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Temple University mathematics professor John Allen Paulos, author of Innumeracy (Hill 2001) and the more recent A Mathematician Plays the Stock Market (Basic 2003), wrote this insightful Wall Street Journal ($) op-ed yesterday in which he describes how even a bright mathematics professor who knows better can get caught up in the irrational exuberance of a stock bubble:
Bernie Ebbers’s testimony yesterday that he emphatically was not aware that his accountants were cooking WorldCom’s books while he was CEO brought back unpleasant memories of my disastrous “relationship” with the man. It began in 2000, when I received a small and totally unexpected sum of money. I considered it “mad money,” a term that, in retrospect, seems all too appropriate. Nothing distinguished the money from my other assets except this private designation, but being so classified made my modest windfall more vulnerable to whim. In this case it entrained a series of ill-fated, and much larger, investments in what WorldCom’s ads called “the pre-eminent global communications company for the digital generation.”
Professor Paulos goes on to explain how his limited research into WorldCom validated his interest in the stock, so he bought a few shares. And then:
After buying the initial shares, I found myself idly wondering, Why not buy more? I didn’t think of myself as a gambler, but I willed myself not to think, willed myself simply to act, willed myself to buy more shares of WCOM, shares that cost considerably more than the few I’d already bought. Usually a hard-headed fellow, I nevertheless succumbed to confirmation bias, looking disproportionately hard for what made my investment look good and essentially ignoring everything that made it look bad. This wasn’t difficult, given the stellar reports and strong buy recommendations that analysts kept bringing forth. In any case, I fell in love with the stock and saw every drop in its price as bringing about an even better buying opportunity. So-called averaging down (buying more shares when the price drops) is often indistinguishable from catching a falling knife, and in my case the result was thoroughly bloody hands.
Unfortunately, Professor Paulos found his initial bias toward the WorldCom stock hard to shake:
I’d grown tired of carrying on one-sided arguments with TV and online commentators as they delivered relentlessly bad news about WorldCom. So, in late fall 2001, some six months before its final swoon, I contacted a number of them and, having spent too much time in the immoderate atmosphere of WorldCom chatrooms, I chided them for their shortsightedness and exhorted them to look at the company differently.
Finally, out of frustration with the continued decline of WCOM stock, I even e-mailed Bernie Ebbers in early February 2002, suggesting that the company was not effectively stating its case and quixotically offering to help in any way that I could. WorldCom, I fatuously informed him, was well positioned, but dreadfully undervalued.
Even as I was writing them, I knew that sending these electronic epistles was absurd, but it gave me the temporary illusion of doing something about the free-falling stock. The realization that doing so had indeed been a no-brainer was glacially slow in arriving, and I didn’t dump it until April 2002, after it had lost almost all value. I gradually woke from this nightmarish infatuation with WorldCom to wonder how it had transformed me from a prudent investor in low-fee index funds into a monomaniacal speculator in a single dubious company.
Mr. Paulos concludes by answering his own question in the context of the ongoing sriminal trial of Mr. Ebbers:
Whatever the [Ebbers] trial’s outcome, however, I’ve long since come to a verdict on my behavior: guilty of stupidity in the first degree. No jail term, just a very substantial fine.
Yet, the ever-insightful Professor Ribstein notes in this post that attempting to deter this type of investor bravado through government regulation really just ensures that such irrational exuberance will eventually reappear:
A cause of the recent frauds is investors’ belief that they can outguess the market. Unfortunately, this erroneous belief is perpetuated and entrenched by court decisions and regulation that convey the impression that the markets are, again, safe for this foolish activity.
Quoting from a draft of his paper, Market v. Regulatory Responses to Corporate Fraud, 28 J. Corp. L. 1 (2002, Professor Ribstein observes:
Corporate frauds arguably were facilitated because there was too much investor confidence, as indicated by investors’ willingness to ignore what the market knew about questionable accounting and to not question firms’ extravagant claims about unproven business plans. Overselling regulation might perpetuate this misjudgment and mislead investors back into the same complacency that contributed to the recent frauds.
Ian Woosnam will be announced today as the captain of the European team in the 2006 Ryder Cup competition that will be played at Kildare Golf and Country Club, Straffan, County Kildare, Irelandin Ireland.
Just what we need — a former boxer leading the European team as it kicks the American team’s ass again.
Eight former Afghan and Iraqi prisoners represented by the American Civil Liberties Union and Human Rights First have filed a federal lawsuit (bugmenot login: “colinsearle” pword: “bristol”) in Illinois seeking unspecified damages against Defense Secretary Donald Rumsfeld for authorizing abuse of prisoners in violation of the U.S. Constitution and international law. The plaintiffs contend that they were never combatants against the U.S. and eventually were released without any charges being filed against them.
