Syntrinsic Investment Counsel

Giving Credit Where Credit is Due

2011-11-28T08:19:00.001-08:00

Dear Friends,

This week, we forward you a letter recently written to our good friend, Credit Markets, someone who has been taking a beating of late and yet one who has made a tremendous difference in our lives. We hope you enjoyed your holidays and found much for which to be thankful.

Sincerely,
Syntrinsic

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Dear Credit Markets,

In the spirit of Thanksgiving, thank you for your friendship over the past many years. While this has been a hard time, know that there are still those among us who remain your fans. You have been maligned in the press, undermined by politicians and bankers, and bemoaned by overzealous borrowers. You have caused riots, enhanced losses, and brought down governments. Still, we appreciate you.

When I was young, my grandfather told me how you helped him out after the War. He had returned ready to put the violence of WWII behind him and determined to escape the poverty in which he had been raised during the Great Depression. Unwilling to spend his life working for others, he conceived of a new idea in a highly competitive market. All he needed was some capital to compliment his sweat, intelligence and hustle. In the beginning he was not a typical banking client so you came to him via established business people who were willing to take a leap of faith—not a cheap leap of faith, but a leap nonetheless. And as his business grew, you came to him through more conventional means, banks and other commercial lenders. Fittingly, as the years went on and he became an established business person himself, you and he partnered to help other early stage entrepreneurs, some of whom never would have found credit through more formal channels, but found success because of the work you did with my grandfather.

I remember, too, how our friendship grew back when I wanted that business degree. Here I was, a long-haired nonprofit leader striving to become a business person, and unlikely as my potential success was at the time, that didn’t bother you one bit. You gave me a chance to reinvent myself professionally. Wasn’t easy of course, working 80-90 hours per week and school on top—and I’m still paying you back every month. It’s an easy payment to make however, a gentle periodic reminder of how I could depend on you at a critical time.

The other day, I heard a university professor insulting you in front of thousands of students, calling for them to refuse to pay back their own student loans. Ironically, he wanted those students to disown you, abandon you, in effect destroy you. It did not seem to occur to him that to assault you would be to punish the students (and professors) to come, those who would need you to be able to attend school, to earn that first degree or one more advanced, to improve or change careers, to reinvent themselves. You may feel discouraged to hear the disparaging remarks, to see students refuse to pay you back while their teachers cheer them on, to feel maligned by the very people you have helped educate and employ; but perhaps that is the lesson to you dear friend. Let higher education in America function without reliable credit markets for a few years and see how well that goes. They’ll be back, Credit. You’re a better friend than they realize.

Now you and I have had our tough times, too, as all friends do. Remember back in 2005 when you were daring me to get me to take out that huge residential loan? Don’t dodge it—you know the one. Sure, you weren’t the only one applying the screws, but that was certainly a low point in our relationship. Fortunately, I was able to tune you out and make a more reasonable decision. Had I gone along with you to that party, I would be in heap of trouble. I learned not to trust you as much as I thought I could. To your credit old friend (no pun intended!) you did give me some warnings, some clues along the way. A little wink wink nod nod as you proposed lending me so much that I’d for certain be in foreclosure now if I had accepted. Maybe you were just testing me, building a little character…I hope that’s the case. One thing that I have learned about our friendship is that I have to pay attention. Just because you’re in a crazy mood doesn’t mean I have to get crazy too. Not a bad lesson.

And we’ve had a few close calls along the way. Remember back in 2008? When I was starting a company and you were really sick, nearly out of commission? I thought that I had done all the right things, built a decent reputation, a proven track record, a solid business plan. Naïve I was to say the least! I had thought all those things pretty much guaranteed the relatively modest sum I needed to launch the company. Then you got sick and when you got sick everyone got nervous. I went to your friends at the banks but they were just fretting over your illness, talking about it incessantly, clearly nervous that they were sick too. I went to the private markets but they were so afraid of your condition being contagious that they shut themselves up and hid. Still, we eked it out just by a hairsbreadth and here we are today, thriving, growing, and making even more investment. Sometimes I wonder what would have happened if we had started just a month later…

It’s funny, sitting here late at night, reflecting on Thanksgiving and all the ways you have impacted me, my colleagues, my friends, my clients. You built our neighborhood, our kids’ school, our home. You helped educate me, finance my surgery, even pay for our wedding. You have enabled me to hire people, serve clients, innovate, invest, and change our little corner of the world. Sometimes I have taken you for granted, but recent events have underscored how precious you are; I truly appreciate your presence in my life.

That said, I promise to be worthy of your friendship. At a time when you are unpopular, unloved, and discredited, I will stand by your side. I will honor my commitments to you and encourage others to do the same. I will continue to trust you, to reach out, to give you opportunities to prove yourself. And I will share in the risk-taking inherent in a meaningful relationship with you.

I realize that you, dear Credit Markets, do not receive much fan mail during the holidays, but this is a funny year. As we witness the crowds of Tahrir Square and the lines at job fairs in Manhattan, help Japan and Haiti rebuild, and strive to keep our cities afloat, your friendship and good health are as important as ever. I give you thanks and look forward to many years of friendship.

The Hero

2011-09-24T07:51:00.000-07:00

Imagine the Lone Ranger galloping over the horizon, confident that he and his sidekick Tonto will face down any evil before them with nothing more than a white stallion, silver bullets, and a healthy dose of moxy. If the villain is our stagnant economy, then who are our heroes? Obama and Biden? Bernanke and Geithner? Boehner and Ryan? Romney and Perry? Oh, hero! Wherefore art thou? The American people await a politician to save the day!

Alas, America, our wait continues. A quick check of the United States Constitution (©Copyright, 1789, Philadelphia, Founders Press) confirms that it does not empower Congress, the President, or their appointees to stimulate the economy. Repeat: It is not in the federal government’s job description to stimulate the economy. Indeed, using the word “stimulate” in political discourse in early America could have earned one a bucket of tar and bag of feathers. The notion that federal officials are responsible for being the SOURCE of economic growth rather than its regulator and partial enabler has evolved under the 20th and 21st century leadership of both parties. It is not an original notion.

