Last September, during TechCrunch Disrupt 2011, Peter Thiel, 39 year old internet whiz and outspoken venture capitalist, made a statement that made renowned Cleantech VC star Vinod Khosla, 56, rise to defend what he considers to be the best investment strategy that could “change the world”.
Theil’s statement
“Cleantech is an increasingly large disaster that people in Silicon Valley aren’t even talking about any more. The failure in energy and transportation points to a larger failure in clean energy — we aren’t moving any faster, literally, than we were when modern airplanes first came out. […] Cleantech investing has scattered Silicon Valley investors and left the U.S. behind in terms of innovation.”
Khosla’s defense
“Cleantech is not a disaster. During 2010, Khosla generated more than $1 billion in profits from three IPOs and will ‘probably’ see six more IPOs over the next 12 to 18 months, if the markets hold up. That $1 billion in profits over the last year is way more than most venture funds have done in IT in the last ten years cumulatively.”
Background
Theil may have been reacting to recent cleantech bankruptcies (Solyndra’s Sept. 2011 bankruptcy, for $535 million and Khosla’s own Range Fuels Jan. 2011 bankruptcy, for $162 million) that lost millions of taxpayer and investor monies before closing their doors.
Aside from his Libertarian convictions, Theil based his comment specifically on the lack of progress that cleantech has shown so far. Markets for cleantech really have not moved any faster than when modern airplanes first came out in the 1960’s, and alternative energy is still a very small percentage of the US energy mix. But that may have to do more with lack of financing and political and business apathy towards (and ignorance of) needed climate change adaptation and mitigation measures than with the correctness of VC investing in cleantech. It may also have something to do with how the VC industry coped with fast-changing economic forces during the last decade.
Slight Political Support
President Reagan infamously took down President Carter’s solar panels from the White House roof; ‘Political Will’ towards climate change solutions became only slightly less lethargic through the first Bush presidency and the Clinton years, and then nosedived during the two-term Bush Jr. presidency. There has been scant support for cleantech at the federal level (compared to European and Asian government investment) for the last three decades, and it is only recently that politicians have begun to backpedal as they see many other nations embrace and prosper with cleantech.
Theil fails to mention the challenges faced by cleantech: only 10% of the population sees climate change as the biggest challenge our generation faces; the window of opportunity for climate change mitigation does not allow a cleantech sector to do necessary R&D without subsidies and incentives; a nascent industry needs government financial support in order to scale; there are too many pressing crises and fast-approaching closures of “climate windows of opportunity” to avert the worst climate catastrophes; cleantech firms are fighting against a rich and well established fossil fuel industry that collectively spends hundreds of millions of dollars a year to deny or delay any acceptance of climate change and therefore of cleantech solutions; cleantech is fighting an industry that has all its needed infrastructure and has already done much of its R&D, which cleantech has not; so far, economic accomplishment in cleantech has been spotty, there are no breakthrough companies; no one single alternative energy solution can replace petroleum and none has been a breakout success (price too costly, energy too inefficient or too intermittent); and finally, cleantech is by force local and limited by geographical constraints.
A Short History of Venture Capital
A short recapitulation of how venture capital came into existence is needed. VC has existed in America since the transcontinental railway. The industry sprang from a social need for overland and mass transportation, a political need to expand national borders, and the economic need of a small cadre of millionaires (Robber Barons) that needed to place some disposable income in high-return investments under the rubric of presaging a bright future for America.
In the ‘60s, venture capital moved into the emerging semiconductor industry. In the ‘70s, computer hardware and software companies were in vogue; in the ‘80s it was biotech, mobility, and networking companies; in the ‘90s investment in the Internet exploded.
But by the late 1990s, “venture portfolios began to reflect a different sort of future. Venture investing shifted away from funding transformational companies and toward companies that solved incremental problems. VC is [no longer] the funder of the future, and instead has become a funder of features, widgets, irrelevances. In large part, it also ceased making money, as the bottom half of venture produced flat to negative returns for the past decade. Long-standing investors are now getting squeezed by private equity firms on the high end, and wealthy angel investors on the low end of the investing scale. A bleak market for venture-backed initial public offerings has only increased the pressure.”
So Theil’s last sentence quoted above may also give a clue as to his motivations: investment in cleantech has “scattered Silicon Valley investors,” who are already under stress from various quarters within the industry and a volatile economy. In Theil’s mind, Khosla is squandering his “money pool” on cleantech.
From all that is published about Theil, one can surmise that he believes strongly in his own strategy for investment at the exclusion of all others: helping entrepreneurs and investors create “game-changing” tech businesses and a win-win situation for all involved. To him, investing in cleantech is a waste of money, and diverts possible investors from real investments.