In what seems like a weekly event, the Justice Department is investigating whether former employees of Houston-based Halliburton Co. conspired with other companies to rig bids for large overseas construction projects. Halliburton disclosed the bid-rigging investigation in its annual 10K filing with the Securities and Exchange Commission. This new antitrust investigation has grown out of an earlier investigation into whether a consortium of companies bribed Nigerian officials to win a lucrative contract to build a liquefied natural-gas plant there.
Although Halliburton is a major provider of oilfield services, it also owns the giant construction and government-contracting unit called Kellogg Brown & Root. KBR is one of the world’s largest overseas construction firms and specializes in building large and complex projects in foreign countries. Halliburton announced in late 2004 that it would likely sell its KBR unit, but that such a sale would take considerable time to finalize and consummate.
The antitrust and Nigeria investigations are focused on Albert J. “Jack” Stanley, who was the former chairman of the Halliburton unit Kellogg Brown & Root. Halliburton canned Mr. Stanley this past June for allegedly receiving improper payments from an agent of the Nigeria construction consortium. The Justice Department is looking into Mr. Stanley’s activities dating back to the mid-1980s when he worked for construction firm M.W. Kellogg. Dresser Industries acquired Kellogg in 1988 and then Halliburton bought Dresser in 1998 while U.S. Vice-President Dick Cheney was CEO of Halliburton.
This current probe is just one of many investigations that are confronting Halliburton, which appears to be defense lawyer’s dream client. Another federal grand jury is investigating whether the company violated U.S. sanctions against doing business in Iran, while another investigation is attemptting to determine whether Halliburton overcharged the U.S. military for running dining halls in Iraq.
You don’t say? H’mm. Please pass the potatoes.
Despite hiking electricity rates 50 percent in the past four years and disconnecting a record number of customers for failure to pay bills, a Seattle area, publicly-owned utility has become a West Coast hero for, as this Washington Post article puts it, “goring the bankrupt carcass of the disgraced Enron Corp. and spilling buckets of deliciously embarrassing blood.”
Snohomish County Public Utility District entered into a costly nine-year contract with Enron in January 2001 during the middle of the West Coast power crisis. At the time, the spot-market cost of regional power had spiked more than a hundred-fold due primarily to dysfunction related to dysfunctional deregulation of power markets. Snohomish’s deal with Enron committed the utility to buy power at three times the cost of any previous long-term contract and about four times the historical rate for electricity in the Pacific Northwest. As a result, the utility had to increase rates substantially to its 295,000 customers.
When Enron filed bankruptcy late 2001, Snohomish seized the opportunity to terminate the Enron contract, which by that time was over-market. Enron’s bankruptcy estate filed an illegal termination claim against the utility seeking $122 million in damages for lost profits from the terminated contract.
Rather than simply fight the Enron lawsuit on technical legal grounds, Snohomish took a more creative approach — the utility sought to obtain through discovery audiotapes of hours of ludicrously obnoxious conversations between Enron power traders during the West Coast power crisis of 2000-2001. The Justice Department had seized the tapes in connection with its criminal investigation into Enron, and a federal judge eventually ordered the government to turn copies of the tapes over to the utility.
The tapes proved to be a gold mine for Snohomish, which has spent about $200,000 over the past year on a team of transcribers who are transcribing more than 2,800 hours of recordings. The first transcriptions of the cynical conversations were released this past June and created a firestorm of media attention even in this Enron-soaked media environment. The utility has continued to release damning transcripts to the public periodically since that time.
Nevertheless, it’s far from clear that the discovery of the obnoxious Enron trader conversations will have any effect whatsoever on the legal question of whether the Snohomish is liable for the $122 million in damages to the Enron estate. That issue remains pending before a federal administrative judge and a decision is expected later this year. Consequently, the entire affair may turn out to be a $122 million anti-Enron public relations campaign for the utility, which commonly receives emails from its customers such as this one quoted in the WaPo article: “I just want to say, ‘You guys rock!'”
I wonder if that customer will have the same reaction if he has to pay his $420 share of the utility’s anti-Enron P.R. campaign cost?
This week started well yesterday when the mailman delivered the always eagerly awaited copy of the Baseball Prospectus, which is flat out the best annual baseball book on the market.
So, in anticipation of reviewing this year’s edition, I cruised over to the Baseball Prospectus ($) website to check things out, only to find Joe Sheehan dropping some serious bad karma on the Stros. After identifying the Indians as the team most likely to take a big step forward this season, Mr. Sheehan votes the Stros most likely to take a big step in the other direction:
The flip side of the Indians’ story is that of the Astros. Their Cinderella run from seventh in the wild-card chase to the seventh game of the ALCS was one of ’04’s great stories. It also provided an object lesson in how the length of the baseball season makes fools of those of us who make broad statements based on how things look at any point in time.
