Archive | April, 2010

On the FOMC, Employment & Anecdotal Observations

30 Apr

I’m sure you’re aware now that the FOMC decided not to raise rates, with Hoenig as the usual dissenter. Hoenig’s dissension basically revolves around changing the language of “likely to warrant exceptionally low levels of the federal funds rate for an extended period” to something a bit more definite (i.e. giving a timeline).

The report goes on to say that the labor market has shown signs of improvement, yet business remain reluctant to hire and make capital purchases. My take on the statement will be that if they are seeing signs of a labor market recovery, that growth is probably in the temporary employment sector. I am going to give them the benefit of the doubt and hope that they predicated their decision on assigning a lower weighting to the temporary Census jobs that are being created and a substantially higher weighting to temp jobs outside of the Government sector. Time will tell and that will happen on the NFP Friday coming up next week.

Anecdotally, I’ve seen patches of hiring in manufacturing. On a brief walk through an industrial area after dark, I’ve noticed a few places beginning to run operations into 2nd and 3rd shifts. I’ve also spoken to friends in the manufacturing sector who say that orders are slowly coming back in, albeit at a tempered pace. This would make sense given that many businesses who have had to delay equipment upgrades and trim back inventories have gotten to the point where they simply must begin to order.

From the statement, this struck me as particularly interesting and bodes well for INTC, DELL, MSFT as many analysts are predicating stronger results on a forecasted upgrade cycle: “Business spending on equipment and software has risen significantly; however, investment in nonresidential structures is declining and employers remain reluctant to add to payrolls.” I believe that part of this has to do with the upgrade cycle, which goes back to my explanation in the 3rd paragraph. Many businesses didn’t upgrade computers or delayed purchasing software during the worst of the Depression (let’s be real, it was/is a Depression) because, quite simply, they had a ton of well-working computers laying around from all the people they fired, or machinery sitting idle. I think many businesses were able to unload the excess computers/machinery on the resale market to generate cash, and now that they are beginning to repair their balance sheets, despite a lack of credit they are forging ahead and upgrading that equipment, but holding back on the larger big ticket items that require credit to purchase.

Household spending, even though it has picked up, cannot continue at the levels I think the Fed is looking for in order to proceed with a rate hike cycle. The primary reason: Unemployment. EUC claims continue to skyrocket as more and more people exhaust benefits, although the rate of change has begun to slow (this can also be explained by people who joined the EUC program at the beginning, and have now exhausted all tiers). Without substantial growth in temporary employment (where the jobs actually last more than 3 to 6 months) or full time employment, I think that household spending runs a real risk of double dipping. Households have run out of avenues to turn (tighter credit, the Home Piggybank is shattered, an already abysmally low savings rate for most of their lives is now depleted, etc). If household spending double dips, that will ripple through the economy, which puts us at real risk at endangering the “recovery”

On a final note, anecdotal reports from people I know personally looking for jobs tell me that wages are going to be substantially lower, while the competitiveness for any available jobs (temp/perm) is frustratingly high. Many of the recruiting/HR practices that created many discouraged workers (I use the term in context to mean frustrated, not giving up due to lack of available openings) are still rampant, and now with reports that many companies are resorting to credit checks for potential new hires, that could cause the unemployment rate to remain quite static in the mid 9’s for quite some time unless there’s something done about that practice. I don’t want to get into the full argument here, as Daniel Indiviglio wrote about this in August 2009 for The Atlantic. You can read the article here: Will The Recession Make Inequality Worse?. I, like many, look forward to the BLS numbers to see where the recovery in employment is, given the fact that businesses are still reluctant to hire, among other factors.

You can read the full text of today’s FOMC statement here:


Live From the Milken Institute Global Conference

26 Apr

Myself & 1-2 are lucky enough to be here in LA for The Milken Institute’s Global Conference. I will be live-tweeting (and possibly blogging) my thoughts from a number of Panels through the next 3 days, so check back and follow me on twitter and @onetwoko as well.

Guest Post: Quote From Colonel L. Blankfein Jessup Before a Commission of Inquiry

23 Apr

From 1-2 aka @onetwoko

“You want the truth? You can’t handle the truth. Son, we live in a
country with an investment gap. And that gap needs to be filled by men with money. Who’s gonna do it? You? You, Middle Class Consumer?

