Death Bonds Continued...

I wrote about Death Bonds back in May of this year. No, I didn't break the story or anything like that. However, I did perform the analysis ahead of everyone else. The New York Times recently did the analysis too, and came up with the same conclusions as me, which is reassuring and disturbing at the same time.

These are direct quotes from the Times article:

"And investors are not interested in healthy people’s policies because they would have to pay those premiums for too long, reducing profits on the investment."

"In addition to fraud, there is another potential risk for investors: that some people could live far longer than expected."

This is gonna be dirty. Wall Street is primed to make large bets on our elderly dying. They would prefer to cherry-pick policies from cash-starved unhealthy seniors, because that's where the money's at.

That doesn't worry me.

The article also mentions the practice of rigging bids for these policies. Imagine a recently laid-off father trying to make mortgage payments by selling of his insurance policy to bridge the uncertainty between jobs. With the life settlement market being so new, it's actually quite easy for colluding brokers to deceive him about the true market value of his policy. It's already happening.

But I'm still not bothered.

What about "stranger-owned life insurance," the practice where Wall Street firms wine-and-dine people to take out life insurance and then promptly transfer the policy over to these firms?

That's blatant manipulation, but whatever.

What kills me is that securitizing life settlements into death bonds is remarkably similar to what Wall Street was doing with mortgages, and we all know how that went. It's obviously a lucrative business to sell industrial sized securities, but there hasn't been any regulatory change to protect investors from poorly composed assets, nor have they modified the incentive schemes, which means much like mortgage backed securities, it's more important to make the sale even when you're selling shit.

The big underlying assumption this time is that people will die. Last time around it was about how housing prices will continue to rise in the long run. Make no mistake - both are true. It's just when we collectively get so involved in one particular market, not only does the assumption have to hold true, but it has to unravel in exactly the way we all expect it to.

I was arguing this point with my father and he told me to relax. He said insurance companies were in the business of making these calculations. You can rest assured that every single day they calculate how much they will have to pay out in future claims. It's their job to be prepared for these payouts.

But whether the insurance companies like it or not, they are slowly being pushed out of insurance and into betting against Wall Street. They don't have a choice in making these bets, which is what I find so strange. What initially starts out as an honest insurance arrangement with a family man, transforms into an investment for a Wall Street bank, but insurance was never meant to be an investment. Instead of people canceling policies when they no longer need to be insured (eliminating the claim altogether), they now have the option to cash them in for a higher value to a third party who is willing to wait for death to collect that ultimate payout.

As the death bond market emerges, it will test the resolve of American insurance companies unnecessarily for the sake of Wall Street profiteering. If you think it's really no big concern to the reserves and liquidity of insurance companies, that's fine. Only time will tell. As far as I'm concerned, the larger the death bond market becomes, the greater chance there is that insurance companies will face detrimental cash flow issues once people start dying.

But if we dig deeper, the real problem doesn't have to do with death bonds, or insurance, or any specific financial instrument. What is troubling is how much wealth is being transferred from the average American to the banks. In America, it's far too easy to take one person's financial problem and shove it into another person's pension plan. Clearly, lines need to be drawn.

Take pride in being a Canadian. Our nation has always been very strict with money managers. For our retirement plans, pensions and other savings, the banks can't just do whatever they want with it. They are permitted only a limited amount of risk, and many of the exotic financial products that have become so popular over the last ten years are completely out of the question. This is a good example (search "Canada's Foreign Property Rule" if you are interested).

This weekend, we should be thankful that our financial forefathers were ultra-conservative prudes. We should honour them because they were absolutely right to be so tight-assed with financial regulations. Their lameness is why Canadians have been able to preserve their wealth, relative to Americans. This fact, along with all the turkey you will eat this weekend, should secure you a good night's rest.

Epic Walk

[This is a piece from another blog and it has nothing to do with finance. I wrote it a year ago, and it's still one of my favourites. Enjoy the final weekend of the summer.]

My sister and I are bad Muslims. It's the month of Ramadan and we haven't fasted once. Don't get me wrong, we're not bad people, just bad Muslims. Our parents, however, have taught us what Ramadan is all about - sacrifice. And so, on the last day of summer my sister and I set out to walk from downtown Toronto (queen and john) all the way to our parent's place in Mississauga (like 401 and Mavis). That's over 30km and it took us 7 hours. I'd like to share the highlights with you.

The moon plays a great significance in Ramadan, and I thought it was nice that when we woke up early on a Saturday morning I could still see the moon. While I was waiting in front of my building, snapping photos of the moon and excited about our trek, I realized that I was waiting for my sister at the wrong place.

We were late.

We scurried towards Bloor street and started walking West.

Some people feel sad when they see a dying tree. I always feel sad when I see a closed down coffee time.

I didn't ask.

Right around Dundas West we encountered a series of polish bakeries. We stopped at this one and ate some of that. We are both deeply in love with bakeries and butchers.

There's so much to see on Bloor street that the Humber river snuck up on us. We were already approaching Old Mill and it felt like we had only just started walking.

Things are getting uglier. Concrete apartment buildings from the 70's. Power lines galore. Racing traffic. Highway signs. We have to yell to talk to each other. We're in Etobicoke now. It's the end of the line - Kipling station. We decide to walk north and take Burnhamthorpe all the way to the heart of Mississauga - Square one.

