January 20, 2016
Reports from NOAA (National Oceanic and Atmospheric Administration) and NASA found that the globally averaged temperature, over land and ocean surfaces for 2015, was the highest since record keeping began in 1880, according to scientists. During the final month, the December combined global land and ocean average surface temperature departure from average was the highest on record for any month in the 136-year record.
January 19, 2016
In 2015, Congress tasked the Department of Defense to commission an independent assessment of U.S. military strategy and force posture in the Asia-Pacific, as well as that of U.S. allies and partners, over the next decade. This Center for Strategic and International Studies work fulfills that congressional requirement. The authors assess U.S. progress to date and recommend initiatives necessary to protect U.S. interests in the Pacific Command area of responsibility through 2025. Four lines of effort are highlighted:
(1) Washington needs to continue aligning Asia strategy within the U.S. government and with allies and partners;
(2) U.S. leaders should accelerate efforts to strengthen ally and partner capability, capacity, resilience, and interoperability;
(3) the United States should sustain and expand U.S. military presence in the Asia-Pacific region; and
(4) the United States should accelerate development of innovative capabilities and concepts for U.S. forces.
January 18, 2016
This image provided by Lawrence Livermore National Laboratory shows Pacific and Atlantic meridional sections showing upper-ocean warming for the past six decades (1955-2011). Red colors indicate a warming (positive) anomaly and blue colors indicate a cooling (negative) anomaly.
A new study published in the journal Nature Climate Change reports that the world’s oceans absorbed 150 zettajoules of energy in the 132 years between 1865 and 1997, and another 150 between 1997 and 2015 (18 years), proving that the rate accumulation of anthropogenic heat in the oceans is accelerating. To put this in perspective, 150 zettajoules of energy is equivalent to exploding a Hiroshima-size bomb every second nonstop for 75 years.
Most of the trapped heat is above 2,300 feet, but now deeper waters are also absorbing more energy. That means surface waters are unable to absorb as much anthropogenic-caused heat as before. Instead, it stays in the air and on land surface, with potentially serious consequences for life in the oceans, patterns of ocean circulation, storm tracks and storm intensity.
January 18, 2015
According to a new report from OXFAM:
• In 2015, just 62 individuals had the same wealth as 3.6 billion people – the bottom half of humanity. This figure is down from 388 individuals as recently as 2010.
• The wealth of the richest 62 people has risen by 44% in the five years since 2010 – that’s an increase of more than half a trillion dollars ($542bn), to $1.76 trillion.
• Meanwhile, the wealth of the bottom half fell by just over a trillion dollars in the same period – a drop of 41%.
• Since the turn of the century, the poorest half of the world’s population has received just 1% of the total increase in global wealth, while half of that increase has gone to the top 1%.
• The average annual income of the poorest 10% of people in the world has risen by less than $3 each year in almost a quarter of a century. Their daily income has risen by less than a single cent every year.
Excerpt from Warren Buffett’s 2002 Letter to Shareholders explaining what derivatives are and why he considers them “financial weapons of mass destruction.”
”Derivatives, in fact, deserve an extensive look, both in respect to the accounting their users employ and to the problems they may pose for both individual companies and our economy.
Derivatives
Charlie and I are of one mind in how we feel about derivatives and the trading activities that go with them: We view them as time bombs, both for the parties that deal in them and the economic system.
Having delivered that thought, which I’ll get back to, let me retreat to explaining derivatives, though the explanation must be general because the word covers an extraordinarily wide range of financial contracts. Essentially, these instruments call for money to change hands at some future date, with the amount to be determined by one or more reference items, such as interest rates, stock prices or currency values. If, for example, you are either long or short an S&P 500 futures contract, you are a party to a very simple derivatives transaction – with your gain or loss derived from movements in the index. Derivatives contracts are of varying duration (running sometimes to 20 or more years) and their value is often tied to several variables.
Unless derivatives contracts are collateralized or guaranteed, their ultimate value also depends on the creditworthiness of the counterparties to them. In the meantime, though, before a contract is settled, the counterparties record profits and losses – often huge in amount – in their current earnings statements without so much as a penny changing hands.