Goldman Sachs has a greater responsibility than you can possibly fathom.

You weep for Lehman and you curse derivatives. You have that luxury.
You have the luxury of not knowing what we know: that Lehman’s death, while tragic, probably saved the financial system. And that Goldman’s existence, while grotesque and incomprehensible to you, saves pension

You don’t want the truth. Because deep down, in places you don’t talk about at parties, you want us to fill that investment gap. You need us to fill that gap.

“We use words like credit default swaps, collateralized debt obligation, and securitization… We use these words as the backbone of a life spent investing in something. You use ’em as a punchline. We have neither the time nor the inclination to explain ourselves to a commoner who rises and sleeps under the blanket of the very credit we provide, and then questions the manner in which we provide it!

We’d rather you just said thank you and paid your taxes on time.

Otherwise, we suggest you get an account and start trading. Either way, we don’t give a damn what you think you’re entitled to!”

Geek Corner: Parallelization Of Forecasting and Risk

20 Apr

A problem that has plagued me greatly here in the cave is the lack of computational resources when it comes to generating much of the data that I use to gain a better picture of the bond markets. Firstly, generating ARIMA based forecasts for 40+ instruments and derivative time series took around 5 minutes. That’s not a long time, but when I recently shipped the task off to a significantly slower computer, the Arima selection process went from 5 to nearly 30 minutes. Likewise, generating VaR sensitivities for around 12 instruments took even longer. In short, to generate most of the analytical content and data needed to write my commentary and research here took an excruciatingly long amount of time from getting the data into the database, managing the data and then applying processes in R.

I recently installed the foreach and SNOW (Simple Network Of Workstations) R packages for Windows and set out to decrease the time for these 2 tasks, as they represent the lions share of the time in the process. The test machine that I used was a 8 core machine running Windows Server 2008. You can see the result here for VaR Sensitivities generation:

User System Elapsed
Before 722.03 1.57 763.18
After 0.04 0.25 572.01

ARIMA forecasts only now take less than a minute across 45 instruments. That includes selecting the best ARIMA model in which to generate the fit, applying the fit and generating a N-day forecast.

So how did I achieve this exactly? Simple. SNOW can be used for multiple cores/processors residing on the same machine, or can be used across networks. While I won’t get into setting up a SNOW cluster across a network, the syntax is mostly the same with a few extra steps. For those looking to troubleshoot getting a SNOW cluster working on both remote Win/Linux workstations, I have one hint for you when you start the cluster, use the master=TRUE statement when initializing the cluster.

print(‘Setting Up SNOW Cluster for parallelization’)




#Define the functions that we want parallelized across cores/cpus

parallel.arima <- function(data) {


fit = auto.arima(ts(data), approximation=TRUE, allowdrift=TRUE)


cl.tmp = makeCluster(rep(‘localhost’,8), type=’SOCK’)  #define that we want 8 instances, one for each core

registerDoSNOW(cl.tmp) #register the cluster with the ‘foreach’ command

res = foreach(dat=MyGlobalInstruments) %dopar% parallel.arima(dat)

Now, you may ask how do you get the results (the arima fit for each instrument) out of the res object that is created from foreach? Simple:

res[[1]] #retrieves the first result

res[[2]] #retrieves the second result

forecast(res[[1]], h=50)

Now, for the VaR Sensitivity graphs, I recommend that you run these on the SAME machine (i.e. create a cluster spanning multiple cores). The function that we’re going to pass to foreach will create a PNG file for each VaR Sens. graph that’s created. You can guess what will happen if you distribute the task out to multiple machines. You will have graphs scattered all throughout your cluster.

Using the same cluster object as before, the steps are pretty much the same:

#define the parallelization function

run.sens <- function(R) {


png(file=paste(‘VAR-Sens-‘,R,’.png’, sep=”), width=500, height=500)

chart.VaRSensitivity(R, methods=c(‘HistoricalVaR’, ‘ModifiedVaR’, ‘GaussianVaR’), clean=’geltner’, colorset=bluefocus, lwd=2)


#let’s do it, using the instrument returns

foreach(R=MyGlobalInstruments.returns) %dopar% run.sens(R)

#Always good to shutdown the cluster when we’re done, to free up resources



Just by doing those things can make a vast improvement to any process in R. I wish I learned this little trick of being able to parallelize the ‘embarrassingly parallel’ tasks earlier.

