Byung Kyu Park's Personal Website

They say history rhymes (something that Gingrich the historian perhaps might agree with), and Mitt Romney would do well to draw some lessons from History.

The time was 4th century, B.C., Athenians were in a struggle for supremacy (and later, survival) against Spartans. Spartan battle tactic was to draw Athenians out of their cities to fight in open fields, where Spartans had the advantage (Athenians were generally better at naval tactics). As part of that tactic, Spartans ravaged the field outside the city walls, in order to anger the Athenians into coming out for battle. Furthermore, there was a twist to their tactic: ravage all the land but those belonging to Pericles, the Athenian leader urging Athenians to pick their battlefield wisely, in order to put additional pressure on Pericles (you know, the good ol’ politics of envy that never quite dies). But Pericles had an answer for this tactic:

Whilst the Peloponnesians were coming together in the isthmus, and when they were on their march before they brake into Attica, Pericles the son of Xantippus, who with nine others was general of the Athenians, when he saw they were about to break in, suspecting that Archidamus, either of private courtesy or by command of the Lacedaemonians to bring him into jealousy (as they had before for his sake commanded the excommunication), might oftentimes leave his lands untouched, told the Athenians beforehand in an assembly, ‘that though Archidamus had been his guest, it was for no ill to the state; and howsoever, if the enemy did not waste his lands and houses as well as the rest, that then he gave them to the commonwealth,’ and therefore desired ‘that for this he might not be suspected.’ Also he advised them concerning the business in hand the same things he had done before, ‘that they should make preparations for the war and receive their goods into the city; [2] that they should not go out to battle but come into the city and guard it; that they should also furnish out their navy, wherein consisted their power, and hold a careful hand over their confederates,’ telling them, ‘how that in the money that came from these lay their strength, and that the victory in war consisted wholly in counsel and store of money.’

Thus inoculating himself from the politics of envy and effectively leading Athenians in the war effort, at least until his death in the plague.

Romney can similarly inoculate himself from similar politics of envy (although I don’t expect him to; Pericles was a leader for the histories—is Romney?). He can pledge his wealth (amounting somewhere in the hundreds of millions) to the U.S. Treasury, should he win the presidency. While he is the President, he will have the room and board provided, along with the salary; after his presidency, he will have a pension to provide for his retirement (this republic saw too many presidents, including Madison, the father of the Constitution, die broke).

If Mitt Romney wants to win the presidency so that he can lead America for better future, then he can do this. If he wants presidency for personal ambition (as Gingrich clearly does), he probably won’t.

Since it is likely that Democrats will hit on Romney’s Bain Capital record when the general election starts, I’d like to, well, anticipate some of the worst attacks that are sure to be forthcoming.

One I can imagine them doing (perhaps geared toward kindling their youth support) is rebranding the MILF acronym to mean “Mother I’d Like to Fire” (analogy to VPILF of last cycle, although I thought that was more tongue-in-cheek support than attack). The associated imagery here would be substantially similar to the Mediscare imagery of grandma being pushed over a cliff (although I’m not imaginative enough to think of a specific image … but I’m sure some liberal will).

What I’m still hoping for is that Mitt Romney’s talented campaign staff will have ready answers (both in debates and TV ads) to charges made by Gingrich (and will be made by Obama) that will work in the general election, not just GOP primary (where almost-reverent attitude towards free market made such attack risky on Gingrich & Perry’s part in the first place).

Amazon’s Prime library has been a great boon for expanding my normal reading materials (usually restricted to academic journals and, well, religious materials). One of the first on the list was The Big Short: Inside the Doomsday Machine which I just finished reading through.

At first I thought it was supposed to be a fiction (hey, I was just browsing through the list of books on the Prime library and didn’t do due diligence before checking out the book, free of charge), but, well, I guess it’s non-fiction—which I always interpret as the authors not admitting having made up the story (different and distinct from the story being a true one).

Well. It was an interesting story, written from a clearly anti-Wall Street perspective, which is clear in both the author’s choice of narrators (all of whom are either outside-Wall Street characters or those working against the Machine inside the Machine) and the telling itself—I recommend that you first read the Afterword to set your expectations properly before reading through the narrative; it’s not like there’s a big spoiler; everyone knows largely how the financial crisis of 2008 unfolded.

