Archive for the ‘Economics’ Category
Birth of the UK National Debt…
Tags: 04081694, 05301693, 07101690, 1690, 1693, 1694, Admiral Tourville, Bank of England, Battle of Beachy Head, Battle of Lagos Bay, English Navy, George Rook, Glorious Revolution, History, Holland, John Evelyn, National Debt, Rye, Samuel Jeake, United Kingdom, Wapen Van Medemblik, William III, Zeeland
… or the world’s first stimulus bill
From the National Maritime Museum
12 July 1690. Samuel Jeake looked over the ocean. A frightening sight sent his heart racing. The outlines of an English ship was forming over the horizon. Samuel knew that just days before the English Navy, faced with impossible odds, had suffered a terrible defeat at the hands of the French Admiral Tourville in the Battle of Beachy Head. The English had lost 11 ships, the French none. The fleet’s only hope had been retreat.
Jeake stared tentatively at the English ship, and the speed with which it was approaching indicated it was on the run. This could mean only one thing: the French were coming to sack Rye. Others who had seen the same frightful sight, rang the church bells and alerted the occupants of Rye to pack their belongings and flee the town. Chaos ensued. The town only had one exit, and soon people trampled each other clamoring for their escape.
The English ship limped to the beach. The captain, not wanting his ship to fall in French hands, set the ship alight. Onto this day, if the sea is right, the skeleton of the burned ship surfaces on the beaches of Rye, as a ghost resurfacing to tell of a terrible time, when England was at the mercy of its worst foe.
[CONTINUES BELOW]
Battle of Beachy Head 10 July 1690
Other English ships had made it to the river Thames. The streets of London were filled with panic upon the sight of the battered fleet. It seemed clear that the Navy had been beaten, and nothing could stop a French invasion.
John Evelyn
The whole nation now exceedingly alarmed by the French fleet braving our coast even to the very Thames mouth;
wrote diarist John Evelyn. But the French did not fully pursue, a tactical error that would deprive the French of a major long term victory.
This meant that the English were able to mobilize 90 ships by the end of August and break the French control over the channel. But it also meant that the weakened English fleet could no longer adequately protect its merchant ships on their trade missions while defending its shores.
In the years to come, this would cost the English dearly. English sailors filled their ships with the nations hard earned trade, said goodbye to their families and unprotected by the navy, set sail for exotic destinations, hoping to make their fortune. But they never returned… They were probably captured or destroyed by the French or commercial raiders.
Fear paralyzed the hearts of the seamen the merchants and by 1692 trade missions ground to a halt, sucking the life blood out of the English economy.
The recession deepens
Goods destined for trade now accumulated in the English harbors without ever being sent out, in fear of capture and destruction.
The English people were never one’s to be beaten by the odds, as history proved again and again. Churchill’s words during WWII would have rung as true in 1693 as they did when he gave his speech:
Churchill
[...] we shall defend our Island, whatever the cost may be, we shall fight on the beaches, we shall fight on the landing grounds, we shall fight in the fields and in the streets, we shall fight in the hills; we shall never surrender, and if, which I do not for a moment believe, this Island or a large part of it were subjugated and starving, then our Empire beyond the seas, armed and guarded by the British Fleet, would carry on the struggle [...] .
But of course, there was no mighty British fleet. Instead, despair and hunger turned into an active move of defiance: 0n the 30th of May 1693, the merchants organized themselves to break the impasse in a bold and risky move. 200 merchant ships would band together and undertake a trade mission to Smyrna, Turkey. On board was a years worth of trade that had just been sitting in the harbors: wool, tin, spices and silver, the richest trade mission the world had ever seen. But it also presented a most alluring price to the enemies of the Kingdom.
King William III
King William the 3rd fully understood this was a make or break moment and matched the bold move of the merchants and the sailors with one of his own. He would send almost his entire war fleet comprised of Dutch and English ships to escort the mission, leaving England unprotected. His 102 war ships escorted the trade mission until the port of Brest, where the French historically positioned their fleet. Then it would double back to English shores to provide protection against a potential French invasion.
French spies had uncovered the particulars of the mission, and having decided against an invasion of England in favor of a war against English commerce, they positioned 93 of their war ships further up at Lagos Bay, at the Southern tip of Portugal.
