Why Should We Care About the ESM?

By: Mike Ott
3/29/12

For something that has yet to do anything, the Eurozone’s new European Stability Mechanism, or ESM, has commanded plenty of attention this year. The ESM is a pool of funds which takes money from Eurozone member countries and sets it aside for use in case a member of the Eurozone is threatened with insolvency. Right now, the ESM is planned to replace the European Financial Stability Fund, or EFSF, which is expected to last until mid-2013. The ESM, which is meant to be a permanent fund, is expected to become operational during June of 2013. Currently, it is expected that the ESM will have 500 billion Euros with which to lend or purchase assets in distressed situations. The Eurozone is also in talks to combine the EFSF with the ESM, effectively creating a 740 billion Euro fund.

Will an improved ESM really defend the Eurozone against collapse? Not alone. The real answer hinges on other components such as the ECB, politics, the capital markets, economic growth and just plain good luck.

First, let’s look at the positives. More than anything else the ESM shows that the Eurozone is committed to staying together. By committing their taxpayer money to a permanent fund, the Eurozone countries are betting on the Euro’s survival. Secondly, the fund is a very large sum of money. By comparison, Greece’s most recent bailout was 130 billion Euros. So while it is not enough to stem a systemic collapse, it is sizeable. Third, the money is being set aside in advance, reducing the risk that political squabbling could squander a solution in a crisis situation.

However, the ESM is a far cry from a solution to Europe’s problems. Mario Draghi’s policy changes as head of the ECB have thus far been the most effective steps towards preventing a crisis in the Eurozone. In the event of a crisis, all Euro member countries still need to vote to approve the use of ESM funds, essentially still leaving Europe’s political conundrum as a potential risk. There is also the risk that the ESM will become a self-fulfilling prophecy. While it seems evident that Greece and other slow-growing, spendthrift countries will have troubles for years to come, having funds already set aside to bail them out may just encourage bad habits. True, the release of funds needs to be approved by all Euro members. However, the threat is not quite as strong as it would be if the funds had not already been set aside and the breakup of the Euro was a more realistic possibility.

Standing alone, the ESM will not prevent a crisis. Reducing the debt burden of the PIIGS will take years, economic growth, help from the ECB, and the full commitment of Eurozone governments – which derive their power from Europe’s large and fragmented population. The best outcome that can come from the Euro crisis is that enough economic growth materializes and the right policies are put in place over several years, enabling the PIIGS to slowly reduce their debt burden with bailout help along the way. Unfortunately, stability will still rely on politics, economic growth, and perhaps most of all just plain good luck that no unexpected events cast Europe into a deep recession.

Sold! For $2.15 billion To The Man in the Back

Last night, Tuesday March 28^th, the Los Angeles Dodgers were purchased for a record setting $2.15 billion by an ownership group that includes Los Angeles icon Magic Johnson.  This price shatters the mark for a professional franchise previously set in 2005 when Manchester United soccer club was purchased for $1.47 billion.  Magic Johnson and his ownership group received in return the second most valuable team in Major League Baseball, current value estimated at $1.4 billion dollars by Forbes, the iconic Dodger Stadium, and real estate surrounding the stadium.  This deal sets a new precedent within professional sports ownership, and has most sports fans wondering if the era of individual and family owned franchises is over.

This agreement ends a struggle between Major League Baseball and previous Dodgers owner Frank McCourt.  McCourt purchased the team in 2004 for $430 million dollars.  However, recently McCourt went through a very public and bitter divorce that left the team bankrupt and filing for Chapter 11 bankruptcy protection.  In November, McCourt and MLB agreed to place the team up for private auction, with McCourt choosing the highest bidder.  Three finalists made initial offers for the team including Johnson’s ownership group.  Reportedly, the other two finalist’s offers were both around $1.5 billion.  McCourt accepted the $2.1 billion figure without giving the other two groups a chance to match. 

Frank McCourt now leaves baseball as the sports most successful owner.  When the team filed for bankruptcy protection their debt stood at $579 million dollars.  McCourt also owes $131 million to his ex-wide in divorce payment, due at the end of April.  Therefore, McCourt will still be walking away with hundreds of millions of dollars and a 26% annualized return, despite running a franchise financially into the ground.

This deal is a case of simple economics; buy low and sell high.  McCourt will be able to pay the outstanding debt on the team and in his personal life, and still have plenty of money to spare.  On the other hand, Johnson and his ownership group are going to need some high immediate returns on their investment to come out on top in this deal (aka World Series Victories).  The joy of an open market!

