Weekend Reading – April 13, 2018

1. Robin Wigglesworth in the Financial Times provides a worthy history of ‘volatility’ as used by financial markets to assess market movement.

The article explains the Nobel Prize-winning financial innovations initially introduced to the world through concepts explained in academic papers: Harry Markowitz (volatility), William Sharpe (risk-reward in performance), and Black/Merton/Scholes (options), through the recent market innovations based on the Chicago Board of Exchange’s volatility indicator, known as the ‘VIX.’

“Despite its flaws, volatility-based risk management is the scaffolding upon which most of the modern investing industry is built.”

Up until recently, the VIX (a measure of the expected volatility of the US stock market over the next 30 days) has been a sure bet, as the markets seemed to have been surprisingly calm despite Trump’s election and the global political uncertainty it caused.

vix_movement

VIX movement since May 2017, per Yahoo Finance. Note the massive spike in early February.

However, on February 5th, XIV, a financial product sold by Credit Suisse that acted as an ‘inverse’ of the VIX, lost over 90% in one day (Howard Lindzon did a useful post-mordem on the XIV the day of the collapse, as well as a further assessment the day after.)

The FT tracks market movement since the XIV’s collapse to show how Wall Street and economist/academics have ‘financialized’ the concept of market ‘volatility’ as a proxy for risk, and how Wall Street has “morphed” volatility “from a proxy of risk into an input for risk.”

Now, some in the markets believe that volatility-based trading has made the markets incredibly fragile, and that future market volatility in difficult economic conditions are likely to be vastly exacerbated as a result.

 

2. Russian Oligarch Vladimir Potanin was this week’s profile in the always-entertaining Lunch with the FT.

Potanin is one of Russia’s seven original oligarchs (and one of two still considered ‘welcomed’ in the country) who conceived of the ‘loan for shares’ program that sold off control of Russia’s most valuable natural resource assets in exchange for bank loans to assist with the country’s debts.

Potanin’s justification for his actions: “When people come from a totally closed system to openness; from a planned economy to a market economy; from a powerful state to a state in difficulties, there is no place for fairness.

It’s been interesting to learn more about the evolution of Russian politics and society over the past months as the Mueller investigation (and related media inquiry) has ramped up. Incidentally, Potanin is one of the oligarchs included on the ‘Kremlin’ list of individuals subject to financial sanctions.

Potanin is presented as an interesting character: repentant for the way he received his extreme wealth, and committed to using this wealth to improve upon his image. In the run-up to the Winter Olympics, Potanin gave $2.5B to assist in the construction of a ski resort in Sochi, which could also be seen as a ‘tribute’ of sorts to Putin and his treasured get-away locale. He is spending another $2.5B to clean up the city the Arctic city of Norilsk that has become one of the world’s most polluted building the mines and factories that date back to Stalin and his labor camps.

Related to Russia, I also enjoyed the NY Mag’s profile of Glenn Greenwald, who has been the most vocal and consistent critic of the US media’s accusal of Russia for meddling in the 2016 elections and beyond.

 

3. The Financial Times takes a survey of recent literature written about Fascism, and its tricky to pin-down definition, in the wake of the re-election of Hungarian strongman Viktor Orbán as Prime Minister and ongoing prominence of Donald Trump in the headlines.

The article demonstrates that Fascism has been seen as a cure against inefficient, bloated, and non-responsive ‘democracies’ across the world, which has reoccured throughout history in various forms in response to evolving political and economic environments.

Similar to the Russia coverage, it’s been fascinating to reflect a bit on the reversal that we’ve seen over the past two years from the ‘consensus’ propagated by academics and thinkers on the inevitability of liberal democracy and peace across the world. In some ways, this reversal has been overstated: European anti-immigration candidates like Geert Wilders and Marie Le Pen were roundly defeated in their country’s elections.

On the other hand, Xi’s consolidation of power, and the upcoming political transition of Putin are two bellweathers of a preservation of authoriarianism across the world, and strains of Fascism that persist. Here in Brazil, Jair Bolsonaro, despite being recently convicted of inciting racial hatred, remains a strong candidate, and will have a platform for his hateful, Fascist views in the upcoming election.

 

4. The Wall Street Journal interviews George Mason University Professor Bryan Caplan, an economist who recently wrote the book ‘The Case against Education.’

In the article, Caplan explains the core idea of his book: that schooling, especially college, provides a ‘signal’ to the workforce, rather than providing concrete, applicable skills. This has led to the concept of “credential inflation,” in which the labor market now requires a college degree for jobs that previously would have only required a high school degree.

The case for education, therefore, is to ‘keep up.’ The analogy he provides is useful: “If everyone at a concert is sitting, and you want to see better, you can stand up. “But if everyone stands up, everyone does not see better.”