On June the 27th of 1693 the unsuspecting merchant flotilla, under command of George Rook, sailed into the French trap. Waiting for them, was the French fleet, commanded by their old enemy Admiral Tourville, which once had a chance to destroy the might of the English navy but passed up on it. Tourville smiled. He had been shamed for his blunder 3 years ago, and here was a chance to remake his name.
George Rooke
Hardened by the previous years of misery, George Rook kept a cool head. He ordered the fleet to disperse, making it harder for the organized French army to capture the ships. He was going to take his losses, but not without giving his men a chance to get as many ships through as possible.
He ordered two Dutch ships under his command to bide the fleet time by engaging the French war ships directly. The crew of the Zeeland and the Wapen van Medemblik set course for the French and prayed to their God to be merciful on their souls.
It must have been an odd sight, these two lonely ships approaching the might of a 93 strong French war engine. Tourville cursed. He had hoped for the greatest of victories: that the merchant fleet would band together and could slowly be ground down by his war machine. Instead, the ships in front of him dispersed in all directions. He ordered pursuit.
Admiral Tourville
The Zeeland and the Wapen van Medemblik collided with his fleet, entering the heart of the warships. They fought valiantly taking overwhelming fire power from every side, but selling their skin dearly. The hulls of the ships were pierced with hundreds of cannon balls. In the inner depths of the ship, men were hacked to pieces by a combination of cannon balls and ricocheting pieces of wood. The floor was lined with sand to soak up all the blood, but became a muddy mess instead. Still, it provided enough disarray amongst the French fleet to slow it down. Tourville had no choice to order part of his fleet to concentrate on the two ships running havoc. The Dutch fought so brave, that he never managed to conquer them, but finally, exhausted and having taken huge losses, the two captains surrendered. Tourville had the captains (Philip Schrijver and Jan van der Poel) brought to his quarters. He congratulated them on their bravery and asked them if they “were men or devils”
Despite this display of death defying bravery and the good judgment of Rooke, the French still captured or destroyed almost 100 merchant vessels.
The news hit England and sent the merchant classes in despair. A wave of bankruptcies ensued. The economy, already on its knees, fell on its face.
A national effort to raise money
King William the 3rd needed a Navy to protect English trade missions and he needed it fast. In its current state, it could not protect the English shores and the trade missions at the same time. The challenge he faced was that the coffers were empty and the economy was so depressed that raising taxes might lead to revolt and further economic malaise. Something else had to be done to raise money.
King William the 3rd was the son of a Dutch father and an English mother. At birth he was destined to be the King of Holland. As the king of Holland, he had learned two things: the power of the Navy, which had been instrumental in the invasion of England which had overthrown his father in law, the English King James II during the Glorious Revolution. But it also gave him a unique insight in the financial revolution that the Dutch had brought the world: the world’s first stock market, created almost a century before in 1602, where citizens could invest their hard earned money into corporation in exchange for a return on their investment.
Perhaps this Dutch innovation could be a way to mobilize the battered riches of the country?
Working together with Scotsman William Patterson, the creation of The Bank of England was proposed in 1694. Anyone willing and able to put in 25 Pounds, would get a guaranteed 8% return on his investment. The return was so appealing that both the wealthy and the poor invested their savings in the bank. A look at the book of Investors in the Bank of England reveals the names of the King and Queen, who invested 10,000 pounds, but also the names of historical actors who’s names we recognize from this blog post: John Evelyn and Samuel Jeake, who upon hearing the news had gathered all his riches, and traveled on horse back for 15 straight hours from Rye to London. Saddle soar, tired and hungry he arrived in London and without resting went straight to his financial agent to discuss the investment. Browsing through the book, we see something even more fascinating: the name of 9 people who were in domestic service who invested every hard earned dime in the bank. This was truly a country wide effort, where everyone who had money poured it into the bank of England.
In just 12 days it raised 1.2 million pounds, and on August the 4th, it made its first loan to the government.
Bank of England Charter sealing 1694
Ship of the line
The national debt provided a virtuous circle of funding: the government borrowed money from the people, which built a navy, which allowed for trade, which increased the tax revenues that allowed the government to pay its people back with interest.
More than half of the first loan went to building up the navy and this in turn transformed the economy. Each navy ship required over 5 tons of iron nails, 2000 trees, 7000 square yards of canvas and 10 miles of ropes. The navy soon employed 44,000 men, and feeding them reshaped English agriculture. Building the ships made South England into the navy’s building yard, North East Britain into the world’s first industrial iron works (providing the nails) and soon the navy was the engine of English commerce, transforming the countries economy and laying new foundations of the modern world as we know it. In 10 years, the navy was 176 ships strong and soon became the sole rulers of the sea.