As a baseball fan, I can only sit back in amazement at the amount of money exchanged for a professional baseball franchise.  It makes me wonder, how much the New York Yankees (the worlds most valuable franchise, estimated to be worth over $1.85 billion) could now be auctioned off for?            

-Morgan-Reese V. Hale

Why Buy Gold as an Investment? A Brief Market Overview

By: Mike Ott
3/21/2012

It was asked in this morning’s class why someone may be inclined to buy gold as an investment. The question is especially perplexing given that an ounce of the shiny metal is trading for over $1600 in spot markets, roughly seven times the spot price in year 2000. Nonetheless, I thought I might take a stab at it.

There are three main sources of demand for gold. Jewelry demand accounts for about half of world demand, fueled by fiercely growing consumption in China and India. Demand for gold as an investment accounts for around 40 percent of global demand. The rest of demand is for gold to be used in industry and technology, and will not be a focus of this post.

Jewelry demand is fairly easy to understand, as it has existed for centuries. With vast sources of new wealth coming into the world economy throughout the 2000’s, it is of little surprise that nations such as China and India would become rapidly growing consumers of luxury goods. Investment demand is more complex. Traditionally, gold is a “store of value,” or an alternative to holding cash. Investors have long had the option of holding gold, knowing that they can readily convert the metal back into virtually any currency. In recent times, quantitative easing and Fed monetary policy have increased the supply of US Dollars and created a greater threat of perceived future inflation, forces that weaken the Dollar in foreign exchange markets. A weaker Dollar is gold positive. That is, if an investor buys gold and the Dollar weakens, then that same ounce of gold is suddenly worth more in Dollars, creating return potential. Add to the mix that interest rates are at historic lows. This means that there is little opportunity cost to holding gold. If an investor converts cash to gold, the investor in the current environment is passing up virtually zero interest income. Finally, gold has become a “flight to safety.” Investors that feared a collapse of the Euro during 2011 at least felt comfortable holding gold and soup cans, knowing that they would be fed in the near term and that they could convert their bullion into cash once the dust from the crisis had settled.

On the supply side, gold can be mined or recycled, an expensive process either way. Mining requires equipment, lots of oil, labor and a complex refining process. Recycling involves heating gold to temperatures that liquefy metal. Gold cannot be produced to match demand overnight, and statistics have shown that supply has not kept up with recent demand. This allows demand to heavily influence prices.

It is another post entirely to explain a buy rationale for gold at $1600/oz. However, with strong jewelry demand, plenty of events on the horizon that may cause another flight to safety, potential inflationary pressures, low interest rates and prices that have come down since the second half of 2011, gold may not be such a bad buy after all.

Jeffrey Friedman's on "Greedy" Bankers

After confusedly watching Margin Call, I found myself realizing that I knew close to nothing about the financial crisis and its causes. Luckily, I had a reading in one of my other classes that also covered the causes of the crisis and helped shed some light on some things for me.

Jeffrey Friedman’s “A Crisis of Politics, Not Economics: Complexity, Ignorance, and Policy Failure” attempts to describe what caused the subprime bubble to boom then bust and how it went global. Friedman uses references to other authors to prove that excess government regulations and bankers’ ignorance are the two main causes for the crisis.

Friedman blames the government for the inefficiency of the three rating agencies, the expansion of home ownership, and extremely low interest rates which all led to the housing bubble crash. It was because of government mandates that agencies were encouraged to give out mortgages to people with subprime credit. Because Moody’s, S&P, and Fitch are all granted effectively oligopoly status by the Securities and Exchange Commission in 1975, the three agencies could use outdated data and did not have to worry about accuracy when giving triple-A ratings on bonds consisting of segments of subprime mortgage-backed securities. Finally, it was the extremely low interest rates that caused banks to use ARMs to protect themselves.

Friedman spends the next half of his paper explaining that bankers invested in these mortgage-backed securities because they were fooled into thinking they could trust the ratings given by the three government-backed rating agencies. It was not their greed, as Margin Call would like to portray that led to the crisis, but the government’s overly complex web of regulations that ultimately led to our current problems.

I highly recommend reading Friedman’s article, instead of relying on this super concise summary.

Luis Alexander

Here's an Idea for Apple's Cash Dilemma: Buy Something Exciting

Apple Inc. announced that it intends to dole out billions of dollars of profit to shareholders. Tim Cook, CEO, stated that Apple plans to pay shareholders $2.65 for every share of stock each quarter. This is the first stock divided from Apple in more than a decade. In addition to providing a dividend to shareholders, Apple intends to buy back roughy $10 billion in stock over the next three years, starting at the beginning of the 2013 fiscal year.

