First Global Crisis of the New Millennium: Are We Chasing the Wrong Dogs?

How did the bottom fall off and the heaven break loose? What happened in this first decade of the New Millennium, which began at the turn of a historic boom that rode on the back of a revolutionary technology, the Internet?

Have a look at the following chart that maps the market performances of Dow Jones (^DJI), S&P 500(^GSPC), Gold (^GOX), and the Crude (OIL) since 1995 till today:

Stocks and Commodities -

What do we see in the chart above?

• From 1995 to 2000, Stocks climbed almost 2 ¬Ω times and Commodity markets dipped by more than 100%. But, isn’t it to be expected? Wasn’t it when investor’s created one of the biggest “Stock Market bubble” in an “irrational exuberance” (as described by the Monetary Policy Guru of the Capitalist society, Mr. Allen Greenspan)?
• At this point, the bubble was ready to burst with a loud sound and that spark was provided by 9.11 catastrophe. The stocks started sliding down and commodities started gaining again. This sequence continued up to 2003. The stocks did not quite reach to the ’95 levels but lost quite a bit of value.
• Then comes the interesting phase between 2003 and 2008. During this phase, both, the stocks and commodities started a mysterious rise. By the beginning of 2008, stocks had regained all the value that they had lost since the beginning of the Millennium and commodities were at their all-time peak. Oil broke all records to touch $150 a barrel.

What was driving this seemingly unstoppable growth? And, why did no one call it “Irrational Exuberance” ???

Look at another graph:

Rice is the staple food of the world’s poor. Look at what happened to Rice prices between 2003 and 2008. Rice became dearer by 5 times in the matter of 5 years! This USDA chart seeks to put the blame on low stock-to-use ratio. But look closely. It is nothing but a visual trick! The fact is that average Stock-to-use ratio during 2003-2008 was, in fact, not very different from the ratio during 1995-2003.

So, what fueled rice prices to jump five times since 2003? How can one explain the exuberance, irrational or not, between 2003 and 2008?

See two more charts below:

Observe the growth in Private Equity and Hedge Fund flow between 2003 and 2008.

Private Equity funds grew from $144 billion to $518 billion (~4x) and Hedge Funds grew from close to $800 billion to $3 trillion (also ~4x)! Total money routed through this “private” channel is now nearing 4 Trillion dollars. and, mind well, Hedge Funds have leveraged their balance sheets liberally and their “fund power” could have well exceeded $10 Trillion¬† and we have not talked about the impact of Sovereign Funds as yet!

The Mysterious Driver of Asset Values:

One has to understand, that managing these funds is one of the most lucrative professions in the modern times! A fund manager gets 2% fees (“management fees”) even if the Fund does not make money and in most cases, the mangers get to retain 20% (called “carried interest”) of the excess profit (profit over the promised minimum return)!¬† What do you think such huge motivation will result in today’s capitalist system that thrives on “maximization of profits”? G.R.E.E.D.!!!

The Private Equity reward system triggers a rat race among fund managers to demonstrate capacity to deliver unreal high Returns on Investment to the potential investors and then find ways, sometimes ingeniously “innovative” ways, to deliver those returns to be eligible for attractive fees and carried interest!¬†¬† And how do you think, can these uninterrupted Returns be generated? Haven’t you heard of Olympian athletes using drugs to push the physical boundaries in an effort to achieve ever higher performance and beat earlier records? Athletes in our Finance markets also have found out the bliss of drugs and the drug they depend upon to beat ROI records is S.P.E.C.U.L.A.T.I.O.N.!!!

A collective drive of nearly 4 trillion US Dollars to push the asset prices up to generate attractive returns is bound to work. Don’t you think? Then be it Food, Fuel, or Mortgage Backed Securities! So what, if makes millions of poor to live on one meal? So what, if one is required to package substandard mortgages with good ones to sell at undeserved prices through “securitization” process? So what, that middle class people can no longer afford to fill up their gas tank anymore? So what, if one needs to directly or indirectly pressurize Fed into lowering key interest rates in an unprecedented weekend emergency meeting to help prop up the collapsing stock markets? So what, if one has to shamelessly beg Fed and Congress for money to maintain high asset values???? All that matters is the collective management fee at stake of $80 billion and carried interest of a few hundred billion Dollars earned by a few thousand Fund Managers!

Do you think this is the time to reform and regulate (in that order) Fund Management profession? Next time, no one will be able to bail us out!!!