But that is a story for another day.
Tags: 04081694, 05301693, 07101690, 1690, 1693, 1694, Admiral Tourville, Bank of England, Battle of Beachy Head, Battle of Lagos Bay, English Navy, George Rook, Glorious Revolution, History, Holland, John Evelyn, National Debt, Rye, Samuel Jeake, United Kingdom, Wapen Van Medemblik, William III, Zeeland
A breakdown of health care profits
Tags: Health Care
There has been a lot of anger about health insurers’ profits in America. Like many Americans, yours truly, the trusting author of this blog, has heard President Obama talking about record profits amongst health insurers in his town hall meetings and became disillusioned by the greed that existed in the market.
But is there greed?
Only way to find out is to look at the income statements of the health insurers and try and calculate how much profit is made exactly.
For this discussion, I used the income statement of WellPoint, one of the biggest insurers in the US. You can examine that income statement here. Note, Before you think their revenues are pitiful, note that all data is reflected in millions.
Revenues
When we examine the income statement for 2008, we can see that the total revenue came to $61,579 million dollars.
Total Operating revenue Wellpoint
If we break that down, we see that $57,101 million or 93.2% came from premium revenues and$3,836 million (6.3%) came from fees for administering the claims of employers that self insure (meaning they set aside their own funds to cover their employees health care and WellPoint administers this scheme for them.) $641 million, about 1% comes from other revenue, not specified. This is probably interest earned on money that is received before payment was due, or moneys received in advance of claims actually being approved (when a user signs up, they generally have to pay the premium, when they get declined, the premium is refunded. During that time, interest is earned).
Expenses
47,742 million is paid out in benefit expenses
Benefit expenses simply means paying out health benefits such as doctor consultations, hospital stays, etc.
The other expense is paying for drugs the insured buy:
This amounts to $468 million dollars.
These two expense figures combined come to $57,101 million.
This expense only relates to the revenue made on premiums and totals 84.4% of that:
Revenue on premiums
Strictly speaking, that does not mean that 84.4 cents of every dollar you spend on health care returns to you in the form of health care benefits. But that is a whole other discussion.
You could argue that a portion of other revenue should be counted as well. Remember that other revenue is most likely derived from premiums paid early and premium payments held before the applicant is allowed to be insured by WellPoint. Some of that money would also be generated from payments make by employers who provide their own funds and pay WellPoint to administer their health care fund. But because we can’ t breakdown the ‘other revenue’ we are not including in here. I admit that makes the ratio of revenue on premiums vs expense paid out on health benefits imperfect. For this break down, we treat the data in the benefit of the health insurance companies.
Another expense is incurred in the marketing budget. Total marketing expenses were 1,778 million:
Marketing (selling) expense
Marketing expenses should be measured against total revenue, as all services are marketed:
Total Operating revenue Wellpoint
Marketing expense is a total of 2.6% of total revenue.
Then there is the expense of administering the company. That comes to 7,242 million.
Administrative expenses
That comes down to 10.7%. Many business owners will recognize this as a very high number, but administering millions of claims is quite a complex business.
Profits
So taking all of these expenses in account, how much profit does WellPoint make?
Well, we need to substract all the expenses above.:
Total expenses
Total expenses come down to 58,128.7 million or 86% of total revenue.
That is when the tax man comes knocking on your door.
Income tax
Are health care companies making obscene profits?
After we subtract expenses and income tax from total revenue, the total profit made is 4.04% of total revenue.
Net income
If we consider this number, the problem doesn’t appear to be excessive profits, but rather problems with efficiency in expenses. We noted that administration amounted to 10.7%, which is a far more worrying number than a profit margin of 4.04% which is neither high nor low compared to other industries. It is rather the administrative expense that should be studied to find higher efficiencies.
A bigger picture for good form
Before every accountant starts sending me angry comments, we need to include some other figures. We haven’t taking into account the total assets and to examine these we need to turn to the firms balance sheet.
Here we find the total assets:
Taking the total assets deployed by the firm profits total 5.14%. down from 6.42% the year before.
If we examine the percentage that the equity shareholders had in WellPoint profits were 11.62% down from 14.55% in 2007.
Again, these numbers aren’t particulary offensive.
Also read my historical perspective on health care.