The Differences between them
Although both investors have cited the challenges of climate change and peak oil as a driver of their investment decisions, their chosen investment paths are widely divergent. Libertarian Theil invests solely in internet tech stocks and hedges his climate change bets by funding the Seasteading Institute to create sovereign nations in international waters, free from the laws of any country (hardly a sustainable strategy for everybody).
Khosla, on the other hand, believes that “in order to achieve 80 percent less emissions from 2005 levels, with ten times the number of people living energy rich lifestyles, we would need 10 times energy productivity, and then 5 times energy carbon efficiency on top of that. Not accounting for methane and other greenhouse gases, we need roughly a 50 times ‘carbon productivity’ improvement. Provided we deal with the non-CO2 greenhouse gases separately, our only hope of reaching this goal is with a combination of energy productivity (how efficiently we use the energy we can make/extract/collect) and carbon energy efficiency (how little carbon we emit to make the energy we use) using substantially superior - cleaner, yet economic - technologies.”
Analysis
Theil is straightforward and does not include climate change in his investment decision-making. He believes that since no single clean energy option can solve the world’s energy problems, cleantech VC is a failure, and he has a point: just because you can raise money for a business or a cleantech fund does not mean that the companies you invest in are going to solve the problem or be profitable.
Khosla’s response does not address the broader implications of Theil’s assertions (where are the scaled up, profitable solutions?), and instead, he hides behind his accomplishments as a fundraiser. But that is not the only reason Khosla’s defense sounds a bit hollow. Khosla has embraced risk-based analysis and cost-benefit analysis to bolster his undeniable belief in the urgency and necessity of finding alternative sources of energy and fighting climate change.
Unfortunately, he ignores the broader concepts of Ecological Economics (espoused by Herman Daly, David Pimentel, Donella Meadows, and Robert Constanza), which allow him to make the following statements (all taken from his 2011 Green Investing Strategies by Vinod Khosla ) without a hint of irony:
“[T]he logic of business is to externalize as many costs (like using public roads or not reducing emissions) and maximize profits, as it should be."
" 'Green' should be a feature that follows – rather than defies – the ‘laws of economic gravity,’ which in essence declares that economics trumps everything when it comes to mass adoption of a technology."
"My basic thesis is that investment in true innovation is the key to reinventing the infrastructure of society and enabling 5+ billion people to sustainably live the energy affluent lifestyle that 500 million enjoy today.”
“The environmentalist solution is often one of “deploy the technologies we have as quickly as possible” combined with idealized hopes that the business community will start to value un-priced environmental and health externalities. These thoughts are noble, and occasionally work, but distract from our best “broad” hope: robust unsubsidized market competitiveness of “green” technologies against their fossil competitors that are affordable to ‘Chindia’ consumers.” [emphasis mine]
Both are missing the point
Global warming is caused by carbon emissions and can only be contained by reducing them, which means a sharp reduction in consumption in developed countries (‘impossible’ according to Columbia Sustainability Management professor Steven Cohen) and a slow increase to relatively low levels in developing countries (improbable, given China’s and India’s growth).
‘No growth’ threatens our capitalist economy because, under current business models, very few businesses can survive lower consumption and a steady-state economy. In order to solve the ecological problem (climate change), we must also address the economic problem (a move to a socially just, self-sustaining, ecologically sound, steady-state economy).
Alternative energy sources are all in their development stage, and all must be helped along to see which is best for each geographical region through government and private investments. But technology will not solve the problem of finite resources on this planet; first, we have to learn how to live sustainably.
Sheikh Rashid bin Saeed Al Maktoum (1912-1990), former Prime Minister of the United Arab Emirates and ruler of Dubai once said: "My grandfather rode on a camel, my father rode in a car, I ride in a jet, my children will ride in cars, my grandchildren will ride on camels." He knew once the fuel was gone, there would be nothing as cheap or energy-dense to replace it. What does this mean for us? Our grandparents knew how to live with less, and that is what we and our children must re-learn to do.
Lastly, one cannot compare investing in the internet versus localized cleantech investments; the comparison is apples to oranges. Setting hi-tech VC cleantech parameters in a comparison between the two excludes possible low-tech solutions that would help local communities survive, but do not fulfill anticipated returns set by VCs that are used to billion dollar IPO’s and high ROI’s.
Comparing Theil and Khosla is heartbreaking in that they both manage billions of dollars, and they truly could be game-changers; while one is cynically blind and the other is only marginally concerned with ecological reality, they are firmly ensconced in their belief that economy trumps ecology, and neither one is willing to embrace ecological limits and truly change the world for the better.