The range of derivatives contracts is limited only by the imagination of man (or sometimes, so it seems, madmen). At Enron, for example, newsprint and broadband derivatives, due to be settled many years in the future, were put on the books. Or say you want to write a contract speculating on the number of twins to be born in Nebraska in 2020. No problem – at a price, you will easily find an obliging counterparty.
When we purchased Gen Re, it came with General Re Securities, a derivatives dealer that Charlie and I didn’t want, judging it to be dangerous. We failed in our attempts to sell the operation, however, and are now terminating it.
But closing down a derivatives business is easier said than done. It will be a great many years before we are totally out of this operation (though we reduce our exposure daily). In fact, the reinsurance and derivatives businesses are similar: Like Hell, both are easy to enter and almost impossible to exit. In either industry, once you write a contract – which may require a large payment decades later – you are usually stuck with it. True, there are methods by which the risk can be laid off with others. But most strategies of that kind leave you with residual liability.
Another commonality of reinsurance and derivatives is that both generate reported earnings that are often wildly overstated. That’s true because today’s earnings are in a significant way based on estimates whose inaccuracy may not be exposed for many years.
Errors will usually be honest, reflecting only the human tendency to take an optimistic view of one’s commitments. But the parties to derivatives also have enormous incentives to cheat in accounting for them. Those who trade derivatives are usually paid (in whole or part) on “earnings” calculated by mark-to-market accounting. But often there is no real market (think about our contract involving twins) and “mark-to-model” is utilized. This substitution can bring on large-scale mischief. As a general rule, contracts involving multiple reference items and distant settlement dates increase the opportunities for counterparties to use fanciful assumptions. In the twins scenario, for example, the two parties to the contract might well use differing models allowing both to show substantial profits for many years. In extreme cases, mark-to-model degenerates into what I would call mark-to-myth.
Of course, both internal and outside auditors review the numbers, but that’s no easy job. For example, General Re Securities at yearend (after ten months of winding down its operation) had 14,384 contracts outstanding, involving 672 counterparties around the world. Each contract had a plus or minus value derived from one or more reference items, including some of mind-boggling complexity. Valuing a portfolio like that, expert auditors could easily and honestly have widely varying opinions.
The valuation problem is far from academic: In recent years, some huge-scale frauds and near-frauds have been facilitated by derivatives trades. In the energy and electric utility sectors, for example, companies used derivatives and trading activities to report great “earnings” – until the roof fell in when they actually tried to convert the derivatives-related receivables on their balance sheets into cash. “Mark-to-market” then turned out to be truly “mark-to-myth.”
I can assure you that the marking errors in the derivatives business have not been symmetrical. Almost invariably, they have favored either the trader who was eyeing a multi-million dollar bonus or the CEO who wanted to report impressive “earnings” (or both). The bonuses were paid, and the CEO profited from his options. Only much later did shareholders learn that the reported earnings were a sham.
Another problem about derivatives is that they can exacerbate trouble that a corporation has run into for completely unrelated reasons. This pile-on effect occurs because many derivatives contracts require that a company suffering a credit downgrade immediately supply collateral to counterparties. Imagine, then, that a company is downgraded because of general adversity and that its derivatives instantly kick in with their requirement, imposing an unexpected and enormous demand for cash collateral on the company. The need to meet this demand can then throw the company into a liquidity crisis that may, in some cases, trigger still more downgrades. It all becomes a spiral that can lead to a corporate meltdown.
Derivatives also create a daisy-chain risk that is akin to the risk run by insurers or reinsurers that lay off much of their business with others. In both cases, huge receivables from many counterparties tend to build up over time. (At Gen Re Securities, we still have $6.5 billion of receivables, though we’ve been in a liquidation mode for nearly a year.) A participant may see himself as prudent, believing his large credit exposures to be diversified and therefore not dangerous. Under certain circumstances, though, an exogenous event that causes the receivable from Company A to go bad will also affect those from Companies B through Z. History teaches us that a crisis often causes problems to correlate in a manner undreamed of in more tranquil times.
In banking, the recognition of a “linkage” problem was one of the reasons for the formation of the Federal Reserve System. Before the Fed was established, the failure of weak banks would sometimes put sudden and unanticipated liquidity demands on previously-strong banks, causing them to fail in turn. The Fed now insulates the strong from the troubles of the weak. But there is no central bank assigned to the job of preventing the dominoes toppling in insurance or derivatives. In these industries, firms that are fundamentally solid can become troubled simply because of the travails of other firms further down the chain. When a “chain reaction” threat exists within an industry, it pays to minimize links of any kind. That’s how we conduct our reinsurance business, and it’s one reason we are exiting derivatives.