All the signs that we were entering Mississauga were there. We had crossed highway 427. There was four-lane traffic zipping by us, long stretches between lights that allow the cars to go quite fast. We had passed a sign that welcomed us to Mississauga. We started to see trees that were held up with crutches. But we didn't know any of it. This was a stretch of Burnhamthorpe that we'd never seen before, and it wouldn't stop! To be honest, the walk up until Kipling was a joke. The stretch between Kipling and Square One was mentally draining.

When I saw a sign for Rockwood Mall, I was jumping for joy, because I had worked at the Royal Bank in that particular mall for about a week when I was in high school. When we passed Cawthra my sister's exact words were, "Hey, it's Cawthra! Remember Cawthra!?" I responded with an equally jubulated "Yeah, of course I remember Cawthra!"

Let me tell you something about Cawthra. Neither of us ever had any business on Cawthra. It was just one of those streets that you knew because you passed by it so often. But at that moment, we were so freaking happy to see Cawthra. We knew we were close.

We had finally reached Square One. We were slowing down, both physically and mentally. We had to stop for a Julius in the food court. On our way out my sister was telling me that a long time ago she had actually walked from Square One to home, and she remembered that it took over an hour. I didn't need to hear that.

But it was okay once we stepped outside to start walking again. We were basically home. Empty buses. Traffic lines on the streets seemed fresh. Blindingly bright sidewalks. Some brown girls honked at me to say "nice shirt," complementing my 100% Halal. Deafening traffic noise (because walking on major streets feels like you're walking on a highway). A general feeling of being unsafe as a pedestrian. My sister was getting angry at all the drivers.

The home stretch was all about pushing it. We had no idea how tired we'd gotten, but our arms had started to flail quite wildly, and there was a moment when we hit each other's hands, mid-stride, and both said, "oww!" simultaneously and then started to giggle. We finally got home and spent the next 1/2 hour convincing our parents that we had indeed walked all the way home. We spent the rest of the weekend trying to explain why.

Investment Advice

I just found THE best investment advice article. It's not written in a prophetic way, it's just stating some observations, but personally I find facts more useful than predictions when it comes to investments. The author, Jason Zweig, touches broadly on the economy as a whole, market history, and for me, no investment advice column would be complete without some psychological bias that investors commonly fall victim to.

He mentions the rapid recovery in global markets. The biggest reason for recovery in stock market value might just be the result of that gigantic global stimulus we deployed earlier this year. We've injected our economic system with a ton of money; despite the fact we just established there are a lot of holes in our financial systems. Under the guidance of a widely accepted mantra of "more money be good," we've been able to get people spending and keep companies producing, which is making all the numbers read like a recovery is looming.

When he talks about a V-shaped recession versus a W-shaped, it's simply economists trying to picture what the GDP production graph will look like years from now, when we're out of this mess and we can analyze what happened more accurately. The GDP graph of a nation should reflect the same ups and downs as a market graph, except the stock markets anticipate information whereas GDP is based on past data.

A V-shape would imply that we have already hit bottom, and we'll soon get into higher production levels globally and be back to normal in about a year's time. Although any proponent of the V will quickly point out that "normal" won't be what we're used to, we're still looking at positive economic growth in some sustainable fashion. If you believe in that, you are probably buying stocks now. The worst his behind us, and regardless of what the line will look like, it's going to go up.

Most economists who believe in the W are basically saying we're going to go through the same thing twice. They, like me, believe that stimulus packages are currently propping up global demand. When those effects disappear from our economic system, we will experience another dip.

Now, no proponent of the W believes that the second dip will be as severe as the first, but take a look at what happened after Black Monday in 1987. Recovery appeared to be on its way after the crash, but behind the scenes the economy was falling apart. It took over two years for the recession to actually hit us. It hasn't even been a year since the most recent crash.

Here's what we did this time around: Once we realized we had an enormous problem, we threw a lot of money at it. Then someone said, "wait." That's where we are at. We're waiting for the results. I'm not saying money can't be made in this market; I'm saying it's impossible to know the long term worth of stocks.

So what does it really mean when the stock market recovers the way it just did? One would think that the markets have reached a consensus that we are going to go through a V-shaped recession/recovery process. If the market was full of long term investors, I would agree that there is a general market sentiment that recovery is on the rise. This would still only be a market sentiment; a collective projection based on number crunching, best estimates and gut feel.

But the market isn't made up of investors. It's mostly speculators (individual day traders and their much more powerful institutional counterparts). So what is the general consensus of speculators worth to you? Do current market prices reflect anything other than the whimsical trading strategies of Wall Street banks and Hedge Funds trying to turn a profit?

The market recovery is being mistaken for an economic recovery, and that's where I start to worry. Sure, some of the market appreciation we experienced was due; so many strong and stable companies had their stock price plummet because of the widespread panic during the crash. Rightfully so, those stocks went up. But what Zweig’s findings point out is nobody really knows at what point these stocks should stop rising, and there’s a chance we’ve gone too high.

"What stocks do you like?" I've been asked this question a lot lately, and I'm currently invested 100% in cash. I'll be honest with you. Mostly, this reflects my aversion to risk. I also want to avoid situations where I have to constantly consult with the business ticker to determine my mood.

They say a house is the biggest purchase the average person makes in his or her life. I want to be one of those people. And if there's money leftover, I'm letting it ride on the Toronto Raptors taking it all this year. I mean, at least they'll let me cheer and scream from the sidelines.

You should really know who you are before investing in this market.