There are several limitations on federal economic stimulation, including:

Limitation One: No Carlyle for Congress
While private equity partners make hefty contributions to Congress to ensure their tax advantaged status (another Commentary for another day), Congress cannot legally become a private equity partner. Congress as a body cannot launch a for-profit venture, cannot issue stock, or buy into corporations. When Congress has blurred that boundary (think Fannie Mae and Freddy Mac), it has not gone well; the resulting organizations have functioned much more like conflicted bureaucracies than thriving businesses. Their net economic impact (Additional Economic Good minus the cost to manage, sustain, and rescue said entities) reflects a poor rate of return for America the investor.

By extension, “economic stimulus” programs sponsored by government agencies acting on behalf of government officials are prone to corruption, mismanagement and ultimately, misallocation of resources. Quite simply, the federal government is not intended to be in the business of business. Government and business are the same in Russia, China, Iran, Singapore, Syria, Myanmar, and many others; however, these countries are not representative democracies. We are.

Limitation Two: You Can’t Make the Horse Drink
The Federal government can bail out General Motors or Bank of America, but cannot force consumers to buy their products. Contrary to state-controlled economies in other countries, in the American market economy even government backed companies such as banks and auto manufacturers must eventually compete in the marketplace. The government can’t—and shouldn’t—force a consumer to spend money on the products or services of the companies that the government thinks should be in business despite themselves.

Congress can manipulate that marketplace through instituting tariffs or abolishing free trade agreements, bowing to the demands of specific special interests while creating a net negative impact on consumers by artificially increasing prices and/or reducing the quality of goods and services. Such manipulation hurts the consumer and thus the economy.

Limitation Three: The Government Does Not Create Jobs
Okay, let’s acknowledge that the government creates government jobs, but those are 100% paid for by current government revenues (formerly known as “taxes”) and future government liabilities (still known as “debt,” but likely to have a new name once the PR folks get on it). Since every penny paying for a public sector job is a penny taken from the private sector, it is hard to argue effectively that such a fund transfer is enhances the long-term sustainability of the economy.

A president, for example, can initiate job training programs or marginal incentives such as a reduction in employment taxes; however, nothing the president does can compel a company to hire people. The U.S. President, regardless of party affiliation, can seek to influence job creation, ask for it, scream and pound the table for it, promise it, pray for it, and otherwise strive for it. The government can make it harder to hire people, more expensive, scarier, and riskier; however, the government will not reduce unemployment in a sustainable or cost effective manner. It’s not in their job description.

Actual job creation will only occur when businesses decide they need to hire people and can afford to do so.

Limitation Four: It’s Not Their Money
The Federal Reserve has one primary tool—the ability to set target lending rates between banks and the Federal Reserve. They have used that tool to keep interest rates low. This certainly helps keep low the US debt service cost (whew!), but also is intended to stimulate credit markets (borrowing and lending). This has not worked effectively and will not have the impact implied in press releases. The Federal Reserve cannot make banks or private investors lend money, nor can they compel consumers or businesses to borrow money. Credit is a function of confidence and desire, not just interest rates. People and businesses borrowed heavily prior to 2008 when rates were in the 5-15% range; they are not borrowing now when rates are half as much. It doesn’t matter if your last name is Bernanke or Greenspan or Volker—no Fed Chief can make people lend or borrow.

Limitation Five: Market Manipulation is Not a Long Term Strategy
The Fed has more recently evolved to become the world’s largest de facto bond manager with a $2.9 trillion fixed income portfolio. By comparison, the largest true money manager, PIMCO’s Total Return Fund, has “only” $200 billion AUM. Bernanke beats Gross by a factor of 15. The Fed has used that position and its accompanying bully pulpit to manipulate interest rates and bond valuations across sectors, currencies, and regions. While some argue that it is perfectly appropriate for the Fed to become the primary driver of bond market valuations, it was not originally imbued with that power and it is not clear that such activity can or will materially benefit the long-term economy.

Limitation Six: It’s All About (Un)productivity
When federal officials strive to stimulate economic activity by borrowing heavily to finance infrastructure (i.e. FDR) or defense build outs (i.e. Reagan), they may foster near-term gains for some including the elected official, but rarely contribute to a more sustainable economy. For example, while Reagan’s defense spending put the pincers on the USSR and helped revitalize aspects of the American economy, it also relied heavily on federal debt that we still pay for today. In hindsight, those efforts launched a thirty-plus year gorging on debt-financed government intervention that has shown no sign of abating.

If local taxpayers and businesses believe in investing in their infrastructure after doing a careful cost-benefit analysis, they will do so. A jobs program should not cost $150,000 per $50,000 job. A defense department should defend, not be used to keep people inefficiently and thus unproductively employed. It never works long-term. The federal government was shaped to provide basic protections and to NOT interfere with basic freedoms. When it steps outside of that narrow mandate, it is not productive.

“We have met the hero…”
There are schools of economic thought that would attack every assertion made herein, and we recognize that some earnestly believe that the role of the federal government should be to save us from economic uncertainty, though such powers were not granted in the Constitution or implied in either the Federalists or Anti-Federalist papers. One has to turn to Marxist and Fascist state planners to find justification for such a path.

But this discussion is not about Constitutional interpretation of governance; rather, it is a discussion about what kind of society we want to have. Do we want a society where people await rescue by others or one in which people take responsibility for moving themselves and each other forward? Do we believe that elected officials and bureaucrats can “control” or “plan” the economy better than business leaders and consumers? Pogo once remarked that “We have met the enemy and it is us.” We would argue the contrary—that “We have met the hero and it is us.”

Political leaders cannot turn around the American economy. Citizen leaders can. Political leaders will not rescue the American economy; citizen leaders will do so, as they have done since this country was born.

How?