Many people argue that derivatives reduce systemic problems, in that participants who can’t bear certain risks are able to transfer them to stronger hands. These people believe that derivatives act to stabilize the economy, facilitate trade, and eliminate bumps for individual participants. And, on a micro level, what they say is often true. Indeed, at Berkshire, I sometimes engage in large-scale derivatives transactions in order to facilitate certain investment strategies.
Charlie and I believe, however, that the macro picture is dangerous and getting more so. Large amounts of risk, particularly credit risk, have become concentrated in the hands of relatively few derivatives dealers, who in addition trade extensively with one other. The troubles of one could quickly infect the others. On top of that, these dealers are owed huge amounts by non-dealer counterparties. Some of these counterparties, as I’ve mentioned, are linked in ways that could cause them to contemporaneously run into a problem because of a single event (such as the implosion of the telecom industry or the precipitous decline in the value of merchant power projects). Linkage, when it suddenly surfaces, can trigger serious systemic problems.
Indeed, in 1998, the leveraged and derivatives-heavy activities of a single hedge fund, Long-Term Capital Management, caused the Federal Reserve anxieties so severe that it hastily orchestrated a rescue effort. In later Congressional testimony, Fed officials acknowledged that, had they not intervened, the outstanding trades of LTCM – a firm unknown to the general public and employing only a few hundred people – could well have posed a serious threat to the stability of American markets. In other words, the Fed acted because its leaders were fearful of what might have happened to other financial institutions had the LTCM domino toppled. And this affair, though it paralyzed many parts of the fixed-income market for weeks, was far from a worst-case scenario.
One of the derivatives instruments that LTCM used was total-return swaps, contracts that facilitate 100% leverage in various markets, including stocks. For example, Party A to a contract, usually a bank, puts up all of the money for the purchase of a stock while Party B, without putting up any capital, agrees that at a future date it will receive any gain or pay any loss that the bank realizes.
Total-return swaps of this type make a joke of margin requirements. Beyond that, other types of derivatives severely curtail the ability of regulators to curb leverage and generally get their arms around the risk profiles of banks, insurers and other financial institutions. Similarly, even experienced investors and analysts encounter major problems in analyzing the financial condition of firms that are heavily involved with derivatives contracts. When Charlie and I finish reading the long footnotes detailing the derivatives activities of major banks, the only thing we understand is that we don’t understand how much risk the institution is running.
The derivatives genie is now well out of the bottle, and these instruments will almost certainly multiply in variety and number until some event makes their toxicity clear. Knowledge of how dangerous they are has already permeated the electricity and gas businesses, in which the eruption of major troubles caused the use of derivatives to diminish dramatically. Elsewhere, however, the derivatives business continues to expand unchecked. Central banks and governments have so far found no effective way to control, or even monitor, the risks posed by these contracts.
Charlie and I believe Berkshire should be a fortress of financial strength – for the sake of our owners, creditors, policyholders and employees. We try to be alert to any sort of megacatastrophe risk, and that posture may make us unduly apprehensive about the burgeoning quantities of long-term derivatives contracts and the massive amount of uncollateralized receivables that are growing alongside. In our view, however, derivatives are financial weapons of mass destruction, carrying dangers that, while now latent, are potentially lethal.”
January 13, 2016
Total student loan debt in the United States is increasing at a rate of about $2,853.88 per second and has now passed $1.3 trillion. To access the student loan debt clock and a wealth of information click here.
January 6, 2016
Scientists at Indiana University Bloomington have created a biodegradable, easy to mass-produce catalyst called P22-Hyd consisting of a modified enzyme (hydrogenase) protected within the protein shell of a bacterial virus. The material forms a nano-reactor that catalyzes hydrogen formation 150 times more efficiently than the enzyme would in its original form. In addition, it can also combine hydrogen and oxygen to generate power.
This game-changer further supports the premise that it is economically feasible, and therefore sustainable, to mass-produce water in deserts to make them green to help sequester the excess carbon in the atmosphere.