Khosla is by far the more environmentally savvy of the two, but his belief that technology will allow the human race to keep growing and consuming is nihilistic.
Reading about these two titans of finance I feel like I am standing on Easter Island, watching the last standing tree being felled, while the King and the Prince fight over where to best place the Moai statue that the last log will help transport, all in hopes the gods will be appeased with this sacrifice and their people's suffering will be alleviated. Little did the King or Prince know that by felling their trees, Easter Island would never again regenerate the forest they lost to their ignorance and religious hubris and that they had just condemned every living soul on the island to a long, slow decline from which they would never recover.
Bibliography
Peter Thiel: Clean technology is a “disaster” September 12, 2011 | Matthew Lynley http://venturebeat.com/2011/09/12/thiel-cleantech-disaster-disrupt/ as of 11/6/2011
Thiel vs Khosla on Cleantech: Who is Right? Posted by Robert Rapier on Thursday, September 15, 2011 http://www.consumerenergyreport.com/2011/09/15/thiel-vs-khosla-on-clean-tech-who-is-right/ as of 11/5/2011
History of Private Equity and Venture Capital http://en.wikipedia.org/wiki/History_of_private_equity_and_venture_capital as of 11/8/2011
Founder’s Fund: What Happened to the Future? http://www.foundersfund.com/the-future as of 11/5/2011
http://www.wri.org/chart/world--‐greenhouse--‐gas--‐emissions--‐2005 , http://www.ipcc.ch/publications_and_data/ar4/syr/en/mains2--‐1.html , as of 11/6/2011; Utility (e.g., GDP, lumens, miles driven) per unit carbon emissions
Toward a Steady-State Economy (editor, 1973), Steady-State Economics (1977), For the Common Good, (1989, with John B. Cobb Jr.), Valuing the Earth (1993, with Kenneth Townsend), Beyond Growth (1996), Ecological Economics and the Ecology of Economics (1999), The Local Politics of Global Sustainability (2000, with Thomas Prugh and Robert Constanza), Ecological Economics: Principles and Applications (2003, with Joshua Farley).
Co written with T. Patzek, "Ethanol Production Using Corn, Switchgrass, and Wood: Biodiesel Production Using Soybean and Sunflower," Natural Resources Research, Mar. 2005, "Ethanol Fuels: Energy, Balance, Economics, and Environmental Impacts are Negative," Natural Resources Research, June 2003, "Ethanol Fuels: Energy, Economics and Environmental Impact," International Sugar Journal, 2001, "Biomass Utilization, Limits of," Encyclopedia of Physical Science and Technology, Oct. 2001, Co written with D.R. Harman, M. Pacenza, and J. Pecarsky, "Natural Resources and an Optimum Human Population," Population and Environment, May 1994, Co written with Mario Giampietro, "The Tightening Conflict: Population, Energy Use, and the Ecology of Agriculture," www.npg.org, Oct. 1993
D.H. Meadows, D.L. Meadows, J. Randers, and W.W. Behrens III, The Limits to Growth, Universe Books, New York, 1972, D.L. Meadows and D.H. Meadows, Toward Global Equilibrium, Wright-Allen Press, Cambridge, Mass. 1973, D.L. Meadows, D.H. Meadows et al., The Dynamics of Growth in a Finite World, Wright-Allen Press, Cambridge, Mass. 1974, D.H. Meadows, J. Richardson, and G. Bruckmann, Groping in the Dark: The First Decade of Global Modeling, John Wiley & Sons, Chichester, 1982, D.H. Meadows and J. Robinson, The Electronic Oracle: Computer Models and Social Decisions, John Wiley & Sons, Chichester, 1985, D.H. Meadows, Harvesting One Hundredfold: Key Concepts and Case Studies in Environmental Education, UNEP, Nairobi, 1989, D.H. Meadows, The Global Citizen, Island Press, 1991, D.H. Meadows, D.L. Meadows, and J. Randers, Beyond the Limits, Chelsea Green Publishing Company, White River Junction VT, 1992, D.H. Meadows, Indicators and Information Systems for Sustainable Development, Sustainability Institute, Hartland Four Corners VT, 1998.