Entrepreneurial Leadership
As in times past, this economy will be healed by those entrepreneurs who invest in their businesses by hiring talented people, creating new or better products and services, and acquiring or developing next generation technology and machinery. In every era of slow growth, there are those who are committed to an idea and possess the leadership qualities to make it into reality. Some may feel that America has lost that hunger, that edge, that desire, but such fear has been afoot since the late 18th century. Every generation thinks it was better before, and yet every generation has gone on to create new growth and discover new possibilities. In free societies people with entrepreneurial drive can thrive, and in their effort and success inspire and enhance others.

Personal Development
People who further their education and ability will stimulate the economy by becoming more valuable to businesses or creating their own. Complacent job-seekers will not do well, but that is to be expected and indeed is well-deserved. Our founding documents did not guarantee a job to anyone; they framed America as a land of in which one was free to work in any state at any job for any company one wished or to create one’s own. This revolutionary concept remains shockingly rare in a global economy in which millions are locked into grinding economic prisons.

The competitive landscape will not get easier, educational requirements will increase, the need for thoughtful employees will grow, and the global employment marketplace will become more competitive. Those who see this as a problem have a problem; those who see this as an opportunity will have better opportunity.

Responsible and Opportunistic Lenders
Banks may be reluctant to lend because of the regulatory environment, poor balance sheets, or their risk-averse business models; however, there remain financial intermediaries who recognize both their responsibility to serve their community and the opportunity to be a part of creating new wealth. Banks that simply nurse their wounds for the next decade are on the way out anyway and quickly will be supplanted by those institutions that participate in enabling new ideas.

If formal banking institutions fail to step in, there will be private investors who would rather put their capital to work than have it earn less than 1%. Why will these people still want to finance business ventures? Because we are a culture that has attracted people from all over the world who are drawn to the possibility of creating new wealth and opportunity for themselves, their families, their employees, and their communities.

Citizen Statesmanship
Polls indicate that Americans are frustrated by the lack of statesmanship in Congress and among those—vying to be elected president in 2012. This challenge has plagued American life since our inception. No recent campaign has been as ugly as that waged between Thomas Jefferson and John Adams in the first contested election in 1800, yet America went on to greatness. Study the details of any election, any Congress, and you will find gridlock, animosity, maliciousness, and embarrassingly poor governance. And yet we never have had a dictatorship, never have swung into full blown socialism or fascism, and have gone from strength to strength. While we may lack it in the District of Columbia, statesmanship has been abundant in the local communities that define American life, among business and civic leaders and ordinary citizens doing their part.

Next Steps
It is high time for citizens to stop playing into the media-driven frenzy of fear, anger, hopelessness, and despair. Unplug the TV, turn off talk radio, stop reading blogs (except this one), and get to work.

Never have ordinary citizens had such an opportunity to help heal and grow a country, not just by electing one person or another, but by using our collective ingenuity and diligence to create goods and services that are worthy of our friends and neighbors at home and around the globe. Enough of the whining. There is no Lone Ranger coming to the rescue on the back of a white donkey or white elephant. There are no silver bullets. And there is little the government can or should do unless the people of this nation are ready and willing to lead rather than follow.

It may seem crazy, but I am hopeful and appreciative of the opportunity we all have to serve each other, our country, the broader global community, and the generations to come.

Sub-Standard & Poorly

2011-08-06T14:03:00.000-07:00

Yesterday’s Syntrinsic Commentary spoke to the larger implications of an unsustainable approach to capitalism, specifically, capitalism that requires inexhaustible credit to function.

Today, as you may know, Standard & Poor downgraded the United States debt rating from AAA to AA+ with a “negative outlook,” meaning that they expect future downgrades. Let us share a few thoughts on this action, what it means and doesn’t mean, and at least some the implications.

Who is Standard & Poor?
S&P is one of the three major rating agencies charged with providing credit ratings to companies and governments. It is a for-profit entity, like the others. It is hired and paid by the issuers it rates. The other two major rating agencies are Moody’s and Fitch.

Was this downgrade predictable?
Yes. But first, we think it bizarre that so much credence continues to be assigned to credit rating agencies that very recently assigned AAA ratings to subprime and Alt-A mortgage backed securities, auction rate securities, and other asset back issues that they did not understand and did not act particularly interested in understanding. The credit rating agencies have not yet meaningfully changed their outlook on the municipal bond market, a market that is just screaming to have its risk profile reassessed. Clearly, when one is in a “pay-to-play” relationship with issuers, one’s judgment gets cloudy.

Given that lack of rating-agency creditability, we think it is far more important to look to the markets as a barometer of the risk of a security. As far back as March 2010, corporations such as Proctor & Gamble (AA- at the time), Berkshire Hathaway (AA+), Johnson & Johnson, and even Lowes were paying lenders less than the US Treasury, implying that they were perceived by the markets as less risky than loaning to the US government. At that time, Moody’s reported that the US was at risk of losing its AAA rating, and that was well before health care reform was adopted, 8-9% unemployment proved unexpectedly persistent, and the debt ceiling required a $2.1 Trillion or 15% increase. (See: “Obama Pays More than Buffett as US Risks AAA Rating,” Bloomberg, March 22, 2010).

In short, this downgrade has been coming for a very long time, was well telegraphed, is well-deserved, and we think, probably insufficient. If a credit rating communicates the likelihood that a lender will be able to get its money back and its interest paid, then it is completely reasonable to downgrade the US still further. The only way the US can pay back lenders is by finding more/new lenders; our lenders are getting skittish and our government buys too much of our debt in its effort to force interest rates lower than the market would otherwise determine. Since the US borrows without the intent of paying down the debt, it has become a risky borrower. If anything, the credit rating agencies have been exceedingly lax in acknowledging this.

Then why have investors been BUYING Treasuries and driving yields down? Doesn’t that imply Treasuries are even less risky than before?
Ah, if only markets were truly efficient. Scared investors do scary things. We do not think that it makes sense to dump the stocks and bonds of profitable companies in order to buy the debt of a government that is being downgraded, but that is precisely what has happened over the past few weeks. Why would you sell the stock of a profitable company with excellent prospects that is paying a 2.5% dividend in order to loan money to a government that is finally being called into account for its poor fiscal management and charge them only 2.5% interest per year for 10 years? It’s a completely counterintuitive response.

