David Chaston on buoyant markets amid geopolitical chaos; the impact of credit scores; CCS; China's payback expectations; peak sand; Peter Thiel, Naomi Wolf; Dilbert & more

Here's my edition of Top 10 links from around the Internet today.

We have a Monday-Wednesday-Friday schedule for Top 10. Bernard will be back with his version this Wednesday. We will have another guest posting on Friday.

As always, we welcome your additions in the comments below or via email to david.chaston@interest.co.nz.

See all previous Top 10s here.

1. Markets' rational complacency
Nouriel Roubini looks around and sees geo-political chaos. He also sees financial markets that have remained buoyant, if not downright bubbly.

While there may be good reasons why global markets so far have reacted benignly to today’s geo-political risks he is also warning that markets are not good at signaling low-probability, high-impact tail risks in their prices.

There is a lot that could go wrong, and quickly.

The problem is, that has been the case since the 2008 GFC, and we have steadily clawed our way back to something approaching normalcy. The chicken-littles have been wrong so far.

Will they continue to be wrong? From a New Zealand vantage-point it seems easy to dismiss what is essentially a European-focused negative view of the world. The British and French are almost always negative, and wrong.

But you never know - one day their time may come (as in, stopped watch).

Roubini's latest warning is a nuanced view, however.

Today (or soon), the situation in Hong Kong, together with the news of further weakening in the Chinese economy, could trigger global financial havoc. Or the US Federal Reserve could spark financial contagion by exiting zero rates sooner and faster than markets expect. Or the eurozone could relapse into recession and crisis, reviving the risk of redenomination in the event that the monetary union breaks up. The interaction of any of these global factors with a variety of regional and local sources of geopolitical tension could be dangerously combustible.

So, while global markets arguably have been rationally complacent, financial contagion cannot be ruled out. A century ago, financial markets priced in a very low probability that a major conflict would occur, blissfully ignoring the risks that led to World War I until late in the summer of 1914. Back then, markets were poor at correctly pricing low-probability, high-impact tail risks.

They still are.

2. Default looms for millions of Australians
Credit scores have been an American institution for decades. This is where your credit history is reviewed by a credit reporting agency and made available to you for free and merchants for a fee.

Until recently, we had exception reporting. Only negative credit events were accumulated by these agencies. Now we have 'positive credit scores' which identifies everyone's individual likelihood of defaulting on debt obligations - just like the Americans.

The Australians are making the same transition, and the news is coming as a bit of a shock to them. Up to 2.1 million of them are at risk of default, according to reporting agency Veda.

That's 13% of everyone being scored there, or 13 million people. 600,000 are at extreme risk.

As a merchant, you would want to try and avoid such risks.

As a client, you would hope merchants avoid people with poor credit scores as they will just inflate the cost of credit to everyone else.

In fact, that is the attractiveness of these types of scoring systems. Credit providers can finally 'reward' people with good scores with lower costs. Expect to see much more risk-based pricing for things like credit cards and personal loans - even mortgages - when this type of credit reporting becomes embedded.

Peer-to-peer lenders will no doubt lead the way on this.

And expect credit score issues to become part of normal conversation.

More from the SMH:

Veda's analysis shows the state carrying the highest proportion of residents at risk of default in the next 12 months is Queensland at 16 per cent, while ACT has the smallest proportion at risk at 10 per cent.

In NSW and Victoria, the risk of default is 13 per cent.

The analysis also shows that those aged in their 30s and 40s have the highest risk of default over the next 12 months.

People in their mid and late 30s and 40s have young families and are often under financial pressure, which is the most likely explanation for their higher risk of default than other age cohorts.

The Veda research shows women have better average scores than men. The research also shows that almost 80 per cent of people have never checked their credit report.

3. Energy irony
Producing electricity from coal is dirty, and a major contributor to AGW. Public policy is now firmly focused on converting to 'renewables' and transitioning away from coal and other fossil fuels. And despite its public difficulties, even nuclear will play its part in this transition.

So why are investors putting up more than $1 bln per plant for CCS?

That is "carbon capture and storage". Green cynics claim it won't work because it is inefficient.