Tags: Health Care
High Frequency Trading
Tags: 2009, Economics, High Frequency Trading, Stock Exchange, Wall Street
A world that lives 0.03 seconds ahead of you
A non-descript building
In Jersey City, just across the Hudson River, stands an unmarked building hidden in the urban jungle. Although inconspicuous from the outside, it boosts strong security on the inside with many checkpoints, mantraps and high-tech identity verification.
If you would get past all the security, you could enter the main section of the building: a dark room, full of giant unmarked cages, vigorously buzzing away. Looking down one corridor, it stretches for a hundred yards. The entire complex is the size of 3 football fields. It is cold in here, powerful ventilators are droning away, sucking up all the heat.
Processing financial data
If you owned one of these cages, you could enter it, and find yourself surrounded by a vast array of computers. Here, you can identify yourself using the biometric hand scanner. You would then be allowed to access the activity of these machines: 10’s of thousands of shares are traded by these machines every second. Sold, bought, and resold. But why? And why here?
Rise of the Machines
The purpose of this immense facility is so that computers can be close to each other, minimizing the distance that information has to travel. As a result, shares can be sold ever faster. (This is called co-location.)
Each computer can process a transaction in a micro-second or less, a millionth of a second. In other words, each computer can process 400,000 transactions per second.
People aren’t needed here.
These computers trade on the stock markets, and it is estimated that 13% of all shares in America are traded here. That makes it the third largest stock market in the world, bigger than the London stock exchange. 21 Billion dollars were traded here last year alone.
And none of this was here 2 years ago.
Electronic spies that beat time and space
Are we being manipulated?
These computers are set up to detect all activity in the market. As soon as a regular share trader tries to make a transaction, the computers detect it, using something that in the jargon of the trade is called a ‘high-frequency algorithm’. Because the computers are so close to the center of trading, they can cut ahead of the sale. They issue and cancel the sale almost simultaneously, bullying slower investors to giving up profits. The computer will do this all day long, in a systematic way, making money out of the original trader’s intention.
“It’s become a technological arms race, and what separates winners and losers is how fast they can move,” said Joseph M. Mecane of NYSE Euronext, which operates the New York Stock Exchange. “Markets need liquidity, and high-frequency traders provide opportunities for other investors to buy and sell.”
Even if they make a modest loss in the process, they still profit. They benefit from the competition between stock exchanges that pay small fees (called liquidity rebates, usually a quarter of a percent of a share) collected by the biggest and most active traders. Spread over millions of trades each day, these small fees amount to huge sums of money.
The problem is that these trades simply happen for the sake of the trade (because of the payout made for the act of the trade). That means that the trader doesn’t take a position, or rather is on either side of the trade, effectively taking opposing positions regardless of market intelligence. As a result, it skews the markets and makes them opaque. The investors argue that they provide liquidity to the market by being on either side, but the controversy is that the way they do this creates murky prices, undermines the fundamental principles of the exchange and under extreme circumstances (which happen often) leads to volatility or at the very least badly informed decisions that destabilize the markets.
In the last 2 years, this type of non-human trading has risen to almost 70% of all share transactions in America.
The billions of dollars these ‘predatory traders’ earn are directly at the expense of such traders as pension fund managers. It spies on what they do, reads their movements on the stock market and instantly runs ahead of their activity, undercutting their selling behavior.
Is knowing information 0.03 milliseconds in advance of everyone else still insider knowledge?
Making money, but adding value?
Legally speaking, this is not insider trading. Insider trading is the practice of trading based on non-public information. It has been made illegal, because it gives the trader an ‘unfair advantage’ and the power to ‘disrupt the markets’ and ‘game the system’.
The big firms who run these computer programs claim that they are not engaged in insider trading, that they simply trade faster. In truth, they can read your actions, and cut ahead of you by a millisecond, and make the trade in your place, then sell it back to you at inflated prices.
These companies are making huge sums of money based on innovative technology that costs billions to put in place. But isn’t that the American way?
To understand how this changes society as a whole, it is important to remember how the stock exchange came into being.
Making capital available to trade
Stock exchanges were set up to raise new shareholder capital for growing companies. Regulations were put in place to lower cost and offer a fair and equitable capital system which has the confidence of all participants because everybody has a fair chance of participating in the market. In order to keep this system viable, practices such as insider trading were made illegal, so that investors would remain in the stock exchanges and trade in a transparent ways. As a result, a large number of people poured their money in stock exchanges, investing in the future of business. Then, in 1998, the Securities and Exchange Commission authorized electronic exchanges to compete with marketplaces like the New York Stock Exchange. Their intention was to open markets to all of us, so that we could participate armed with nothing more but a desktop computer and a new idea. But what happened was very different: 1% of the richest banks started building super computers, and they were perfected in the last few years. They positioned them close to marketplaces like the New York Stock Exchange and actually are aimed at driving prices up for those very people who the new regulations intended to involve.