For several years, we have advised that clients avoid US Treasuries and Agencies (other than Treasury Inflation Protected Securities after January 2009). That call hurt in October-November 2008 when Treasuries became a safe haven from riskier equity and commodity markets, but at that time, Treasury debt itself was not the cause of the crisis. Now it is.

But aren’t Treasuries the safest investment option during a scary time, even if the Treasuries themselves are causing the crisis?
US Treasuries are safe so long as the markets determine that they are safe. But consider some of the very tangible risks to the US Treasury market:

Imagine the impact if China, Russia, Korea, Brazil and other foreign owners of US Treasuries decide to sell into this rally and reduce their Treasury exposure and diversify across other issuers and currencies. They curtail or even cease new Treasury purchases. They announce their decision and scare other investors who also sell or reduce their purchases. Yields rise.

As yields rise, the value of Treasury bonds drops. If values drop enough, many investors may sell, particularly if they have total return objectives and are holding bonds that mature over longer periods of time.

If the duration of your bond is 4 years, then the principal value may drop 4% for every 1% rise in interest rates; if the duration is 8 years, then the value would drop 8% for every 1% rise. How much of a decline in bond values will investors accept if interest rates rise 1%? 2%? 4%? Will they really feel confident to hold to maturity? Some might, but that will not be the uniform response.

If sentiment grows that US Treasuries are not reliable and that the US dollar will continue to weaken against global currencies, then we can’t simply print our way out of this by issuing debt that our own government buys. Those who still think that the US Dollar is omnipotent and beyond reproach for all time and across the globe are ignorant of history and the other great civilizations that failed—as we have been doing—to take care of their day-to-day business like responsible adults.

Well, if Treasuries are not risk free, shouldn’t we just put everything into gold?
Gold is certainly an appropriate part of a portfolio, though far from the risk-free asset that some think it may be. Were it as risk-free as some wish, then we would not have seen gold stocks crashing this past week, nor would so many commodities have outperformed gold over the past two years as this crisis has been unfolding. Gold can whipsaw. It’s notable that while gold has appreciated significantly against the US dollar, it has not changed nearly as much versus stronger currencies. Ultimately, the world will settle on a price for gold and the rate of appreciation versus US dollars will slow.

Gold—whether bullion, futures, or related stocks—certainly has a place in a portfolio concerned about hedging currency risk.

Well then, what else should I be doing to manage my investments? Should I go to cash?
While it sounds cliché, every investor needs a portfolio that reflects their investment and/or business objectives, liquidity needs, tolerance for uncertainty, and long-term spending requirements. There are some investors who should be in cash, but then, they probably should have been in cash three weeks ago or three months ago when risky assets were far more highly priced and thus communicating more even more risk than they are today when 10-20% cheaper. There is no news this week that we did not know several months ago; the market is simply digesting a recent and high-profile policy-level failure to effectively address financial concerns about which many have known for some time.

There is no one answer to the question about the ideal portfolio for current events. That said, there are a few fundamentals that remain true:

1. High quality companies with strong balance sheets, compelling businesses, and strong management should over time provide shareholders a reasonable return on their equity.

2. When making loans to companies and governments (i.e. buying bonds), select those that are fiscally sound, likely to payback the principal and to make interest payments in a timely manner. Weak corporations, municipalities, or sovereign nations should be avoided unless you are being paid a substantial risk premium.

3. Commodity prices (energy, agriculture, metals) should appreciate over time if demand—or anticipated demand—for those resources increases. Depending on the commodity markets you are considering, look at the likelihood of increased demand and invest (or not) accordingly.

4. Real estate prices are impacted by two key factors. The first, is Location, Location, Location. You may not want to invest in office buildings in certain US downtowns or suburbs, but may find a shopping mall in the Czech Republic represents an excellent opportunity. The second is pricing and its doppelganger, liquidity. People need to live and work and play. That will not change. Real estate at a fair price makes sense.

In short, we do not see the Standard & Poor downgrade to be a reason to materially alter investment strategy unless your investment objectives have changed or you were not prepared for this environment in the first place. If your portfolio is overweight the US dollar and betting on low-quality companies, then this will be a rocky road.

As American citizens, we recognize that our country needs to do something dramatic about our revenues, expenses, balance sheet and financial decision making process. But we have been saying that for years now and investing accordingly. Perhaps S&P’s action gets the attention of a few more people who are willing and able to make a difference. If so, then we welcome the downgrade. Going forward, we hope that we can play our part in helping the United States earn back the financial credibility we once possessed.

Bad Capitalists?

2011-08-05T07:09:00.000-07:00

Are Americans bad capitalists? As we confront the consequences of an unsustainable economic model, it’s a question we must consider.

Bad capitalists:

· misallocate assets

· lock themselves into a cycle of perpetual borrowing to finance operations

· lack a plan to meet debt obligations (other than refinancing it)

· maintain insufficient cash reserves

· lose the confidence of their stakeholders

· manipulate lenders and investors to keep them engaged

· do not acknowledge that their strategy is fundamentally flawed

· argue that time will solve their problems, or minor adjustments on the margins, or one more chance, or more of the same

Worst of all, bad capitalists undermine capitalism. They say to the world, “Human beings are too greedy, selfish, careless, and irresponsible to be entrusted with an economic system that requires discipline, self-sacrifice, hard work, and a long view.” An already skeptical world is often quick to buy that argument, ignoring its inaccuracy.

At the business level, a bad capitalist eventually looses wealth or goes out of business as it competes with good capitalists who invest more intelligently, adapt better to changing market conditions, attract and retain more talented employees, and otherwise strive for financial sustainability. But what if a nation’s economy is based upon and rewards poor capitalistic practices? We all recognize that the capitalist business cycle includes periodic failures at the business level; but, have we adequately considered the implications of failing as capitalists at the macro-economic level?

In some quarters, posing such a question would amount to heresy, for critiques of our economic model are too often viewed as criticism of capitalism rather than as a desire to improve our practice of it. The distinction is everything. And when society is rapidly losing the confidence of its neighbors and its own citizenry, a little heresy is necessary.