 

5. A bit late to this one, but the NY Times profiles the Philadelphia clothing store Boyd’s, which it dubs ‘The Last Great Clothing Store.’

“Such tradition and continuity across generations was once commonplace in retail apparel. But in this age of dressing down and click-and-buy, in an environment where the big chains have killed off the mom-and-pops and Amazon is killing off the chains, Boyds now feels like a shopping experience out of time.”

These stories are oftentimes focused on places stuck in time like Italy and Japan, which is why I’m so delighted to read about this article in my hometown Philadelphia.

wilt_at_boyds

Philadelphia native Wilt Chamberlain shopping at Boyd’s

To me, the article is a microcosm of Philadelphia, and sheds light on so much of what I love about the city: its humble origins, the multi-generation, immigrant story of the store’s founding, and loyalty of Boyd’s customers and their attentive salespeople.

 

6. On the other hand, the Pew Charitable Trust provides an overview of the current state of Philadelphia in the State of the City 2018 through a survey of economic and social indicators.

The quick takeaway is that while Philadelphia continues to improve on nearly all important key urban economic indicators, there is a very persistent and growing social inequity taking place, carried out via old foes: murder (317 Philadelphians were murdered last year, an increase of 40 from last year) and poverty (26% poverty rate), as well as newer ones (the opioid epidemic took an estimated 1,200 lives.)

Philadelphia’s population continues to grow as immigrants continue to come to the city to join already-vibrant immigrant communities across the city. Despite the best efforts of Philadelphia’s ICE to round up and arrest undocumented immigrants at a rate higher than anywhere else in the country, Philadelphia remains a sanctuary city both in status and as felt by the thousands of immigrants who call it home.

While the city is ahead of comparatively poorer and more dangerous places like Baltimore and Detroit, its overall economic success is higher than those places as well, accounting for the gross inequity and divide that persists in the city. As seen in this weekend’s arrest of 2 black men for loitering in a Starbucks, there are deep seated prejudices that exist in the city that serve to perpetuate these injustices, though Mayor Kenney’s strong avowal of the arrest provided a unifying presence in the normally-divided city.

 

7. The Atlantic provides an overview of the ongoing battle between Disney and Netflix, or rather, Disney’s challenge to catch up to Netflix in the internet streaming segment, without cannibalizing its extremely lucrative (but shrinking) cable tv business.

Disney’s rival product to Netflix will be released in 2019, and will boast a worthy collection of content to rival Netflix, including its recent purchase of 21st Century Fox. Per Disney’s head of direct-to-consumer business, they’re ‘all-in’ on the success of the platform.

The article proposes that Disney may undercut its current relationship with theatrical movie goers (who are seeing movies at the theater at record-low levels) in favor of direct-to-streaming, capitalizing on the chunky margin currently ceded to movie theaters.

Whereas Netflix has used television shows, most notably House of Cards, to attract subscribers to the platform, the article proposes that Disney would take the blockbuster, traditionally reserved for the silver screen, and bring it directly to the consumer.

The gamble of going ‘all in’ on streaming content, and taking Netflix head-on, assumes that consumers would be willing to pay for more than one streaming platform concurrently.

However, I would also argue that consumers may opt for Disney’s service over Netflix in the future on the strength of its content. While Netflix has tried to build a moat around its business given its several-year lead on its competitors, the result has been a huge amount of content, with very few hits to show for it (House of Cards, Stranger Things). And while one could argue that this hit rate is actually relatively good considering the typical failure rate of entertainment investments, I’d argue that Disney’s roster of content and characters (including 21st Century Fox, Lucasfilm, and Marvel) provides enough of a draw with its universe(s) of established characters and franchises.

Netflix’s first acquisition, its purchase of the comic publisher Millarworld (Kick-Ass, Kingsmen), showed that in the competition for content and established name recognition, Netflix is seeking to capitalize on the steady cash flow from established characters and universes, while pooling both its ‘untapped’ content and brainpower of its writers in search for the next ‘hit.’ However, this is more or less the same conventional thinking that led to Disney’s past purchases of Lucasfilm and Marvel.

Ultimately, this ‘battle’ will prove beneficial to both content creators and their audiences, who are already inundated with more worthy television (almost too much) than they can reasonably fit into their lives. However, if barroom and houseparty conversations are any bellweather, Netflix has managed to make its way into the households (and bedrooms) of their desired demographics, and Disney now has a long way to go to catch up.

UPDATE: On Netflix’s Q1 earnings call on April 16th, the company noted that they are always “on the lookout for new IP,” an indication that more IP-related M&A can be expected.

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