Why You Can’t Beat Goldman Sachs

20 Apr

These kind of people are their interns…

Taken from

E-mail: redacted, Home Address: redacted; Cell Phone (US):redacted

Oxford University, Balliol College

•    MSc Economics for Development (Awarded Distinction, given to approximately ~10% of class)    June 2009
o    Awarded the George Webb Medley Prize for Best Overall Performance and Arthur Lewis Prize for Excellence in Development Economics o    Extended Essay: “Aspirations and Schooling: The formation and intra-household impact of educational aspirations in rural China”
•    MSc Financial Economics (Said Business School) University of Pennsylvania: Huntsman Joint Degree Program: Graduated summa-cum laude (4.0 GPA)
•    The Wharton School: B.S in Economics; Concentration: Finance •    College of Arts and Sciences: B.A in International Studies, Minors: Mathematics, Spanish •    Universidad Pontifica Comillas (ICADE: Facultad de Ciencias Económicas y Empresariales) Madrid, Spain
Expected June 2010 May 2008
Fall 2006
Undergrad GPA: 4.0/4.0; Honors: Rhodes Scholar 2008, Selected as a Marshall Scholar 2008, Phi Beta Kappa, Beta Gamma Sigma, Joseph Wharton Scholar, Benjamin Franklin Scholar, University Scholar, Wharton Research Scholar, Dean’s List, StartingBloc, 2nd place – Premio Ellacuria (Prize in Studies of Social Interest), James Howard Weiss Memorial Award (given to one Penn senior demonstrating academic excellence), Delta Sigma Pi Scholarship Key (presented to graduating senior with the highest GPA at Wharton)

Private Sector Experience:

Goldman Sachs (New York City), Summer Analyst in Goldman Sachs Investment Partners (Formerly GS Principal Strategies)    Summer 2009 •    Built financial valuation models and analyzed equity, derivatives, and distressed debt investment opportunities in the autos, healthcare, and industrials
sectors. GSIP is a $7B long/short hedge fund

Bain Capital, Sankaty Advisors (Boston), Summer Analyst Summer 2008 •    Analyzed credit investment opportunities in the automotive and healthcare sectors at Sankaty Advisors, a $30B credit hedge fund of Bain Capital •    Created valuation models, analyzed industry fundamentals, and prepared sensitivity cases to determine investment positions

Goldman Sachs (New York City), Investment Banking Summer Analyst in Natural Resources Leveraged Finance (Commodity Finance) •    Created LBO and construction financing models, prepared sensitivity cases and industry analyses about the power and O&G sectors •    Aided in the preparation of transaction marketing materials, analyzed financial statements, assisted in the execution of various live deals

Credit Suisse (Hong Kong), Investment Banking Summer Analyst in Debt Capital Markets •    Wrote daily and weekly market commentary, created pitch-books covering all of Non-Japan Asia, created Asia bond database with VBA

Taishin International Bank (Taipei), Intern in the Retail Banking Marketing and Product Development Division
•    Applied data mining techniques using SAS and SQL to perform marketing campaign post-mortem analysis for CRM, created database models

Economic Development and Research Experience:

Youth Bank, Chief Financial Officer and Co-Founder Spring 2007-present •    Founded a microbusiness incubator for street youth in Lagos, Nigeria for full launch in August 2009 (Project details: •    Developed the business plan and operational model, conducted market analyses, created budget and accounting system, raised $43,000+

Givology (, Chief Executive Officer and Co- Founder Spring 2008-present •    Founded an online giving marketplace that provides funding for student scholarships and grassroots education projects in the developing world •    Raised ~$50.000, registered 950+ donors, formed partnerships with 20+ grassroots organizations, assisted ~1,300 students in 10+ countries, and sent
fellows into villages to research access to quality of education. Givology selected as one of the “top 100 student-run companies” •    Givology has been featured in Nicholas Kristof’s blog in the New York Times, Knowledge@Wharton, Social Edge, Philadelphia Inquirer, etc