So where does one turn to critically examine at least some of the practices of bad capitalists? To the Marxists, of course. Countless theoretical discourses have been written since Karl Marx and Friedrich Engels published “The Communist Manifesto,” in 1848. Most critiques of capitalism have focused on how owners (a.k.a. capitalists) allegedly “exploit” employees (a.k.a. labor). But there have been economic philosophers who have focused on matters outside of capitalist-labor tension, issues that are relevant today.

In 1923, Hungarian economist and political theorist, György Lukács published his treatise, History and Class Consciousness. As a founder of what is known as “Western Marxism,” Lukács’ concluded that capitalism is inherently flawed, a conclusion with which we disagree. That said, elements of his critique are timely for those concerned with enhancing the sustainability of our economic system.

Lukács explores the concept of “reification,” which implies that capitalism is an abusive fiction that unperceptive—and unaware—participants have bought into without recognizing its true ugliness. The concept is reminiscent of the illusory world in the Hollywood trilogy, The Matrix, a fictionalized world in which citizens have been fooled into believing the visual reality around them without realizing that they are just oblivious players in a massive computer simulation.

Lukács presents capitalism as an artifice constructed by those most able to profit from moving funds around without adding genuine value. In his construct, capitalism constantly requires new participants and new monies which can feed those already in the system, seeming to create wealth but really just moving it from one unwitting owner to a more powerful one. Lukács presents capitalism as similar to a Ponzi scheme (though he does not use that term); in his worldview, people with the greatest power and influence profit from the wealth (i.e. labor, resources, monies) of those who possess less influence or control.

Defenders of capitalism might counter that capitalism creates new wealth by using public and private credit markets to facilitate the launching of new endeavors that otherwise could not happen. In effect, they argue, capitalism sets up a series of arbitrage opportunities through which someone can borrow from others at a lower rate than they expect to make by investing the borrowed funds in a venture. Much of the difference represents “new wealth” created, wealth that circulates through the economy through profits and wages that are converted into consumer spending, tax revenue, and ultimately, further opportunities to invest.

Defenders of capitalism also could look to public and private equity markets as opportunities to create new wealth by enabling owners to sell their stakes to others. The buyers expect their ownership will be rewarded through gains and income or by selling their ownership stake in the future for a premium over the purchase price. Buying and selling ownership (or expanding the ownership base through diluting current owners) can be generative if it enables new investment that adds value to the venture and its stakeholders.

So, why should capitalism’s defenders feel defensive? Don’t they adequately address Lukács’ accusation that the capitalist economy is an artifice? Aren’t credit and equity markets excellent examples of how capital can create more capital and thus generate new wealth throughout the system?

In theory, the capitalists have a sound argument; in practice, however, practice gets in the way. What happens, a Lukács advocate might ask, when one uses credit without any intention of repayment? Is a society creating new wealth when it rolls its debt over again and again with no intention of paying it back? If there is no intent to settle the debt, then can one really recognize the scenario as constructive arbitrage? If society’s functioning requires borrowing it will not repay in order to “stimulate” spending that makes it appear the economy is expanding, then hasn’t that society affirmed its members are willing participants in a Ponzi scheme?

Or look at the equity side. What happens if changing ownership is not a generative process but simply represents a transfer of wealth between parties? What if one party buys ownership, leverages up the company by borrowing beyond what is reasonable for the company to pay back, then sells it off to other public or private owners at a value inflated by the leverage it now carries but cannot repay? In this instance, there is not wealth creation for the broader economy, merely a profit for the seller that is paid for dollar for dollar by the other parties (and then some if debt financed). In this scenario, there is simply the appearance of appreciated value and wealth creation. Ideally, no one would engage in such a transaction, but if a society such as ours richly rewards buyers to perpetuate the cycle of artificial economic value generation, then the game will be played until, like any Ponzi, the jig is up and someone gets caught holding the rather expensive bag.

These observations deserve more thoughtful consideration than these few lines allow, and yet raise essential questions for us today. What action is society taking to ensure that we are not willing (or unwilling) participants in a Ponzi scheme? What sacrifices are we making so that we borrow only when we intend to pay it back with near-term assets? How do we mitigate the risk of being a society of bad capitalists? What systems or cultural shifts are necessary to increase the likelihood that we practice good capitalism?

When companies that have been “bad capitalists” fail, society absorbs those losses and enables the people impacted to try again as owners and/or employees of other ventures. However, whole societies that have been “bad capitalists” have no such safety net. If a society becomes economically unsound, it simply fails. Such failures hastened the ends of Ancient Rome, the British Raj, and the Soviet Republic. Societies that practice bad capitalism create fear and economic uncertainty amongst their citizens, causing people to distrust individual initiative, risk-taking, and the free flow of capital just when such behavior is most needed to stimulate the economy and make investments that can generate new wealth.

Lukács is wrong. We are not ignorant dupes participating in a massive Ponzi scheme; and yet, we must not willingly propagate a system that confuses perpetual leverage with sustainable growth. We stand together at a critical decision point. Generations from now, will we be remembered as bad capitalists? Or will we be honored as those who did what was necessary to preserve and improve the world’s most effective system for fostering personal freedom and opportunity?

Once Upon a Balance Sheet

2011-06-27T09:55:00.000-07:00

Once upon a time, there was a balance sheet. It belonged to a mighty nation in the Western Hemisphere that had grown wealthy and powerful. Its people traversed the globe with confidence and bold plans.

But the balance sheet was sad. It did not feel joy or excitement commensurate with representing a great nation; indeed, the balance sheet had begun to wonder if it mattered at all anymore.

“I don’t understand,” lamented the balance sheet, “why so many people ignore me now. It used to be that people cared what I had to say, sought my wisdom and foresight. Ordinary citizens would read me and ask me questions, nod, and make important decisions. Some even claimed that having our own balance sheet was one of the reasons to form our own country in the first place. Alas, no more. Now people ignore me or worse, they even get angry at me!”