1991, Ecological economics: The science and management of sustainability, 1992, with Bryan Norton and Ben Haskell, Ecosystem health: new goals for environmental management, 1996, with Olman Segura and Juan Martinez-Alier, Getting down to earth: practical applications of ecological economics 1997, with John Cumberland, Herman Daly, Robert Goodland and Richard Norgaard, An Introduction to Ecological Economics 2000, with Tom Prugh and Herman Daly, The local politics of global sustainability, 2007, with Lisa Graumlich and Will Steffen, Sustainability or Collapse? An Integrated History and Future of People on Earth.
http://www.khoslaventures.com/presentations/GreenStrategy.pdf as of 11/5/2011
What Happened on Easter Island http://www.npr.org/sections/krulwich/2013/12/09/249728994/what-happened-on-easter-island-a-new-even-scarier-scenario
Showing posts with label environmentally conscious investing. Show all posts
Showing posts with label environmentally conscious investing. Show all posts
Monday, November 28, 2011
Friday, February 26, 2010
Comparing investment to environmental investing
Two articles on how we can weather the current crises from an investment perspective, the first considering solely economic factors, second from an ecological and economic perspective. Please realize the first article is three years old, and the second is almost a year old, so I include them here only for comparison as to what environmental investment actually look like, as opposed to investing only for short-term individual bottom-line considerations. The environmentally conscious suggestions still hold for those of you still capable of investing.
Article 1
Economic Disruption: Weathering the Storm
By: Ken Dabkowski
12/17/2007
Ever since Dr. David Martin gave a speech at The Arlington Institute in July of 2006, his economic report of opaque data-driven certainties has elicited many questions from friends, not the least of which is, “Well, what do we do about all of this?”
Given our position as think tank and not financial adviser, we have worked with Dr. Martin and other advisers to gather some general thinking points, sectors, and emergent fundamentals that are worthy of consideration. Although we cannot offer advice, it is, after all, helpful to see how the architects of scenarios and analysis manage their personal businesses and investments based on their own insights. In our scenario driven world, we would suggest that this is a thoughtful approach which outlines fundamental principles for weathering the financial storms to come.
Discretionary asset allocation to restructuring debt:
If you have your mortgages and credit cards paid off and have discretionary liquidity, sections one, two and three will be particularly applicable. If you hold a debt position, you will find sections three, four and five particularly applicable. These considerations apply to business and personal investments and are based on the analysis found in Dr. Martin’s July 2006 speech:
http://archive.arlingtoninstitute.org/library/ArlingtonInstituteAddress
Transcript_eng.pdf
and TAI Alert #11:
http://arlingtoninstitute.org/tai-alert-11-major-financial-disruption
Fundamental #1: Consider Diversifying globally.
Consider diversifying a portion of your assets into a GB Pound/Euro basket. Most of the international corresponding banks have foreign exchange and currency desks. Super regional banks like Wachovia have the ability to do this.
Consider converting your payment and contracts:
Consider restructuring some or all revenue bearing contracts such that they are denominated in GB Pounds or Euro. At a minimum, it might be worth thinking about doing this with future contracts. Holding contracts payable in both currencies would maintain a diversity of currency risk. Payments in currencies that are more closely linked to a true sovereign bank may attenuate the current dollar exposure risks. Options here are to open an international account using any bank that will allow for one. An electronic banking option might be useful so that you can make your holdings liquid in US Dollars as you need them. For example, consider converting funds back into dollars on a monthly or semi-monthly basis to pay your credit card bills or your employees – however, repatriate only what you need when you need it. If you don’t need it, leave it where it is. Remember, anything over $5K USD or more may trigger an individual Suspicious Activity Report (SAR) under 12 CFR 21. The Bank Secrecy Act was set up, among other things, to provide a means by which Federal authorities could detect money laundering and so the SAR is an important consideration.
Fundamental #2: Consider researching companies that diversify globally.
• The London (FTSE), German (Xetra DAX), Netherlands (AEX), France (CAC) and New York markets list companies where the primary profit or value of transaction is based on business transacted in Euro or GB Pound denominated transactions. Note that General Electric’s CEO Jeff Immelt recently gave an interview in which he reported that GE’s profit will come largely from overseas markets.
• It would be well to analyze each company’s growth plan. Look for existing (primarily profitable) revenue/income coming from non-dollar denominated sources.
• For US listed companies – a diversified reach in their revenue base and profit diversification that includes non-US Dollar business would give more cushion.
• Some classes and sectors within classes could provide a fairly decent opportunity using these guidelines.
Sector examples:
Food - retail and production: People need to eat. As the number of farms in the US dwindles, food will continue to require significant transportation networks. With the potential drought/flood conditions caused by climate change and rising energy prices, margins on this will probably increase.
Transportation/shipping: For example, in the European shipping sector, shippers that are involved in freight in terms of ground transportation are doing better than companies shipping cargo containers. Companies shipping liquid natural gas and other energy supplies are doing better than commercial shipping lines.
Basic infrastructure, beverage distribution, water purification: As a sub-sector of food sector, filtration as well as bottling companies have historically done a good job at tracking the food sector when there is destabilization.