On February 28, though, it’s hard to see how the Astros can repeat last year’s success. They are going to lose a ton of runs from even last year’s average attack–seventh in the NL in EqA. Carlos Beltran is gone. Jeff Kent is gone. Their best hitter, Lance Berkman, is going to miss at least a few weeks rehabbing a knee injury. Jeff Bagwell and Craig Biggio are a year older. Even in the best-case scenario, where Chris Burke and Jason Lane are allowed to win jobs and both hit to expectations, that just makes up for the losses of Beltran and Kent.
After pointing out the Stros’ inexplicable continued reliance on Brad Ausmus, and the problems that Bidg creates in blocking the progress of younger players, Mr. Sheehan turns to the Stros’ pitching staff:
The Astros aren’t going to make it up on the pitching side. Keeping Roger Clemens around just kept them running in place. They still have the same depth issues as they did a year ago, with a host of injury cases and suspects vying to fill out the rotation behind Clemens and Roy Oswalt and the bullpen in front of Brad Lidge. A healthy Andy Pettitte makes up some of that, but there’s still the question of whether two starters can be found from among Brandon Backe, Carlos Hernandez, Tim Redding, or even a longshot like Ezequiel Astacio.
Mr. Sheehan concludes with the following ominous warning:
Last year’s playoff run happened because the front end of the Astros’ roster included some very dominant players. They’re down two stars this year, and the likelihood that Clemens and Lidge can match ’04’s work is slim. They don’t have the depth to make up for that kind of slippage. Not only are the Astros unlikely to return to the postseason, I doubt they can stay in contention.
Well, that analysis did not make my day.
I will have more on the Stros later during spring training, but my short retort to the above analysis is that Mr. Sheehan overstates the Stros’ problems, just like he did last August in this earlier post. Thus, even the best sabermetricians are not infallible.
Although the Stros are clearly a team in transition from the Biggio-Bagwell era, I’m cautiously optimistic that the club can continue to contend even during this period. Yes, losing Beltran hurt, but as noted here, not as much for the long term prospects of the club as one might think. Moroever, my sense is that the loss of Kent will be nowhere near as big a problem as Mr. Sheehan makes it out to be, particularly if Chris Burke emerges as a solid major leaguer. In fact, if now seasoned veterans such as Ensberg and Everett can become just average National League hitters this season, then that improvement will likely more than make up for any difference in run production between Beltran and his replacement, Jason Lane. Finally, both of the Stros’ main National League Central rivals — the Cardinals and the Cubs — are notably weaker this season, so I don’t see either of those clubs, or the improved Reds, running away from the Stros in the division race.
Consequently, despite Mr. Sheehan’s reservations, don’t give up on the Stros just yet. This is a club that has been pretty darn good for a very long time, and I don’t see it as one that will slide into mediocrity without a good fight. Let’s at least wait to see how spring training unfolds.
Rich Lederer over at the Baseball Analysts posts this first segment in a three part series of his recent interview with Bill James, who is the creator of Sabermetrics, the mathematical and statistical analysis of baseball records. Check out this fascinating interview, which includes such interesting observations as the following:
RL: In the 1979 Abstract, you noted that Rod Carew once swung at two pitches when he was being intentionally walked, trying to get the pitcher to throw him something he could reach. Do you think that is a strategy Barry Bonds could employ today?
BJ: I don’t know. I would argue about it this way. If it is genuinely advantageous for the defense to intentionally walk Barry Bonds, then logically it has to be defensible for Bonds to swing at one or two pitches to try to negate that advantage and try to tempt them into throwing him a pitch. On the other hand, if hitters never react by swinging at pitches to try to stop the opposing team from intentionally walking them, the implication is that the offense always agrees to accept it even though the defense thinks the walk is helpful, which seems somewhat illogical.
A couple of previous interviews with Mr. James can be reviewed here and here. Mr. James was hired last year by the Red Sox as a consultant and, although he would attribute the Red Sox subsequent World Series Championship as pure coincidence, I’m not so sure. Bill James is one smart cookie on matters relating to baseball.
Update: Here is the second segment of the interview.
And the third.
Greg’s Opinion brings us this post in which he describes an evening chat with Vinson & Elkins partner and Democratic Party candidate for U.S. Senator, Barbara Radnofsky of Houston. Barbara is a formidable candidate who will be interesting to watch as her campaign develops. If she can overcome the name recognition hurdle, my sense is that she could give any Republican candidate for the Senate a real run for their money.