Opportunity International, Intern Fall 2008-present •    Used econometrics to evaluate a financial literacy campaign in Malawi, designed child savings product and baseline surveys for Mozambique

World Bank, Consultant in the Finance and Private Sector Development Research Group Summer 2008-Fall 2008 •    Analyzed patterns of international capital raisings and determinants of debt issuance. Performed cross sectional and multinomial logit regressions

Foundation for International Community Assistance (FINCA) Microfinance, Client Assessment Fellow, Data Analyst Spring 2006- Summer 2007 •    Conducted 800 client interviews in rural villages of four different Mexican states, presented poverty reach findings to FINCA Mexico head •    Performed quantitative statistical analysis of social metric impact assessment data of village banking programs in Latin America

Nantik Lum Microfinance Institute (Madrid), Project Manager/Scholar Grant Recipient Fall 2006 •    Created a project proposal and action plan for changing the Chiapas collective projects into a full group solidarity lending model •    Supervised the writing, translation, and publication of the Nantik Lum research monograph for the European Microfinance Network

Global Interdependence Center, Project Manager Spring 2004-Fall 2007 •    Researched major developments in financial interconnectivity, wrote policy position papers on issues of economic globalization

Leadership and Activities:

Speech and Debate (National Forensics Association), Debate Captain Fall 2000-Spring 2008 •    Acted as coach, mentor, and captain, providing individualized one-on-one training, administrative support, and research for the team •    Placed 1st with a 10-0 record and 2nd with 8-2 record in the 2006 and 2007 Pennsylvania State Championship Tournament, respectively •    Led team to a 4th place victory at the 2007 National Forensics Association National Championship Tournament

Destination Imagination, President and Founder Fall 1992 – present •    Placed 3rd at the 2005 International Destination Imagination Competition in the Intercollegiate DIXtreme Division, participated 13 years

Computer Skills – Proficient with Microsoft Suite, STATA, SQL, html, VBA, Photoshop, basic Java, elementary SAS

Language Skills – Fluent in Spanish (11 years intensive training), fluent in spoken Chinese Other Interests – Oxford Women’s Ice Hockey Team, Violin, Piano, Erhu, currently writing a novel, Oxford Entrepreneurs, ORBIS Portfolio Trading Team
Summer 2007
Summer 2006 Summer 2005

On The Goldman Sachs Fraud Charges

17 Apr

I’ve been painfully busy this week so I was only able to get out my thoughts in a few tweets and comments on other blogs, forgive me.  Felix Salmon, Kid Dynamite, Henry Blodget and others have all beat me to the punch, and largely, I share many of their thoughts, especially Dynamite’s most recent take (wherein he quotes Blodget).

I won’t rehash the charges as they’ve already been beaten to death by everyone else, however, I will say after reading the SEC’s complaint, the Abacus pitchbook, and Goldman’s defense, I’ve come to the following conclusions (I’m neither a lawyer or structured finance professional, so keep that in mind):

Not only do I not see how/why GS was under any obligation to disclose the party (parties) on the other side of the Abacus synthetic CDO transaction (see page 8 of the pitchbook), I can’t figure out how it’d matter if they had (more on this below).  I also haven’t seen anything yet that explicitly says whether Paulson & Co. did or did not buy into the equity tranche of the deal.  The SEC complaint seems to imply that they did not, however if that is, in fact, the case, I’m very curious why they danced around saying so clearly…

Also, as KD wrote (emphasis mine):

Note that no one is arguing the merits of GS’s disclosure (or lack thereof) here, but I am absolutely arguing that the disclosure shouldn’t have mattered IF ACA HAD DONE THEIR JOB. The underlying securities in the synthetic CDO are what they are, regardless of who put them on the list, or who takes the other side of the trade.  They need to be evaluated based on risk metrics, cash flows, etc.  The real issue is that ACA didn’t do this work to the level that they needed.

GS may be guilty of insufficient disclosure – let’s just pretend they are.  My point is that even given this failure to disclose, the buyers of the securities in question were grossly negligent in failing to properly assess the values and prospects of the synthetic CDOs, and they are trying to remedy their bad trade by diverting blame.