Precious usable metals and materials: These are also a potential winner. Things like copper and silicon will still be in high demand for production purposes until nanotech becomes scalable. Gold may increase in value as a parking place but may not be liquid at high prices. Aluminum recycling, plastics/polymer engineering/recycling companies also stand to benefit from higher priced commodities.
Volatile Investments:
Fundamentals: High risk, high reward, derivative/public equity based, non-essential, non-transparent.
Specifics: See links at the top of the document.
Fundamental #3: Consider account accessibility.
Ask the question, “Can I get to get to a physical location and talk with a person?” Electronic environments may not always be stable or predictable. More than one mode of communication will provide more options.
Fundamental #4: Examine your credit agreements.
In the coming environment, many people may be more interested in restructuring their debt situation than in focusing on investing. Take a look at how Americans have historically dealt with debt. The old thesis said, “Put everything into your home and borrow against it.” A new thesis would begin with knowing where you stand on your personal debt.
Read your agreements:
Read the fine print of your mortgage, second mortgage, and home equity line of credit. Read the terms of your refinancing paperwork and personal credit card paperwork. Determine what factors may change triggers in credit facilities.
Many people do not know that their mortgage is subject to mortgage interest and repayment rate resets (increases) under certain market conditions. When you start to search through the fine print, look for your covenant exposures. Deep inside credit agreements there are often a whole series of requirements regarding the value of an underlying asset which is securing a debt, i.e. the loan to value ratio. If there are significant alterations in the value of the asset, there are remedies available to accelerate the payment of the loan. These resets have nothing to do with subprime rate increases.
For example, if the underlying value of the asset (house, car, boat, etc.) devalues 10%, and you were leveraged at the original value of the asset, the banks have the ability to change the rates of interest and repayment. Therefore, in a market where housing prices are devaluing on a mass scale, it would be wise to know how much the underlying value of your house could be adjusted, based upon appraisal. As the property value degrades, you could find yourself in a breach of your loan agreement.
As a house is devalued, there is less value securing a loan and the loan portfolio of a lending institution becomes more and more risky. In order to recoup as much of the investment as it can, the lending institution may legally increase interest rates and speed up your payment schedule. This may increase your mortgage payment and may also increase the amount of money going toward interest rather than principal.
Therefore, barring wild cards of large scale legislation and financial regulation, if your debt (mortgage) contract(s) have such terms you may want to start to pay down your exposure on outstanding consumer debt and re-finance debt rather than putting money into safe haven currency investment or safe cash denominated investments. Furthermore, in a highly volatile market, the amount of money saved on interest payment may potentially be greater than the growth on investments. Tax benefits may also be decreased by paying off loans, however, in most cases, the loss of deductions will be offset by the savings in increasing interest payments.
Consideration: Pull out all your loan documentation and read the fine print. Look for mention of triggers that could bring an alteration in terms (higher interest or acceleration of repayment) based on an insufficiency of collateral.
*These exposures may exist on your credit cards as well. It would be well to pay off the debt with the highest interest rates first!
Fundamental #5: Know who owns what
Find out from your bank who owns the mortgage. Many loans have been bundled and sold to third parties as equities (these have also been resold many times over). At the moment, courts have ruled that until proof of ownership exists, banks cannot foreclose on the asset. However, if a bank or third party can prove ownership (or if the legal ruling changes), then they will have the ability to foreclose on the property. Therefore, this second point illustrates why a solid strategy may be to pay down home equity loans particularly those who have been sold to 3rd party institutions.
Regulatory Wild Cards:
As the Bush Administration unleashed its plan to tackle the housing foreclosure crisis (http://www.npr.org/templates/story/story.php?storyId=16981165) other institutions are scrambling to come up with solutions. This may change the considerations above in a positive or negative way. Consider for the moment what was reported in a Financial Times article on 12/13/2007, “The Bank of England and the Bank of Canada, meanwhile, announced sweeping changes to their collateral rules to allow banks to pledge a much wider range of securities in exchange for funds.” (http://www.ft.com/cms/s/0/d9e03c62-a8bb-11dc-ad9e
-0000779fd2ac.html?nclick_check=1)
On one hand this development seems to free up liquidity in the market and ease the burden on people who want to acquire mortgages. Commercial banks will be able to borrow from their central banks using non-traditional collateral. However, depending on what is accepted as collateral, we may see similar problems beginning to emerge as occurred in the subprime lending debacle. Changing collateral rules lacks transparency and accountability and, if not held in check, banks will be forced, similar to the subprime situation, to foreclose on assets that don’t add up to the value of the lent capital.
