[Winstonm]

This is from a website called Safehaven.com:

Quote

Minsky claimed that in prosperous times, when corporate cash flow rises beyond what is needed to pay off debt, a speculative euphoria develops, and soon thereafter debts exceed what borrowers can pay off from their incoming revenues, which in turn produces a financial crisis. As a result of such speculative borrowing bubbles, banks and lenders tighten credit availability, like right now, even to companies that can afford loans, and the economy subsequently contracts.

I find this interesting as economist Andy Xie has recently described both Japan's troubles, the U.S. troubles, and the future troubles of China as having similar causes.

http://www.ritholtz.com/blog/2009/09/andy-...-economy-sinks/

[barmar]

helene_t, on Sep 28 2009, 12:00 PM, said:

I once found out that the managers of a hedge fund I invested in got a bonus for large short-term wins but suffered no penalty for large losses. In other words, if they start with a portfolio worth one billion, let it grow to 2 billions the first year and shrink back to 1 billion the second year, they would be awarded. While if they just stay put through the two years they would not. Since then I haven't put money in hedge funds. If I were to invest again in something other than savings accounts and my own house, I would buy shares in real companies.

Hedge funds are by their nature exceptionally risky, so it's common for them to lose value. Would it really be fair to the fund manager to penalize him for getting the expected results? I don't know of any type of company that makes employees pay for poor performance, except that they might be fired if they're performing well below expectations. What kind of penalty would you like to see the hedge fund managers suffer?

Also, although he makes money if the fund goes up and then comes back down, he makes even MORE money if it grows both years. He has no incentive to let the fund drop in the 2nd year just because he made a bonus in the 1st year. Also, if I'm not mistaken, mutual fund managers compensation is typically tied to the NAV of the fund; when it goes down so does their salary, plus they don't get a bonus, either. Or they're strongly encouraged to invest some of their own money in the fund they manage.

It also seems strange that you've sworn off all mutual funds because of problems you see in the most risky category of them.

BTW, aren't real company executive bonuses similar to the bonus policy of the hedge fund?

[Winstonm]

The hedge fund compensation historically has been 2 and 20, or 2% management fee and 20% production fee. The fee structure is such that high risk-taking is rewarded while loss is ignored.

It's is really quite the confidence game - hey, buddy, give me your money and I'll invest it for you and I'll only charge you 2%, and if we make money I'll only keep 20% of it. Of course, if we lose you still pay me the 2% for talking you into giving me your money and losing it for you.

Sweet.

[PassedOut]

As a person in business, I certainly favor a market system with risks and rewards and with incentives for high production and good service. The question, then, is how best to mitigate the negative effects of the system on those who do not wish to participate in the risk-taking, but prefer stability and security.

I found it interesting that Minsky addressed that very question in a way that complemented the market system rather than replacing it (which, in my view, would be disastrous).

[barmar]

If you want stability and security, invest in high-grade bonds and other fixed-income securities.

When you invest in highly volatile instruments, like hedge funds, they should disclose the risks. The expectation is that they go down often; the hope is that when they go up, they'll go WAY up, and this will make up for the losses. And when they achieve this, it makes sense to reward the fund manager.

[mike777]

barmar, on Oct 1 2009, 12:12 AM, said:

If you want stability and security, invest in high-grade bonds and other fixed-income securities.

.

of course following this advice in 1970= close to negative 100% return. INflation matters.


invest 3.000 in 1930...hold for 40 years and collect your interest in 1970 and ?
invest 3000 in 1940 and hold for 40 years and collect in 1980?

OTOH buy 5th ave nyc....3000 in nyc and hold for 40 years....

OTOH buy chicago....3000 hold for 40 years.....


Granted risky...you might DIE

[PassedOut]

barmar, on Oct 1 2009, 12:12 AM, said:

If you want stability and security, invest in high-grade bonds and other fixed-income securities.

Many people cannot afford to invest enough money in high-grade bonds and other fixed-income securities to weather a period of unemployment caused by failures of the economic system. And many are too young to have established a substantial nest egg even when they have started saving.

I can't overlook the hardships caused by the instabilities in our economic system even though my family is lucky enough not to be hurt. I do have relatives, friends, and (of course) potential customers who are badly hurt when when they lose their jobs.

We accept that if one of our businesses goes under, we took risks that didn't pay off. It happens. But why should those who simply want to work productively for a predictable salary suffer because some wealthy high-rolling gamblers lose their bets?

I don't think that they should, so I think Minsky's ideas deserve consideration.

[luke warm]

PassedOut, on Oct 1 2009, 08:33 AM, said:

We accept that if one of our businesses goes under, we took risks that didn't pay off. It happens. But why should those who simply want to work productively for a predictable salary suffer because some wealthy high-rolling gamblers lose their bets?

I don't think that they should, so I think Minsky's ideas deserve consideration.

if a person has the money and wants to risk it in any way s/he chooses, who should say 'no'?

[hrothgar]

barmar, on Oct 1 2009, 08:12 AM, said:

If you want stability and security, invest in high-grade bonds and other fixed-income securities.

Stable is not equivalent to secure. (Especially if you're expecting inflation)

On the hedge fund front: My understanding is that the apha generated by most funds is unable to compensate for the management fees.

Me, I have a nice little portfolio optimization algorithm sitting on my desk.

I feed in a set of

Sector specific spiders
Exchange Traded Funds for light sweet crude, copper, and agricultural goods
A yen fund and a euro fund

Nice, boring diversified portfolio

Might not have the glamor of a hedge fund, but the management fees can't be beat

[PassedOut]

luke warm, on Oct 1 2009, 04:59 PM, said:

if a person has the money and wants to risk it in any way s/he chooses, who should say 'no'?

Indeed. And it's reasonable to say that we "have" the money we are risking in our own businesses.

But would you say that a person engaging in highly-leveraged speculation with invested funds "has" the money he or she risks?

What we are discussing here, though, is how those who are not participating in the risky speculation should be shielded from the effects of the crash when the speculation goes bad. Minksy offers what seems to me to be at least a partial solution to that problem. Agreed?

[luke warm]

i agree that the vehicles themselves have faulty designs