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Concentrated in Financials, Don’t Invest in Banks at Any Price, Money, Lessons from Poker

Value Investing Blog

A reader, Mohammed Al-Alwan, graciously pointed out an interesting web-site for value investors.   Some interesting articles here: http://www.valueinstitute.org/default.asp

Read about the issues of portfolio concentration: http://www.valueinstitute.org/imgdir/docs/43124


We mentioned the struggles of Fairholme Funds holding concentrated positions in financial companies like Bank of America (BAC) and American International Group (AIG) here: http://wp.me/p1PgpH-dT

The Risks of Investing in Financial Firms

This article warns value investors from investing in banks at any price. http://www.valueinstitute.org/imgdir/docs/21967


You will understand the risks from reading What has the Government Done to Our Money?  Posted here: http://wp.me/p1PgpH-dX. From pages 56 and 57:

A bank, then, is not taking the usually business risk. It does not, like all businessmen, arrange the time pattern of its assets proportionately to the time pattern of liabilities, i.e., see to it that it will have enough money, on due dates, to pay its bills. Instead, most of its liabilities are instantaneous, but its assets are not.

The bank creates new money out of thin air, and does not, like everyone else, have to acquire money by producing and selling its services. In short, the bank is already and at all times bankrupt; but its bankruptcy is only revealed when customers get suspicious and precipitate “bank runs.” No other business experiences a phenomenon like a “run.” No other business can be plunged into bankruptcy overnight simply because its customers decide to repossess their own property. No other business creates fictitious new money, which will evaporate when truly gauged.

And let not forget the derivatives risk financial firms take: http://www.lewrockwell.com/rozeff/rozeff372.html

Derivatives Risk – A Brief Rant by Michael S. Rozeff

Today I read a very technical article on credit derivatives as used by banks (and other institutions), and in the end I came away thinking “this is madness.” There are so many hairy problems involved here in attempting to price these things and no one knows the answers. I think answers are unobtainable. The assumptions being made about measuring risks are untenable. In an “Austrian” world, no one can predict them and past distributions do not suffice. Banks doing large amounts of trading in derivatives do not know what their risks are. However, astoundingly, huge sums of money are recorded as gains and losses on accounting statements based on estimates of risk parameters that no one actually is sure of.

I kept thinking that these banks are doing all this trading while having their deposits insured and the FED as a backup. This is a huge moral hazard problem. Mention was also made of the re-hypothecation issue that can set off unknown chain reactions of failures. The MF Global collapse is the canary in the mine. If the dollar had stayed anchored to gold, we would not have had the explosion in derivatives. They grew at first mainly as instruments to deal with the increased risks in interest rate and currency volatility. But now almost any company plays with these things. I have a hard time believing that it’s efficient for companies routinely to be using these as supposed hedges. It’s hard to find good reasons why such activities add value for stockholders.

The financial companies and banks have used them off-balance sheet and to create excessive leverage, while regulators allowed it. The whiz kids at these banks could wave mathematical models and jargon at them endlessly, as they are doing again at Basel where there is yet another vain attempt to control the moral hazard in banks. The last time around, sovereign debts were thought to be riskless and always excellent collateral. If ever a system cried out for a complete reset, it is the monetary system.

Another historical view of banking: http://www.bis.org/review/r111026a.pdf

Money and the government:

Many believe that the U. S. Constitution says the government’s power to “regulate” money means the power to increase its quantity. No, the power to regulate money was placed in the “weights and measures” clause because that’s what “regulating” money meant. Silver dollar coins were the U.S. standard from the very beginning, and “regulating” the currency meant establishing a ratio between the silver dollar and other precious-metal coins that may circulate alongside it. http://www.project.nsearch.com/video/pieces-of-eight-and-constitutional-money

The Pure Time Preference Theory of Interest

If you want to understand how the Federal Reserve damages the economy by causing malinvestment through manipulating interest rates see: http://mises.org/books/PTPTI.pdf

And read this short article: http://mises.org/daily/5838/The-Pure-TimePreference-Theory-of-Interest

Consumers and entrepreneurs often speak of “the cost of money” when referring to interest rates. Modern lenders also refer to the interest they charge as “loan pricing.” Viewed this way, interest is viewed as if it were any other good. The cheaper a good the more affordable it is. And so the lower the interest rate, the more affordable. By dictating key interest rates, modern central bankers are believed to be alchemists, lowering interest rates to magically transform scarcity into prosperity.

Poker Lessons for Life

Let’s have some fun. Lessons learned from poker: http://www.jamesaltucher.com/2011/12/lessons-i-learned-from-poker/