Again, while I’m not a lawyer, from what we’ve seen so far, it looks like the investors’ shareholders may have merits to file suit against the firm’s management for breach of fiduciary duty, since its seems pretty clear that both ACA and IKB (and/or others) didn’t come anywhere close to conducting the kind of diligence required prior to undertaking such a transaction.  They were given a list of all the underlying RMBS and could have easily done the same research Paulson & Co. apparently did, but it seems that either they did – and simply had a rosier outlook for MBS/over-reliance on Ratings – and/or didn’t, in which case they have no one else to blame but themselves.

At best, Goldman’s role(s) in this Abacus transaction teeter(s) on the edge of what most would call ethical business practices, however, I’m not sure the SEC – especially up against the all-star legal team GS is likely to bring – will be able to prove fraud on any meaningful scale.  Given the emails involving “Fab” Tourre the SEC complaint cites, I wouldn’t be surprised if he gets thrown under the bus here by his squid overlords to save their butts.  If that happens, I also wouldn’t be surprised if he tries to shift the blame onto one or two of his higher-ups, an action which GS senior management may deem necessary to protect the firm as a whole.  Ultimately, my guess at this point is that Goldman ends up paying a $50-$100 million fine -tops – after a year or two of courtroom haggling, while “neither admitting or denying any wrongdoing.”  My friend, The Reformed Broker explains what’ll likely come of this in it far better detail, here.

As far as the bigger picture goes, I’m glad the SEC looks like they may finally be getting their shit together.  Unfortunately, unless they have an ace up their sleeve, I doubt this case is the slam dunk they likely thought it was.

Boring Risk

16 Apr

“Know when to hold ‘em, know when to fold ‘em” – My forecast and trade on the 2/30 had called for 400bps by this time from December 09. Clearly things have not worked out as well, which has warranted increased monitoring of this position. Fundamentally, I believe that the spread will eventually go to those levels for the main reasons:

  1. 30Y bonds are not desirable to many investors given increased geopolitical risks, which should put further selling pressure in the (hopefully) intermediate term.
  2. 30Y swaps are inverting more and more, which is reflecting the perception that the US government could possibly not meet the obligations 30 years hence (I doubt we can meet our obligations 5 years hence, and the swaps market seems to be inching closer to that same picture as well)
  3. Investors will begin to demand higher yields due to selling and to try to minimize any potential fallout effects that DC’s fiscal recklessness could dish out
  4. The shorter end of the curve has less default risk, so I would expect that investors who are looking for a relatively short lockup period for their funds can still get a relatively decent rate (it is still beating what most banks are charging for deposits)

Luckily for me, the 360 bps has not been breached much, and due to me being on vacation for the better part of March, I’m glad I didn’t follow the spread from day to day.

My VaR assumptions for the portfolio were shattered nearly 4 times (although if memory is serving me correctly, intraday that number is much higher), with the most recent being in early March. The historical VaR for the spread has been decreasing along with historical volatility. The primary risks that I continue to see for the spread are: 1) Geopolitical risks both in US and EU 2) A shift in the perception of long term US deficits which could make the long end of the curve desirable.

Out of all the spreads, this particular spread has the lowest HV, primarily due to the lack of significant movement in terms of 30Y yields. The short end of the curve has seen recent spikes in HV, and thus if I do an analysis of the portfolio for both 2Y and 30Y, I see that this is validated. The overall Expected Shortfall (ES) is 9.5% at a 95% confidence interval. The contribution of each leg is: 2YR 90%, 30Y 10%. I have suggested in the past in order to hold on to the position to hedge one or both of the legs with options. In February, I initiated the hedge and by March this hedge had expired. It is, perhaps time to try to hedge against volatile moves on the short end, particularly above 1.10% on the 2Y leg and possibly put in a rate floor on the 30Y around 4.60-4.65, This will enable the individual to hold on to the position while attempting to stem losses from continued flattening of the curve due to exogenous factors such as a flight to quality from some unforseen event, etc. I agree with Bill Gross on this one, but of course I am not totally impartial in the debate between BlackRock and Pimco.