Some of that choice was inevitable: he was writing a story about short-sellers; because of the structure of the market, short-sellers form a minority, and, well, you know about members of minority and their inevitable persecution complex. But I found interesting how Mr. Lewis chose sore winners for his narrators—the “winners” whose stories he chose to tell were not happy that they won (again, some of that is inevitable part of being short a market; short-sellers may be willing to exploit a weakness but they cannot enjoy the general shared ecstasy of a bull market). Nearly all his “winners” become embittered and defeated in spirit through their experience as narrated in The Big Short, and their bitterness (at least as seen through Mr. Lewis’s eyes) is clear by Chapter 10. Assuming Mr. Lewis told at least their side of the story correctly (again, I’d recommend reading Afterword before other parts of the book), to pick only sore winners as champions of his narrative, it had to be a deliberate choice—part of the narrative Mr. Lewis wanted to tell.

And in fact, it’s that driving purpose that leads to certain … inaccuracies in the book. In particular, one theme Mr. Lewis wanted to drive was how big financial institutions misjudged the risk in the proprietary trades involving the sub-prime mortgage market and selling of CDSs. He drives that point in particular in relating the narrative of Michael Burry, who felt the CDSs he owned were not being priced accurately,

All through 2006, and the first few months of 2007, Burry sent his list of credit default swaps to Goldman and Bank of America and Morgan Stanley with the idea they would show it to possible buyers, so he might get some idea of the market price.
…
The data from the mortgage servicers was worse every month—the loans underlying the bonds were going bad at faster rates—and yet the price of insuring those loans, they said, was falling. “Logic had failed me,” he said.
…
In May [2006] he adopted a new tactic: asking Wall Street traders if they would be willing to sell him even more credit default swaps at the price they claimed they were worth, knowing that they were not.

Critical to this narrative is the idea that price of a security can change dramatically and discontinuously—what Mr. Lewis does not make crystal clear are the conditions necessary for such changes. The conditions which would prevent such change are actually spelled out in a verbatim quote in a teleconference by one of the characters that Mr. Lewis would consider a villain in his narrative,

MACK: Bill, I think VaR is a very good representation of liquid trading risk. But in terms of the (inaudible) of that, I am very happy to get back to you on that when we have been out of this, because I can’t answer that at the moment.

A liquid market would ensure any price change would be nearly continuous (especially in today’s markets, where futures market is closed for no longer than 30 minutes except over weekends). But ignoring that critical element, Mr. Lewis makes the following statement while trying to fit Cornwall Capital’s other investment activities into the overarching theme:

If in the next year, a stock was going to be worth nothing or $100 a share, it was silly for anyone to sell a year-long option to buy the stock at $50 a share for $3. Yet the market often did something just like that. The model used by Wall Street to price trillions of dollars’ worth of derivatives thought of the financial world as an orderly, continuous process. But the world was not continuous; it changed discontinuously, and often by accident.

I imagine Mr. Lewis’s chief mistake is in taking the black swan event and use that experience to draw conclusions about white swans. Stock options generally trade in a liquid market, it means stock prices—and hence option prices—generally change continuously, especially when futures market is included. It is silly for a far out-of-the-money long-term options to be sold at low option premiums, only if you assume that a short position on the option cannot be covered before the expiration date. But all traders know it is silly not to set a stop order on any short position on which loss is theoretically unlimited. Perhaps it’s Mr. Lewis’s experience as bond trader that limits his thinking, but stock options are not bought and sold to be exercised (unlike bonds which are often held ’til maturity)—as Dodd points out in Security Analysis, it is always more sensible to directly trade options and warrants than
to exercise them and then trade the underlying security—your capital outlays will be much less (and returns on equity higher) that way.

And if you take it as given that vast majority of options will not be exercised—that is, many contracts will be closed before the expiration date by the option writers buying back the options to cover their short positions if options somehow remain in-the-money (or near-the-money), there’s nothing silly about far out-of-the-money options being low-priced, regardless of the expiration date—as underlying stock prices move (nearly continuously, changing by less than 10% daily on all but perhaps 5 trading days out of the year) and it becomes more or more likely that out-of-the-money will become in-the-money, the contracts will be bought back.

But this little detail about liquid market fixing many of the problems with the preciseness of pricing model (because, let’s face it; financial markets are not normally distributed; like in many other cases, normal distribution is being used as a convenient approximation) would ruin Mr. Lewis’s narrative about how financial markets do not work, so it has to be ignored—or so I think, anyway.

But anyways. So long as one is not interested in getting a fair hearing of both sides (again, read the Afterword for a hint of that), the book is interesting enough—just remember that there are two sides to every story (like there are two sides to every trade), and you don’t get both sides from the same source (unless you are talking to an economist).