How We Ate Your Lunch - A Case Study
On July 15th 2009, Intel had reported high earnings the night before. Investors quickly realized that as a result of Intel’s success, Broadcom, a semiconductor company, would be in a strong position. Traders should be investing in Broadcom shares. But they faced a conundrum: buying large number of shares would alert the markets and drive up prices. So they divided their orders in smaller batches, ducking and diving as they went on their business. The markets opened, and shares started trading at $26.20
The orders were being issued, in small and cloaked forms. This is where the high-frequency sellers kicked in: their computers saw a pattern. They managed to be faster than the traders by 30 milliseconds (0.03 seconds) and executed what is known as flash orders. Their computers started buying Broadcom shares and then resold them to the investors who placed the orders in the first place, but at the higher price of $26.39.
What happened was that the high-frequency computers saw the movement in the market, executed a sale faster than the traders could and then resold these trades to the traders at a higher value. This practice rakes in huge profits every day.
That world is changing
The former executive vice-President of the NASDAQ is wary of the new system of ‘High-frequency trading’. He warns that it undermines the very purpose of a stock exchange: raising capital for growing companies. Instead, the large profits from High-frequency Trading have led big investment funds to focus on the shares of the biggest companies where shares are plentiful. As a result, the feeding capital for the future of the US, the new growth companies, is cut off. This means less growth, innovation and jobs.
Instead of speculating on future innovation, all money is currently caught up in a gaming system that simply analyzes movements in the shares of the largest companies, and artificially creates value and trade without these companies actually offering equal amounts of innovation or improvement of service to justify this.
The former executive Vice-President of the NASDAQ is warning that this practice is undermining the US economy and undercuts the integrity of the markets.
“You want to encourage innovation, and you want to reward companies that have invested in technology and ideas that make the markets more efficient,” said Andrew M. Brooks, head of United States equity trading at T. Rowe Price, a mutual fund and investment company that often competes with and uses high-frequency techniques. “But we’re moving toward a two-tiered marketplace of the high-frequency arbitrage guys, and everyone else. People want to know they have a legitimate shot at getting a fair deal. Otherwise, the markets lose their integrity.”
Fighting back: Dark Pools
There already has been a growing backlash. Companies now increasingly trade in ‘dark pools’, away from the stock markets and their High-frequency Trading Algorithms. Dark pools are currently estimated at 30% of the trading market.
A dark pool is essence a place where a willing buyer meets a willing seller in a closed room, and makes a non-public deal. This means that the actors are making decisions disconnected from the rest of the market, and that makes it very hard to understand the value of the buy. In effect, without assistance of the market, the buyer and seller are throwing their hat at the actual value of the trade and it could be argued that trades in the dark pools throws this part of the market back hundreds of years and all the instabilities that come with that. Fair enough, the buyer and seller are highly educated, but they are NOT an island.
The greatest innovation in financial systems was to have all actors participating in the price formation process, a price that reflects the business is being done and insures transparency by treating all buyers and sellers equally. Today however, markets are less transparent than 40 years ago.
This has consequences. The more trade happens in dark pools (and it is constantly increasing) the more it undermines the system of pricing in general, because your prices don’t reflect a sufficiently large enough part of the market. Many people are making their decisions on current prices; if these prices don’t actually reflect actual value as well as they can, this can lead to unexpected upheavals, booms and busts and volatile markets.
Can you spare some change?
All of this is now part of a larger debate on how to regulate markets: how do we reduce banks appetite in trading and increase its appetite for traditional banking: taking in deposits, giving out loans, raising share finance for growing businesses. But with such big profits available in what is essentially casino trading and the current system in America of legally buying the votes of Senators through lobbyists, it is unclear this growing profitable instability in the markets can be tamed before a new crash occurs.
And all the while, it is draining liquidity from the markets just as the economy needs it most, lavishly pouring money on the established businesses while cutting off funding from growing industries, and in effect, the future of America.
Tags: 2009, Economics, High Frequency Trading, Stock Exchange, Wall Street