But globally there are 13 large-scale CCS projects in operation, with a further nine under construction. The 22 projects in operation or under construction represent an increase of more than 50% in just 3 years. The total CO₂ capture capacity of these 22 projects is expected to be around 40 mln tonnes per year. There are another 33 large-scale CCS projects in various stages of development planning. All up, that is a $50 bln bet. Even a shameless coal booster is unlikely to make that sort of investment when they are unsure it will work.

The latest big project to come on line (#13) is at Estevan, Saskatchewan, Canada. It will produce 110 megawatts (MW) of power, which is approximately enough to power 100,000 homes, reduce the SO₂ emissions from the coal process by 100% and the CO2 by 90%, and capture 1,000,000 tonnes of CO₂ every year, which is the same as taking 250,000 cars off the roads.

Declaring 'king coal' dead may be a bit premature. Ironically, these projects could even deliver more CO₂ reductions than any other active technology.

"It’s globally significant," says John Thompson, director of the Fossil Transition Project at the Clean Air Task Force, a Boston-based non-profit. "I believe that once these projects happen, the landscape is changed forever." Proving CCS is commercially-viable shifts public perception, Mr. Thompson says, and could make carbon-heavy coal plants a thing of the past.

 

SaskPower isn’t alone. US energy firm NRG broke ground earlier this month on a $1 billion carbon capture project near Houston. The company aims to have it up and running in 2016. Another CCS project in Kemper County, Mississippi hopes to start up in May 2015. 

4. Turning the ECB into a 'junk bank'
The head of Angela Merkel's party in Bavaria has launched a stinging attack on Mario Draghi, especially over his plan to buy Greek and Cypriot loans off of banks in those ECB member countries.

"Draghi is increasingly transforming the ECB into a junk bank. He is a former investment banker [who] has not learnt anything in his role as head of the ECB. He was and still is the wrong person for the job," Michelbach said.

With its "Draghi politics", the ECB is helping countries that are not reforming, he said.

"Draghi is ridiculing the people in Europe who have taken burdens upon themselves to shore up the future of their countries by means of reforms," Michelbach added.

He said the planned purchases of debt, which the ECB hopes will boost lending and so boost the euro zone economy, would mobilise "not one single extra euro of loans" in the single currency bloc.

"Draghi looks like he is at his wit's end and he's trying to cover it up by performing increasingly absurd pirouettes. The ECB needs to change its policies so that they come back within the terms of the treaties."

And last night that attack broadened in Germany with a chorus including the head of the Bundesbank, the ECB's former chief economist and allies of Chancellor Angela Merkel.

5. "Countries like New Zealand and Peru ..."
Is China now expecting us to support them since they did us a big favour? Outflowing Chinese money is set to get even bigger, according to Zhang Jun, a Professor of Economics and Director of the China Center for Economic Studies at Fudan University, Shanghai.

How will we handle it when these favours are called in?

At the same time, the global financial crisis triggered a shift in the relative price of assets worldwide. As developed countries were plunged into debt crises, with shrinking asset values and declining exchange rates, China’s international purchasing power grew. This, together with Wen’s stimulus, bolstered China’s investment and financing capabilities considerably.

Countries like New Zealand and Peru, unable to depend on developed countries for export demand, signed bilateral free-trade agreements with China. Likewise, when developed countries cut back on their foreign investment, China stepped in to inject much-needed capital into the global economy.

In fact, many countries began to pursue improved bilateral relations with China, in order to gain access to its capital. For example, in 2009, Jamaica was faced with a plummeting currency, surging unemployment, and considerable banking-sector risks stemming from exposure to government debt. When its traditional allies, the United States and the United Kingdom, rejected its pleas for help, it turned to China, which provided $138 million in loans to prop up the economy.

By next year, China’s outward investment is likely to reach over $100 billion annually – bringing it close to parity with inflows. It will not be long before China undergoes an historic shift from net merchandise exporter to net capital exporter.

6. Attacking costs to win
Forgive me, but I like cargo ships. For five years I worked in the shipping business, one that had a very large container terminal in the Port of Los Angeles. At the time, we thought ships with 1,000 TEU container capacity was very big. Times have changed. In fact, the biggest shipping owners seem to be doing illogical things - like ordering newer bigger ships as prices are falling for freight. The latest hold 18,000 TEUs.