The balance sheet signed and heaved his bulk to a nearby coffee shop. He didn’t have money for a drink, but liked to hear the perspectives of the regulars. As if to confirm his fears, the regulars at the table nearby turned their backs on him. They continued their conversation but increased their volume, the way that people do when bullying a peer.

One of the regulars loudly explained the difficulties of choosing between starting social security at age 62 or age 65, noting he expected to receive benefits through his 90s. Another described the many medicines she used to manage her ailments and complained about being asked to cover a co-pay. The third rationalized the importance of extending our military might to protect democracies and aspiring democracies worldwide. Still another pointed out that no price was too high for honoring commitments to government employees.

The balance sheet winced, then sighed to signal that he was present and could hear their every word. But instead of inviting their discretion, his sigh only intensified their efforts. Backs firmly turned, the regulars proceeded to loudly expound on absorbing state obligations, rebuilding countries, bailing out banks, limiting trade, taxing economic development, and other sensitive topics designed to inflict pain on their former friend.

It worked. The balance sheet could take it no longer. He pulled out his iPad and logged into his Facebook page. He was shocked. His few Facebook friends had defriended him, and they had done so harshly. Rather than turning their backs as had the coffee shop regulars, his virtual community had made it clear that they were downright angry with him.

One former friend wrote, “Enough! Your very existence implies that we are lazy. You are a mean, vindictive balance sheet.” Another scrawled in haste, “Some friend u r. U think u r so important but I know better. U r not real.” A friend of a friend from China with strong nationalist views wrote merely, “Xie xie ni” or “Thank you very much.”

The messages were hard to read, but the balance sheet could not stop. The next was particularly cruel. “You used to be so handsome and trim, but you’ve really fallen apart. You’re a slob and don’t take care of yourself. You embarrass me. You need help. Hope you get it.”

That was enough. The balance sheet logged off and went outside to clear his head. As he walked down the street, loneliness and rejection weighed heavily on him. What could he do? He was just a balance sheet. He didn’t control the inputs. It was the regulars at the coffee shop and his former online friends who made him what he had become. He wasn’t proud to be out of shape. He knew he had lost his edge. Deep down he understood that this was the classic midlife crisis: his best years were behind him—the opportunities, the work ethic, the passion. What possible joy could there be in the future? He’d passed his prime and how those who had relied on him had rejected him.

Something had to change. But how?

“Hello!” cried a young voice. The balance sheet looked up to see a young girl. “You’re a mess,” she announced. The balance sheet nodded.

“Who did that to you?” she asked. How to explain the state of affairs to a child? Balance sheets are complex financial reporting tools capturing liabilities and assets—how could a child possibly understand?

“I bet my mom and dad did this to you. My grandparents, too. And my neighbors and teachers and coaches and my minister…” The balance sheet interrupted her. “It’s true. But how could you possibly know all of that?” he asked.

She explained that he was not the first balance sheet she had seen in a similar mess. Apparently the balance sheets for her state and her city had been moping about recently and appeared equally forlorn. The balance sheet started to explain the complexity of the situation, the off balance sheet liabilities, uncertain accounts payable, and receivables highly dependent on tax policy and the economy and…

She cut him off. “Actually,” she said, “it’s all rather easy. I’m in third grade and we’ve got addition and subtraction down pat. Our country spends more than it makes. We keep increasing that gap. In the end, you look worse and worse. Simple. Right?”

The balance sheet was moved. This girl did not ignore him or curse him as had the adults. She didn’t even blame him for having become so bloated.

As if reading his mind, the girl told him that growing up, she had learned about the balance sheet by overhearing her parents anxious late night whisperings, and in her mind she had pictured him as a monster or nightmare.

“But then,” she said, “I realized that you are not good or bad, you’re just a reflection of who we are as a society. And since my folks and their friends aren’t helping you, my friends, siblings, and I are going to have to take over. Yes, my new friend, it looks like we’re going to be together for a long time.”

The balance sheet felt a faint fluttering of hope. “It’s not going to be easy to help me change,” he cautioned her.

“I know,” she remarked with a wise, knowing look. “But this is America. We can do anything, right?”

The Businessman

2011-04-18T11:26:00.000-07:00

I had a most unusual conversation the other day. In the wee hours of morning, in a darkened coffee shop, a man sat off in the corner, no coffee, no scones, just an intense visage and furrowed brow. He appeared deep in thought. Occasionally he grasped his pen and jotted something on a well-worn legal pad. A struggling writer? A mid-life crisis? I had to find out.

I sidled up to the worn looking man and like a good American asked him about his profession. Poet? Journalist? Speechwriter? His answer surprised me. “Businessman, actually.” Now I was truly curious. I hadn’t thought businessmen frequented edgy coffee shops. Something must be amiss. Our conversation went something like this:

Me: What brings a businessman to a coffee shop like this?
Businessman: I needed a place to think without distractions.
Me: What distractions could a businessman have? I thought everything was pretty easy for you guys.
Businessman: Easy?! Why would you say that?
Me: Well, you are a billionaire, right?
Businessman: Not hardly. Not really a goal of mine anyway.
Me: A millionaire then?
Businessman: Well, I guess if I sold my business I would be a millionaire.
Me: Well there you are then. You’re set.
Businessman: But I don’t want to sell my business.
Me: Why not?
Businessman: Lots of reasons. I like what I do. I’ve worked hard to build a good reputation. I have customers, colleagues and employees that I care about and I feel an obligation to. Sell the business and who knows what the buyer does. Gut it. Sell off the parts. Lay people off. No, not really something I am willing to risk. I’d rather leave it as a legacy for someone willing to take care of the employees and customers the way I have.
Me: But I thought the primary goal of business people was to make money?
Businessman: That’s a nice benefit of working hard and doing a good job, but it’s not what gets me up in the morning or keeps me up late at night.
Me: But you are one of the richest 1% that I hear so much about, yes?
Businessman: I guess so, technically. Of course, I have taken out loans and taken a great deal at risk to get this business off the ground and keep it thriving. I don’t think they take that into account when calculating the 1%. A substantial portion of what I make I use to pay back debt or reinvest in the company, yet I pay taxes on the revenue as if it were income landing in my wallet.
Me: I hadn’t thought about that. I thought if you were in the top 1% you were living without a care.
Businessman: Some might. Most business owners have a great deal to care about.
Me: Really? So what are you here working on? How to make more money? A new jingle for a product?
Businessman: Actually, it’s more challenging than that. See, we expect to have a decent year and have built up more cash than usual.
Me: That’s a good problem.
Businessman: It is, except I’m wrestling with what to do next. Cash doesn’t earn any interest now.
Me: What are your options?
Businessman: I could hire another employee or two.
Me: Excellent. There are a lot of talented people out there.
Businessman: True, true, and we could certainly expand our services and products; however, I don’t know how much an employee will cost or how other expenses might take priority.
Me: Don’t you set their salary?
Businessman: The salary part is fairly easy; it’s the benefits and taxes that are the tough part. And benefits and taxes at my company represent about 30-40% of the compensation package.
Me: Are you kidding? I thought that successful businessmen didn’t pay much in benefits.
Businessman: Not true. Good business owners want to retain their employees and help them be more productive. We help out with health care, retirement benefits, flexible schedules, those kinds of things.
Me: So what’s the problem?
Businessman: I don’t know how much those things will cost. Health care costs had been increasing dramatically for the last decade, and then last year they went up 40% for many small businesses like ours. I can’t dump all of that on my employees and I can’t afford to absorb it all. Who knows how it will increase next year or the year after that? And there are so many other expenses to consider.
Me: Like what?
Businessman: Well, our regulatory expenses went up significantly last year, you know, costs to comply with the agencies that monitor our industry. I expect those costs to keep increasing for the foreseeable future.
Me: You don’t believe in regulation?
Businessman: I have no problem with good regulation and knowledgeable regulators. But at least in our field, it’s our integrity, not government regulation, that protects our customers and employees. The regulatory hoops don’t stop their real malefactors.
Me: That’s discouraging.
Businessman: I don’t mean to sound cynical, but the costs of increased regulation falls on those like us who are doing our jobs appropriately, not those who are taking advantage of people. Still, the regulatory cost is insignificant relative to uncertainty about taxes.
Me: How do you mean?
Businessman: We all know that taxes will be increasing—local, state, and federal. It’s simple math. So when I’m considering hiring new employees or investing in capital equipment or technology, I also have to think about keeping cash on hand to pay for what likely will be significantly higher taxes.
Me: Are you saying you don’t want to pay taxes? I’ve heard that business owners don’t think that they should pay taxes.
Businessman: Of course I expect to pay taxes! That’s part of being a member of society; everyone should pay taxes. We have to finance our defense and education systems, our social safety net, foreign policy, infrastructure, the whole works. I get that. Indeed, a large proportion of our net income goes back out in taxes, let alone property taxes, employment taxes, unemployment insurance, licensing fees and other government-related expenses. We pay taxes, and I’m okay with that. However, it seems that some people forget that every dollar our firm pays in taxes is another dollar we can’t use to hire someone or otherwise invest in the firm.
Me: But I was under the impression that business owners didn’t care about society.
Businessman: What gave you that impression?
Me: I keep hearing that the wealthiest Americans don’t support charities and education and things like that. And that if they do, it’s just a tax dodge. Is that true?
Businessman: No! We don’t make a big deal about it but we support organizations that are doing good work throughout the community and around the world. Like many companies, we encourage our employees to use paid time to volunteer as well. Still, the more we pay in taxes or regulatory fees or health care costs, the less we have available to support these worthy organizations.
Me: Are you sure you are a businessman?
Businessman: What do you mean?
Me: You seem rather sensible, not quite the troll that I would have expected. Perhaps you’re an exception.
Businessman: Hardly. I’m just a regular person who runs a business and tries to make a difference. There are tens of thousands of us. Indeed, many of the most generous people I have known have been in business. They are great role models of leading by example.
Me: But you don’t see many business people out there protesting and calling for the government to meet people’s needs.
Businessman: It’s one thing to be generous with other people’s money; it’s another to be generous with your own.
Me: I never thought about it like that.
Businessman: Listen, I’ve enjoyed our conversation here, but I need to get back to work. We have some big decisions to make and I want to do it right. A lot of people are counting on me.

I thanked the businessman for his time and stepped away from the table. How curious! It was hard to believe that he represented that much maligned business class. He had to be an oddity.

Later, while writing about the conversation in my notebook, it dawned on me that the businessman really was an outlier, though not in the manner I had thought during our conversation. What kind of crazy person would work so hard to build something that would benefit society knowing that if it failed, almost the entire cost of that failure landed in his lap, impacting his pocket book and his reputation? And what if he succeeded? All of society would benefit—people would have jobs, customers would have products and services they need, and the government would have the revenues generated by taxes and fees, monies then spent to benefit everyone. Shoulder the burden; share the success.

Most people would never agree to such an odd bargain. Indeed, my new friend in the coffee shop was a bit unusual, but perhaps there was something to his kind of life, something about working in the wee hours of morning to create something, protect it, to grow it.

Perhaps those who think that business owners are such a drag on society should spend a few minutes with one in a coffee shop, in those wee hours while they scribble on a notepad trying to make it work for all of us.

(Good) Governance

2011-04-06T10:40:00.000-07:00

If one were to pick a single word to capture the essence of the 1960’s, it might be “ferment,” or “struggle.” The 1970’s could be embodied by “malaise” or “despair”. For the 1980’s both “patriotism” and “greed” resonate, while “party” and “technology” define the 1990’s. The 2000’s are still being digested, but the word “fear” (of terrorism, of economic collapse, etc.) would be a leading contender.

As we launch into the early stages of the 2010’s, the leading contenders for Word of the Decade look to be “democracy,” “globalization,” or perhaps “social media.” And while we can expect to see these words continue to play a role in the predictable predictions of the decade, we do not think that they will prove as impactful as our nominee. Being a bit contrarian, we at Syntrinsic propose that this decade will be defined by a word with little sex-appeal, one rarely used by even the most well-informed pundits, and one rarely used in regular conversation. It has its stalwart fans and even a handful of junkies (some of whom happen to be clients), but this word is not top of mind for even a modest percentage of the population. The word? Ready? Take a deep breath…

“Governance.”