Conclusion:
Above we have given consideration to some fundamentals about how to restructure debt and allocate discretionary funds. Please let us know what you think and send comments to info@arlingtoninstitute.org.
John L. Petersen
Publication Date:
12/17/2007
Carolyn Raffensperger’s reply to above:
Investments for environmental and community sufficiency
Friday, April 10, 2009 at 11:56am
In January of 2008, the Arlington Institute published an article about how those who anticipated the US financial crisis were investing their money. http://www.arlingtoninstitute.org/tai-alert-13-economic-disruption-weathering-storm
I wrote this in response.
The recommendations in Weathering the Storm appear to this environmentalist
to be short sighted. The likely storm is going to be environmental as well
as economic.
Given the probable combined meltdown, discretionary money can be used to
reinforce certain principles. My concern is that most of your recommendations could generate positive feedback loops, increasing both environmental and economic trouble.
I use the following principles:
A. Use investments to build local and regional resilience, particularly in
the areas of water and food infrastructure. Municipal bonds are one financial vehicle for doing this.
B. Growth for growth's sake is a failed proposition and increases instability. Accordingly, high interest rates are prima facie suspect.
C. 1) There are two parallel economies in the U.S., the for-profit and the not-for-profit. They operate under different legal rules and for different purposes. Done well, moving money out of the for-profit economy into the not-for-profit arena increases community resiliency.
C. 2) Invest now in nonprofits. Money given to them now will be used more wisely than investing in distant global ventures, especially if the economy crashes and burns. The operative word is now.
D. Money is a proxy. There are no proxies in nature. Shorten the supply
chain of proxies feeding (economically) off of proxies.
E. To the extent possible invest in things that will benefit you AND future
generations. Again, think of the municipal bond model rather than corporate stock.
F. Business has the capacity to adapt quickly and make change faster than
government. Use investments to leverage the kind of change necessary to
create sustainability. The point here is that speed can be harmful to the
environment (rapid development of technologies that could be disastrous) or
advantageous. Let's increase the velocity of change towards sustainability.
G. Scale is critical. Almost anything on a big enough scale can
be an environmental calamity. Use investments to leverage scale down.
H. A great deal of middle America's investments are geared toward caring for the exigencies of old age -- medical care, housing, etc. We are afraid of the costs of being old and infirm, dependent on a flimsy social security. A cultural revisioning of elder care and status as a community matter rather than an individual matter, would recalibrate some of the demand for economic growth.
All in all, I use my money in such a way to foster care of the future, including mine, but especially those beings to come. I used to see my discretionary income as a matter of self-sufficiency. I now see it as a means for increasing community sufficiency. Living in a community that has environmental, infrastructural and cultural integrity is more likely to provide resilience for the coming storms both economic and environmental.
Carolyn Raffensperger
Science and Environmental Health Network
http://www.sehn.org
Article 1
Economic Disruption: Weathering the Storm
By: Ken Dabkowski
12/17/2007
Ever since Dr. David Martin gave a speech at The Arlington Institute in July of 2006, his economic report of opaque data-driven certainties has elicited many questions from friends, not the least of which is, “Well, what do we do about all of this?”
Given our position as think tank and not financial adviser, we have worked with Dr. Martin and other advisers to gather some general thinking points, sectors, and emergent fundamentals that are worthy of consideration. Although we cannot offer advice, it is, after all, helpful to see how the architects of scenarios and analysis manage their personal businesses and investments based on their own insights. In our scenario driven world, we would suggest that this is a thoughtful approach which outlines fundamental principles for weathering the financial storms to come.
Discretionary asset allocation to restructuring debt:
If you have your mortgages and credit cards paid off and have discretionary liquidity, sections one, two and three will be particularly applicable. If you hold a debt position, you will find sections three, four and five particularly applicable. These considerations apply to business and personal investments and are based on the analysis found in Dr. Martin’s July 2006 speech:
http://archive.arlingtoninstitute.org/library/ArlingtonInstituteAddress
Transcript_eng.pdf
and TAI Alert #11:
http://arlingtoninstitute.org/tai-alert-11-major-financial-disruption
Fundamental #1: Consider Diversifying globally.
Consider diversifying a portion of your assets into a GB Pound/Euro basket. Most of the international corresponding banks have foreign exchange and currency desks. Super regional banks like Wachovia have the ability to do this.