As many of you will be aware, the Baltic Dry index is currently just on 1,100, up from the 700 level of a few months ago, but along way below its pre-GFC peak.

The Baltic Dry measures what you can hire a dry cargo (non-specialised) ship for. So why are shipping lines still ordering the largest, most expensive ships ever produced (the Triple-Es)?

The answer is that these leviathans have the lowest unit costs, costs so low they have turned around Maersk Lines $1 bln loss in 2009 to a $4.5 bln profit last year. The older ships can't compete, hence the Baltic Dry index stays low.

"There’s too much capacity in the market and that drives down prices," he continued. "From an industry perspective, it doesn’t make any sense. But from an individual company perspective, it makes a lot of sense. It’s a very tricky thing."

Bottom line: both the investing shipping company, and the consumer win. Those holding the older surplus capacity lose. Capitalism at work.

7. In praise of salespeople
Peter Thiel has written a book - Zero to One - which you have probably heard of because of a provocative column in the WSJ. But Derek Thomson of The Atlantic is impressed. He has called out a few gems, like:

Nerds are skeptical of advertising, marketing, and sales, because they seem superficial. They know their own jobs are hard, so when they look at salespeople laughing on the phone with a customer or going to two-hour lunches, they suspect that no real work is being done. If anything, people overestimate the relative difficulty of science and engineering, because the challenges of those fields are obvious. What nerds don't realize is that it also takes hard work to make sales look easy ... If you've invented something new but you haven't invented an effective way to sell it, you have a bad business — no matter how good the product."

Tolstoy famously opens "Anna Karenina" by observing: "All happy families are alike; each unhappy family is unhappy in its own way." Business is the opposite. All happy companies are different: Each one earns a monopoly by solving a unique problem. All failed companies are the same: They failed to escape competition.

8. When the ship is sinking
New Zealand has had a female prime minister, female head of state, and a female chief justice. One of them went on to head up a major UN agency. Other countries are also pushing female leaders into top positions.

All good, right?

Well not so according to Naomi Wolf, the relentless, acerbic cynic.

She reckons women only get top jobs because either men don't want them, or that we push them into those positions when things are going awry. Only Wolf could come up with spin like that.

However, she might have a point that women seem to be getting these positions when some entities are becoming irrelevant. The UN is the classic example (what is more irrelevant than that?). Anyway, here is the essence of Wolf's conspiracy:

But the sad irony is that women are finally finding their moment in the political sun at a time when the nation-states they are leading are finding their ability to forge national solutions to their problems extremely limited. With increasing frequency – as, for example, with international trade treaties, such as the Trans-Pacific Partnership – private actors are taking the place of governments, legislatures, and heads of state in setting policy.

Some even suggest that women are emerging at the top because men do not want to take the blame for impending failure. Senior executives – those who are drawn to the arguments presented in such groundbreaking analyses of the workplace as Sheryl Sandberg’s Lean In – know that corporate realpolitik can include calling in a woman when the ship is sinking. This reflex might explain the presence of a woman at the helm of GM during its current damaging recall of defective cars, for example.

9. 'Sand is like oil; it is finite'
I have to admit I was surprised to read this about New Zealand in Spiegel Online:

The phenomenon of disappearing beaches is not unique to Cape Verde. With demand for sand greater than ever, it can be seen in most parts of the world, including Kenya, New Zealand, Jamaica and Morocco. In short, our beaches are disappearing. "It's the craziest thing I've seen in the past 25 years," says Robert Young, a coastal researcher at Western Carolina University. "We're talking about ugly, miles-long moonscapes where nothing can live anymore."

The sand on our ocean shores, once a symbol of inexhaustibility, has suddenly become scarce. So scarce that stealing it has become attractive.

Never before has Earth been graced with the prosperity we are seeing today, with countries like China, India and Brazil booming. But that also means that demand for sand has never been so great. It is used in the production of computer chips, plates and mobile phones. More than anything, though, it is used to make cement. You can find it in the skyscrapers in Shanghai, the artificial islands of Dubai and in Germany's autobahns.

Apparently we are approaching 'peak sand'! The countries of the Sahara should form a cartel - like OPEC except it would be SPEC.

10. Medical certainties
"Oh f***! I can't afford that." Ewen Gilmour, when told by his doctor in 2012 that he would live for another 40 years.