Background
The expansion of NATO to the Ukraine would recreate the military situation in the Eastern Front after the first Battle of Kiev in 1941, a major victory for the Wehrmacht which would subsequently lead to the unsuccessful assault on Moscow. The ensuing “Winter War” and the Soviet counterattack in December bled dry and pushed back the German Army from Moscow’s outskirts. The following year Hitler, not daring another attempt on the Soviet capital, turned south in a bid to capture the oil fields of the Caucasus. That led to the 1942-1943 Battle of Stalingrad, the encirclement and destruction of the elite Sixth Army, and eventually, Germany’s defeat. NATO’s expansion to the Ukraine would avoid that type of defeat.
The Eastern Front, Summer of 1941
On August 23, 1941, after two full months of constant action, General Heinz Guderian, commander of Second Panzer Group (later Second Panzer Army), poised to attack Moscow, was summoned to attend a conference at Army Group Center’s Headquarters with Chief of the General Staff (OKH) Colonel-General Franz Halder and Field Marshal Fedor von Bock, commander of Army Group Center. Halder had been informed that Hitler had decided to attack neither Leningrad nor Moscow but to capture Kiev, the Ukraine and the Crimea. He seemed deeply upset for he believed that would inevitably lead to a winter campaign, something for which the Wehrmacht was totally unprepared. Von Bock agreed, and the three decided that Halder and Guderian should fly to Hitler’s Headquarters in East Prussia (now part of the Russian exclave of Kaliningrad) in an attempt to change Hitler’s mind. They arrived at Lötzen airfield as it was getting dark. Guderian promptly reported to Field Marshal Walter von Brauchitsch, Commander-in-Chief of the Army, who presently forbid him to mention the question of Moscow to Hitler.
The Importance of Moscow
What follows is Guderian’s account of the meeting with Hitler and his analysis of why capturing Moscow was the key to defeating the Soviet Union, excerpted from his memoirs, Panzer Leader.
“I went in to see Hitler. There were a great many people present, including Keitel, Jodl, Schmundt and others, but neither Brauchitsch nor Halder, nor, indeed, any representative of the OKH. I described the state of my Panzer Group, its present condition and that of the terrain. When I had finished Hitler asked: ‘In view of their past performance, do you consider that your troops are capable of making another great effort?’
I replied: ‘If the troops are given a major objective, the importance of which is apparent to every soldier, yes.’
Hitler then said: ‘You mean, of course, Moscow?’
I answered: ‘Yes. Since you have broached the subject, let me give you the reasons for my opinions.’
Hitler agreed and I therefore explained basically in detail all the points that favored a continuation of the advance on Moscow and that spoke against the Kiev operation. I maintained that, from a military point of view, the only question was that of finally defeating the enemy forces which has suffered so heavily in the recent battles. I described to him the geographical significance of Moscow, which was quite different from that of, say, Paris. Moscow was the great Russian road, rail and communications center: it was the political solar plexus; it was an important industrial area; and its capture would not only have an enormous psychological effect on the Russian people but on the rest of the world…”
January 4, 2016
Climate change impacts on rivers and streams may substantially reduce electricity production capacity around the world. Particularly vulnerable are the United States, southern South America, southern Africa, central and southern Europe, Southeast Asia and southern Australia. A new study by the International Institute For Applied Systems Analysis in Austria calls for a greater focus on adaptation efforts in order to maintain future energy security.
January 3, 2016
The Doomsday Clock
Last year, on January 22, 2015 to be precise, the Bulletin of the Atomic Scientists advanced the Doomsday Clock to 3 minutes before midnight, a metaphor to indicate how close our species is to extinction. Among other things, the scientists are (correctly) concerned with climate change and the budding three-way nuclear arms race involving mainly, but not exclusively, the United States, Russia and China. The reasons for this antagonistic animosity are numerous and complex regarding how these nations value their core interests, particularly oil. We have already discussed the situation in the South China Sea, pitting China against some of its surrounding neighbors supported by the U.S. Now it’s time to focus on the Eastern or Southwestern Front, depending on one’s point of view.