According to Cook, "Even with these investments, we can maintain a war chest of strategic opportunities and have plenty of cash to run our business." Analysts predict that Apple will likely generate $75 to $80 billion in free cash over the next four quarters. Add that to its current $97.6 billion cash surplus, subtract the $45 billion from the stock buyback and dividend, and Apple will still retain an enormous amount of cash in retained earnings.

While this new strategy for Apple sounds splashy, it isn't all that exciting. Most press conferences held by Apple unveil shiny, new tech products. However, since former CEO and tech guru Steve Jobs stepped down, Apple has done something unusual: flown under the radar. The iPhone 4S and the "New iPad" received good reviews, but hardly met the levels of innovation their predecessors reached. The newly announced $10 billion a year dividen only carries a yield of 1.81%. That is a significantly smaller yield than fellow technology firms both Microsoft (2.5%) and Intel (3%).

So how can Tim Cook make a splash? How about Apple goes out an buys a social media company? While Apple has created fantastic hardware and software, and integrated them seamlessly, they have not succeeded in making a jump into social media.

Imagine Facebook wasn't filing for an IPO. If Apple were to integrate Facebook into its products (think laptops, iPads, desktops, iPods, iPhones, and, most interestingly, iTunes), it could open new doors. Barry Ritoltz of The Big Picture mentions Twitter as a fantastic opportunity for Apple (The Big Picture). Other opportunities like Pinterest, LinkedIn, etc. all offer interesting and unique opportunities. But if Apple has the cash, why not swing for the fences? Make Mark Zuckerberg and offer he can't refuse before its too late.

- Reid Coopersmith

Dan Gillmor

On Friday, March 16, 2012, Dan Gillmor spoke to Washington and Lee University students during an ethics institute day. Gillmor had an interesting take on what he believed made a journalist ethical. He summed up the principles for creators via the acronym TAFIT. Thoughtfulness, Accuracy, Fairness, Independence, and Transparency. In order to effectively succeed in each of these areas, the author must use hyperlinks when publishing online and always utilize an editor as well as at least triple checking facts with various primary sources and admitting when you have made a mistake.

The most interesting thing I took away from Gillmor’s talk was his hatred towards Apple. After our press conference on Monday, I thought it was difficult for people to consistently look negatively at this company. Gillmor enjoys their actual products but does not like the practices that take place in order to produce these products. He hopes that Apple is not off the hook for their unethical manufacturing practices. His other major issue with Apple is that if someone tries to sell his/her app in the Apple Store, Apple has the ability to turn down these apps. He poses the question, “When did Apple become your editor?”

Overall, Gillmor had a common outlook on journalistic ethics with an interesting take on specific conflicts in the past.

-Meade Brewster

Will Greg Smith Make a Difference?

Does Greg Smith look like a man who can hurt Goldman Sachs?

He certainly did his best this morning, resigning from his position as an executive in the company's London office and composing a disparaging Op-Ed to be run in the New York Times. In the letter, he was candid in describing the international firm's culture, which he says has grown far more "toxic and destructive" in the 12 years since he first joined. He insisted that greed has taken hold of employees to the point where the wellbeing of clients is getting overlooked.

Smith's actions generated a great deal of noise among in corporate and public circles alike. After all, in a world where large companies have public relations officials working around the clock to drown us in good news, hearing a negative critique is rare, especially when it comes from the inside.

So he made his point and told us what he thinks. Moving forward now, it'll be interesting to see if the nation's business leaders of tomorrow care.

At the very least, the mighty investment bank has plenty of potential room to fall. As reported by Forbes' Kurt Badenhausen this afternoon, when Universum, an American employer research firm, conducted its most recent annual poll of which organizations MBA students viewed to be the most desirable to work for, Goldman Sachs was fourth in the U.S. Only Google, McKinsey & Co. and Apple placed higher. According to the survey, it was the sixth year in a row that Goldman was ranked at least that high.

The young professionals that are drawn to a place like Goldman Sachs are both highly intelligent and highly ambitious, and the statistics provided by Universum suggest that it would likely take a lot more than one disgruntled mid-level employee to discourage MBAs from working like dogs to earn their place with the company.

I don't know that this is necessarily a bad thing or a good thing. All I know is that if Smith's warning, that Goldman will not remain sustainable if it continues in the moral direction it's been headed, ends up being a prophecy, then he'll be able to drop a heck of an "I told you so" on many of our nation's hyper-motivated youths.

http://www.forbes.com/sites/kurtbadenhausen/2012/03/14/greg-smith-doesnt-like-goldman-sachs-but-mbas-still-do/

-Brian Seliber

Goldman Exec Says Goodbye to the ‘Destructive’ Firm

In an open letter to the New York Times, Greg Smith explains how drastic changes in company culture led to his resignation today as one of Goldman Sachs’ executive directors.