Consider converting your payment and contracts:
Consider restructuring some or all revenue bearing contracts such that they are denominated in GB Pounds or Euro. At a minimum, it might be worth thinking about doing this with future contracts. Holding contracts payable in both currencies would maintain a diversity of currency risk. Payments in currencies that are more closely linked to a true sovereign bank may attenuate the current dollar exposure risks. Options here are to open an international account using any bank that will allow for one. An electronic banking option might be useful so that you can make your holdings liquid in US Dollars as you need them. For example, consider converting funds back into dollars on a monthly or semi-monthly basis to pay your credit card bills or your employees – however, repatriate only what you need when you need it. If you don’t need it, leave it where it is. Remember, anything over $5K USD or more may trigger an individual Suspicious Activity Report (SAR) under 12 CFR 21. The Bank Secrecy Act was set up, among other things, to provide a means by which Federal authorities could detect money laundering and so the SAR is an important consideration.
Fundamental #2: Consider researching companies that diversify globally.
• The London (FTSE), German (Xetra DAX), Netherlands (AEX), France (CAC) and New York markets list companies where the primary profit or value of transaction is based on business transacted in Euro or GB Pound denominated transactions. Note that General Electric’s CEO Jeff Immelt recently gave an interview in which he reported that GE’s profit will come largely from overseas markets.
• It would be well to analyze each company’s growth plan. Look for existing (primarily profitable) revenue/income coming from non-dollar denominated sources.
• For US listed companies – a diversified reach in their revenue base and profit diversification that includes non-US Dollar business would give more cushion.
• Some classes and sectors within classes could provide a fairly decent opportunity using these guidelines.
Sector examples:
Food - retail and production: People need to eat. As the number of farms in the US dwindles, food will continue to require significant transportation networks. With the potential drought/flood conditions caused by climate change and rising energy prices, margins on this will probably increase.
Transportation/shipping: For example, in the European shipping sector, shippers that are involved in freight in terms of ground transportation are doing better than companies shipping cargo containers. Companies shipping liquid natural gas and other energy supplies are doing better than commercial shipping lines.
Basic infrastructure, beverage distribution, water purification: As a sub-sector of food sector, filtration as well as bottling companies have historically done a good job at tracking the food sector when there is destabilization.
Precious usable metals and materials: These are also a potential winner. Things like copper and silicon will still be in high demand for production purposes until nanotech becomes scalable. Gold may increase in value as a parking place but may not be liquid at high prices. Aluminum recycling, plastics/polymer engineering/recycling companies also stand to benefit from higher priced commodities.
Volatile Investments:
Fundamentals: High risk, high reward, derivative/public equity based, non-essential, non-transparent.
Specifics: See links at the top of the document.
Fundamental #3: Consider account accessibility.
Ask the question, “Can I get to get to a physical location and talk with a person?” Electronic environments may not always be stable or predictable. More than one mode of communication will provide more options.
Fundamental #4: Examine your credit agreements.
In the coming environment, many people may be more interested in restructuring their debt situation than in focusing on investing. Take a look at how Americans have historically dealt with debt. The old thesis said, “Put everything into your home and borrow against it.” A new thesis would begin with knowing where you stand on your personal debt.
Read your agreements:
Read the fine print of your mortgage, second mortgage, and home equity line of credit. Read the terms of your refinancing paperwork and personal credit card paperwork. Determine what factors may change triggers in credit facilities.
Many people do not know that their mortgage is subject to mortgage interest and repayment rate resets (increases) under certain market conditions. When you start to search through the fine print, look for your covenant exposures. Deep inside credit agreements there are often a whole series of requirements regarding the value of an underlying asset which is securing a debt, i.e. the loan to value ratio. If there are significant alterations in the value of the asset, there are remedies available to accelerate the payment of the loan. These resets have nothing to do with subprime rate increases.
For example, if the underlying value of the asset (house, car, boat, etc.) devalues 10%, and you were leveraged at the original value of the asset, the banks have the ability to change the rates of interest and repayment. Therefore, in a market where housing prices are devaluing on a mass scale, it would be wise to know how much the underlying value of your house could be adjusted, based upon appraisal. As the property value degrades, you could find yourself in a breach of your loan agreement.
As a house is devalued, there is less value securing a loan and the loan portfolio of a lending institution becomes more and more risky. In order to recoup as much of the investment as it can, the lending institution may legally increase interest rates and speed up your payment schedule. This may increase your mortgage payment and may also increase the amount of money going toward interest rather than principal.
Therefore, barring wild cards of large scale legislation and financial regulation, if your debt (mortgage) contract(s) have such terms you may want to start to pay down your exposure on outstanding consumer debt and re-finance debt rather than putting money into safe haven currency investment or safe cash denominated investments. Furthermore, in a highly volatile market, the amount of money saved on interest payment may potentially be greater than the growth on investments. Tax benefits may also be decreased by paying off loans, however, in most cases, the loss of deductions will be offset by the savings in increasing interest payments.