Historical Facts
Hitler’s failed Operation Barbarossa, the main purpose of which was to conquer living space and natural resources –particularly oil- for Germany, left the Soviet Union in ruins. At its height in November 1942, the front stretched from Leningrad on the Baltic Sea to Rostov-on-the Don, about 943 miles (1517 km) as the crow flies. The Germans occupied, exploited and leveled all of Byelorussia, most of the Ukraine, and a small portion of western Russia proper, including the Crimea, which at that time was part of Russia, not the Ukraine. As for Soviet casualties, the numbers are truly eye popping: 11 millions soldiers (killed or missing) and somewhere between 7 million and 20 million civilians dead. In comparison, the United States lost 139,380 soldiers (killed and missing) fighting Germany, and virtually no civilians. In 1941, when they went to war against Germany, the populations of Russia and the U.S. were about the same, 130 million. The difference is that for every American soldier killed, the Russians lost eighty, all with primitive weapons by today’s standards. Even General Eisenhower was appalled at what he saw when he visited Russia after the war, and wrote:
“When we flew into Russia, in 1945, I did not see a house standing between the western borders of the country and the area around Moscow. Through this overrun region, Marshal Zhukov told me, so many numbers of women, children and old men had been killed that the Russian Government would never be able to estimate the total.”
Cold War 2
Practically every Russian family lost someone during the war, so it’s not difficult to understand why so many ordinary Russians and leaders reflexively view NATO’s possible expansion to the Ukraine as an existential threat. After all, they paid for their victory over Germany’s invasion with abundant Russian blood, and they’re not about to desecrate or squander that legacy.
Secondly, the distance from Shostka in northeast Ukraine –about 114 miles (184 km) west-northwest of Kursk, site of the biggest tank battle in history- to Moscow is about 317 miles (511 km). This is just a few minutes flight time for any number of short-range nuclear missiles, the equivalent of putting a loaded, cocked 12-gauge shotgun on a person’s head. As to how the Russian government would react should that happen, there’s a good historical example. In 1962 President Kennedy was willing to go to war because the Soviets had deployed antique (by today’s standards) medium range missiles in Cuba, 1,134 miles (1,826 km) from Washington D.C. –almost four times the distance from Shostka to Moscow.
As if to reinforce Secretary Hagel’s statement on the subject, the U.S. will spend as much as $1 trillion (it is a mystery where the money will come from) over the next thirty years modernizing America’s nuclear weapons. Under the circumstances, President Putin, who is also renovating and expanding his country’s armed forces, including the navy, for the first time explicitly named the U.S. a threat to Russia’s national security.
These are not esoteric or classified facts, therefore the ruling civilian and military elites are well aware of the high risk these policies entail. Which begs the question: what reward could possibly be big enough to justify taking a risk of that magnitude? Perhaps some believe that Russia, coerced and paralyzed by economic/financial pressures, would capitulate without a fight. In that case, they apparently hope, the subsequent internal turmoil would cause the entire Russian Federation to collapse, just like the Soviet Union did, and the surviving remnants –along with their oil and gas- would be absorbed as de facto vassals of the west. Further extrapolating, the ripple effect would spread to China: unable to access oil not controlled or owned outright by western energy multinationals, and hemmed in by a potential naval blockade, it would capitulate and accept western dominance as well.
The problem with this line of thinking is that both Russia and China might stand and fight, a terminal event for our species. All this over oil, which along with coal and gas are the main cause of anthropogenic climate change. Ironically then, it appears that for the foreseeable future the three powers will struggle to control carbon deposits they well know must be left in the ground -if we’re to survive. There’s too much money (and power) at stake.
Stopping The Madness
Already there have been numerous close calls over the years that could have resulted in all-out nuclear war. President Eisenhower, no stranger to the horrors of war, warned us in his Farewell Speech of the urgent need to disarm; the Treaty On The Non-Proliferation of Nuclear Weapons requires nuclear armed signatory nations to ultimately eliminate them completely. Instead, the great powers are moving in the opposite direction.
The best way to put an end to the ominous antagonism is to replace fossil fuels with solar, hydrogen and gravity to generate the world’s electricity. They are free, constant, abundant and cannot be hoarded by anyone. Economy of scale from competitive mass production of hydrogen would eventually lower its price for mobile applications and make oil obsolete. All that’s required is a statement from China and India, the two most populous countries, to the effect that they would be willing to gradually convert their coal-fired plants to hydrogen and the whole world would scramble to meet their needs.