When Smith began work at Goldman as an intern, he asserts the company’s success “revolved around teamwork, integrity, a spirit of humility, and always doing right by our clients.” Smith says that mindset was the company’s “secret sauce” that helped them build trust with clients for over 140 years.

However, Smith now asserts that Goldman is “as toxic and destructive” as he has even seen it. Smith asserts the company has placed profits over the interests of their clients, and as long as employees can make money without becoming “an ax murderer” they can be promoted within Goldman. Smith believes he had no choice but to resign given that he “can no longer in good conscience identify with what [Goldman] stands for.”

Smith’s letter sent shockwaves around Wall Street and certainly within Goldman Sachs. Lloyd Blankfein, Goldman’s CEO, released an internal memo saying that Smith’s assertions “do not reflect our values, our culture, and how the vast majority of people at Goldman…think about the firm…”

Blankfein also asserts that Smith’s comments “should not represent our firm of more than 30,000 people,” and that he expects employees to find Smith’s claims as “foreign from [their] own day-to-day experiences.” Despite Blankfein’s rebuttal, it is hard to discredit Smith’s assertions given his former position in the company.

Smith served as head of Goldman’s United States equity derivatives business in Europe, the Middle East and Africa. In addition, Smith once managed the New York sales and trading summer intern program. Of the 30,000+ employees at Goldman, Smith was selected “as one of ten people to appear in [their] recruiting video, which is played on every college campus [Goldman] visits around the world.”

This suggests that Goldman Sachs, as well as other firms on Wall Street, may still need to reconsider some of their key business practices. Smith asserts firms like Goldman are “too integral to global finance to continue to act this way.” In his final sentence, Smith says, “People who care only about making money will not sustain this firm — or the trust of its clients — for very much longer.” 

It is likely those people will not sustain this nation’s economic well-being either.


- Jarrett W. Smith

Unemployment Holds Tight

The US Department of Labor Statics released their employment numbers for February on March 9^th.  The report showed about 227,000 jobs were created during the month, while the unemployment rate remained unchanged from the January number, 8.3%.  The number of jobs created in February is slightly down from the 284,000 jobs created in January.  Retail jobs declined in February, while the percentage of unemployed men and unemployed women both remained equal at 7.7%.   

  Unemployment data is a key indicator of the strength of the economy and is always closely scrutinized by Wall Street.  Many experts on Wall Street see this report as solid, even though the unemployment rate remains high.  However, critics believe the economy needs more growth and the number of jobs created each month must continue to increase in order to lower the unemployment rate.

  Discouraged workers reentering the job market are one of the key factors in keeping the unemployment rate constant from January to February.  Discouraged workers are not taken into account in the unemployment figures because they are not actively seeking employment.  However, in February economic confidence was high coming off the surprising January unemployment rate, so analyst believe many reentered the market and offset any drop in the rate.     

  I believe in the next couple of months, the unemployment rate will continue to hover around 8.3% as citizens continue to gain confidence in the economy and reenter the workforce. 

  I would not be surprised if the unemployment rate happened to increase.  The more important factor to me is the number of jobs created each month, and, as long as jobs continues to be created the economy will turn itself around.  In addition, with the upcoming presidential election looming, if unemployment drops below 8%, President Obama will have a great speaking point and strong figures to lean on for reelection.  

-Morgan-Reese Hale

Just Go with the Flow: The Journalist's Need to Adapt Quickly to Technological Changes

I went to a lecture given by Ken Auletta this afternoon about how news and media are being changed by technological advances.

One of the most interesting points I thought he made was about why technology keeps developing so rapidly. Auletta said Google engineers he spoke with explained to him their mindset while they worked: Why not? In other words, what is stopping them from coming up with a new idea, such as selling individual songs for 99 cents, and implementing it?

It appears to me that technology engineers are able to decide on a goal, and then do whatever they possibly can to reach it. So why can’t journalists do the same thing? When a new technology is developed that affects journalism, journalists should be able to think like the engineers and find a way to overcome the new obstacle.

If journalists can discover better adaptation mechanisms, I think that they would be less likely to face hardship in the first years of new technology’s popularity. Auletta also said that journalists fear the future because of technology changes. I think that instead of being afraid of what technological advances have in store for media, journalists should ask themselves one simple question: Why not?

- Olivia Davis