Consideration: Pull out all your loan documentation and read the fine print. Look for mention of triggers that could bring an alteration in terms (higher interest or acceleration of repayment) based on an insufficiency of collateral.
*These exposures may exist on your credit cards as well. It would be well to pay off the debt with the highest interest rates first!
Fundamental #5: Know who owns what
Find out from your bank who owns the mortgage. Many loans have been bundled and sold to third parties as equities (these have also been resold many times over). At the moment, courts have ruled that until proof of ownership exists, banks cannot foreclose on the asset. However, if a bank or third party can prove ownership (or if the legal ruling changes), then they will have the ability to foreclose on the property. Therefore, this second point illustrates why a solid strategy may be to pay down home equity loans particularly those who have been sold to 3rd party institutions.
Regulatory Wild Cards:
As the Bush Administration unleashed its plan to tackle the housing foreclosure crisis (http://www.npr.org/templates/story/story.php?storyId=16981165) other institutions are scrambling to come up with solutions. This may change the considerations above in a positive or negative way. Consider for the moment what was reported in a Financial Times article on 12/13/2007, “The Bank of England and the Bank of Canada, meanwhile, announced sweeping changes to their collateral rules to allow banks to pledge a much wider range of securities in exchange for funds.” (http://www.ft.com/cms/s/0/d9e03c62-a8bb-11dc-ad9e
-0000779fd2ac.html?nclick_check=1)
On one hand this development seems to free up liquidity in the market and ease the burden on people who want to acquire mortgages. Commercial banks will be able to borrow from their central banks using non-traditional collateral. However, depending on what is accepted as collateral, we may see similar problems beginning to emerge as occurred in the subprime lending debacle. Changing collateral rules lacks transparency and accountability and, if not held in check, banks will be forced, similar to the subprime situation, to foreclose on assets that don’t add up to the value of the lent capital.
Conclusion:
Above we have given consideration to some fundamentals about how to restructure debt and allocate discretionary funds. Please let us know what you think and send comments to info@arlingtoninstitute.org.
John L. Petersen
Publication Date:
12/17/2007
Carolyn Raffensperger’s reply to above:
Investments for environmental and community sufficiency
Friday, April 10, 2009 at 11:56am
In January of 2008, the Arlington Institute published an article about how those who anticipated the US financial crisis were investing their money. http://www.arlingtoninstitute.org/tai-alert-13-economic-disruption-weathering-storm
I wrote this in response.
The recommendations in Weathering the Storm appear to this environmentalist
to be short sighted. The likely storm is going to be environmental as well
as economic.
Given the probable combined meltdown, discretionary money can be used to
reinforce certain principles. My concern is that most of your recommendations could generate positive feedback loops, increasing both environmental and economic trouble.
I use the following principles:
A. Use investments to build local and regional resilience, particularly in
the areas of water and food infrastructure. Municipal bonds are one financial vehicle for doing this.
B. Growth for growth's sake is a failed proposition and increases instability. Accordingly, high interest rates are prima facie suspect.
C. 1) There are two parallel economies in the U.S., the for-profit and the not-for-profit. They operate under different legal rules and for different purposes. Done well, moving money out of the for-profit economy into the not-for-profit arena increases community resiliency.
C. 2) Invest now in nonprofits. Money given to them now will be used more wisely than investing in distant global ventures, especially if the economy crashes and burns. The operative word is now.
D. Money is a proxy. There are no proxies in nature. Shorten the supply
chain of proxies feeding (economically) off of proxies.
E. To the extent possible invest in things that will benefit you AND future
generations. Again, think of the municipal bond model rather than corporate stock.
F. Business has the capacity to adapt quickly and make change faster than
government. Use investments to leverage the kind of change necessary to
create sustainability. The point here is that speed can be harmful to the
environment (rapid development of technologies that could be disastrous) or
advantageous. Let's increase the velocity of change towards sustainability.
G. Scale is critical. Almost anything on a big enough scale can
be an environmental calamity. Use investments to leverage scale down.
H. A great deal of middle America's investments are geared toward caring for the exigencies of old age -- medical care, housing, etc. We are afraid of the costs of being old and infirm, dependent on a flimsy social security. A cultural revisioning of elder care and status as a community matter rather than an individual matter, would recalibrate some of the demand for economic growth.
All in all, I use my money in such a way to foster care of the future, including mine, but especially those beings to come. I used to see my discretionary income as a matter of self-sufficiency. I now see it as a means for increasing community sufficiency. Living in a community that has environmental, infrastructural and cultural integrity is more likely to provide resilience for the coming storms both economic and environmental.
Carolyn Raffensperger
Science and Environmental Health Network
http://www.sehn.org
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