that they withdraw from the Euro. As the size and scope of the debt issues become more apparent there will be a greater howl across the continent for the offending nations to withdraw.

In the long term where will this leave the Euro? It would be best if it was used as a basket of currencies for international trade as it was originally intended – 23% franc, 34% deutschemark, etc. rather than being used as a universal note in retail trade across the entire EU block. The disbanding of the common Euro is the best solution and the obvious path for continent.

Today's Cartoon

Analysis: SEC vs. Goldman

The civil fraud charges filed by the Securities and Exchange Commission Friday accused Goldman Sachs of "defrauding investors by misstating and omitting key facts". These financial charges also mark a new era of government regulatory enforcement of Wall Street. No longer will the SEC simply come to consent decrees with financial firms where they do not admit guilt and in most cases pay a small fine viewed as a cost of doing illegal business.

One immediate question is how do the SEC charges filed against Goldman Sachs change the playing field? Do these charges even mean anything in a broader regulatory context? In my opinion, the actions from the SEC on Friday defines a new playing field by Washington marked with the following game-changing alterations:

a) A broader effort to get the derivatives market properly regulated to minimize the possibility of future meltdowns.
b) The Goldman Sachs charges are expected to be the first of a lengthy string of government actions against multiple firms that contributed to the financial meltdown. The lack of accountability by firms which accepted bailouts is no longer acceptable to main street and their representatives in Washington.
c) A dismantling by regulation of firms that are "too big to fail"; including the scaling back of previous government legislation that allowed the merger of commercial and investment banks.
d) The teeth of the SEC are back in place. For the last twenty years the SEC has been a toothless enforcement entity; forcing state AGs to take a leading prosecution role in financial malfeasance. This is likely to be the start of a change where the federal government will have deep roots in the policing of problems involving large financial firms.

The roll out of these regulatory reforms are expected to take years; however as noted by an AFP news article "We suspect that after Friday, others on Wall Street may have a harder time sleeping."

Another good clip is Ratigan on MSNBC where he compares Goldman Sachs to an automobile manufacturing company that deliberately took critical component from the inside of cars (CDOs) and then sold the cars as being great investments while betting on the side that the cars they created would all blow up spectacularly. An apt analogy - watch it here.

WaMu Execs dragged before Congress today

There will be excitement in Washington today as former WaMu Execs are dragged before Congress kicking and screaming. Now that a Senate panel has had over 18 months to gather information, hopefully some sharp questions will be asked about Washington Mutual's abusive and illegal practices.

Allow me to urge the Congressional panel headed by Senator Carl Levin to refer the entire situation to the Justice Department for criminal prosecution.

'Washington Mutual "was one of the worst," Levin told reporters Monday. "This was a Main Street bank that got taken in by these Wall Street profits that were offered to it."'

Top ex-WaMu executives come before Congress
http://news.yahoo.com/s/ap/20100413/ap_on_bi_ge/us_washington_mutual_investigation

Worst Management Practices

One interesting point about the recession is that it has generated plenty of articles about bad management practices... right at a time where many managers are telling employees that they are lucky to have a job.

An article from Business Week placed "Forced Ranking" as number 1 on the list of "brainless and injurious" management practices. I have written about failures of forced ranking in the past, it is interesting to see that it is coming in regularly as one of the worst practices. Hopefully it is a practice whose time has come and is now disappearing from the corporate landscape.

10 Management Practices to Axe
http://finance.yahoo.com/career-work/article/108815/ten-management-practices-to-axe

Progress vs. the government

For centuries civilization made progress in the evolution of indoor plumbing, it only took a government act to cause an immediate setback in advancement. In 1992, the clowns in Washington mandated that every toilet in the U.S. use no more than 1.6 gallons per flush rather than the traditional 3.5 to 6 gallons. Of course the average citizen compensated for this by flushing 3 or 4 times when needed. Along with the tragedy of low flow shower heads (which simply forced everyone to take longer showers under a slim trickle of water) and low water washing machines (which increased damage to clothes and failed to clean the outfits of children who were out in the yard); the nonsensical federal acts have simply raised the average number of gallons of water used per person in each household since 1994.

A recent article from Mises spells out the failure of these government acts poignantly...

The Relentless Misery of 1.6 Gallons
http://mises.org/daily/3997