Yeah. We thought you’d feel that way. We do too! The sobriety, the gravitas. Say it out loud (in private of course) and you can feel the inner statesman start to stir. For those of you who wondered if we were geeks, you need wonder no more. Case settled. Syntrinsic has a thing for “Governance” and our readers want to know why.

We believe that “Governance” will define this decade—must define this decade—because no other word will have a greater impact on the ability of our society to right what’s wrong and make meaningful progress toward crafting a sustainable and civil society.

What does it mean? Webster’s defines Governance as “the exercise of authority; control” as well as “a method or system of government or management.” Like other somber words such as fiduciary and stewardship, one generally assumes that to discuss governance is to assume one means good governance; thus, how one exercises authority well, or a constructive, responsible system of management.

Why does governance matter? Consider this year’s top stories:

Foreign Policy
Brutal dictators long financed, armed, and otherwise supported by the United States are under fire from their own people, many of whom also are angry with America for supporting their oppressors. How should we respond? To what extent should America condone and actively support bad governance elsewhere in order to serve the near-term interests of our citizens? In short, when if ever is it good governance to support bad governance?

State of the States
Over the decades, elected officials throughout the country have made compensation and benefit commitments to government employees that attracted votes but are not financially tenable. Simple tax increase or a few layoffs will not address financial agreements that are fundamentally unsound. What is a Governor, Mayor, Superintendent, or Chief to do? How do officials elected by a majority of their constituents make the necessary financial and policy decisions that by definition must negatively impact a majority of their constituents? How can a governor govern people that want, nay demand, financially irresponsible governance?

Corporate Governance
US papers are full of pictures of the directors of Japan’s Tokyo Electric Power Company bowing apologies to civilians made homeless by fears over nuclear meltdowns at some of the firm’s reactors. Meanwhile, in America, few if any directors of AIG, Goldman Sachs, Citigroup, Merrill Lynch, Bank of America, Wachovia, Wells Fargo, Fannie Mae, Freddie Mac, Morgan Stanley, General Motors have even been publicly named, let alone held accountable by regulators, press, or the public for decisions made by the companies they supposedly governed into crisis. So what do we expect from corporate governors? Are there meaningful consequences for serving poorly as a corporate director? And if we cannot feel confident about corporate governance, then how does that impact confidence in the investment markets, let alone faith in the country’s economic underpinnings?

Nonprofit Governance
Okay, so we will concede that as usual, there are few headlines about nonprofit governance. Yet if one looks closely at the pressures faced by the generally volunteer directors of nonprofit organizations, there have been few times as difficult as this. Pressures to provide services have risen in the face of economic crisis, joblessness, and government cuts,; the financial models of many nonprofits—particularly those that rely on fund raising—are under great strain; and, few nonprofit boards operate with the resources, time, or expertise available to corporate boards and government agencies. To complicate matters further, members of both parties and the current White House keep questioning aspects of the tax code vital to nonprofit viability. Given these pressures, what does good nonprofit governance look like? Are we as a society willing to accept the cost of lazy, self-serving, or simply poor nonprofit governance? Can we even comprehend what that cost would be?

We believe that there are principles of good governance that can guide foreign and domestic decision makers, as well as the officers of for profit and nonprofit entities. And we believe that some version of these principles must become a more common part of the rhetoric of those who govern AND those who are governed so that there is greater alignment of intent in this free market representative democracy.

Principles of Good Governance

Take a long view.
Strategic decisions must be made so that people 30 years from now—and likely much longer—will be highly likely to thank us rather than regret our time in charge.

Make sustainable decisions.
We cannot afford to make short term decisions that will need to be undone later. Short terms for elected officials and quarterly earnings announcements punish those focused on sustainability—but only in the short-term.

Consistently apply values.
Good governors have clear values and apply them consistently. Inconsistent values foster uncertainty, uncertainty creates fear, and fear undermines good governance.

Be financially sound.
One can ignore financial reality when one is running a Ponzi scheme or other short-term hustle (including those managed by governments and corporations), but effective governors understand that policy and finance must be rational, aligned, and self-supporting.

Establish clear accountability.
Governance requires well-defined responsibilities and a path for holding accountable those who are responsible. These roles must be broadly understood and formally accepted.

Cultivate a sense of honor.
Honor is neither prideful nor boastful; rather, it represents a desire to be remembered as an effective leader and manager who governed well. Some consider the concept of honor quaint or even archaic; we think it essential.

It can be tempting to sit back and judge those in the White House, Foggy Bottom and Congress, or to complain about the local governor or mayor or school board chair, to harp on the failures of corporate directors or negligence of nonprofit directors. After all, it is easy to critique those making difficult decisions, to question their motives and competence, and complain about their ineffectiveness.

But given our representative democracy with its free market system, the greatest governance challenge this decade will not be faced by those who officially govern, but rather by those who are governed, those who typically do not see themselves in positions of leadership, management, or even basic responsibility for society. What will the great “We the people” do when difficult decisions must be made, when compromises must be struck, when priorities must be established?

Will we educate ourselves, actively participate, and make sacrifices worthy of this moment in America’s history? Will we embrace—and be—the kinds of leaders willing to govern from a principled, skillful, honest place? Will we in effect approach our civic, work, and personal lives with good governance in mind? For if we do take these steps, anything is possible, even repairing the world.

And perhaps many years from now, the word they will choose to define our time will be “thankful” or “appreciative” or “redemptive.” Or maybe, just maybe, they will look back on the 2010’s and say it indeed was a time defined by “governance.” And we’ll all know what that means.

I Live In a Land

2011-03-02T14:50:00.000-08:00

In 1855, Walt Whitman—America’s “First Poet”—published Leaves of Grass, a collection of 12 poems about the landscape of his inner feelings and thoughts as projected on a still young country. How can’t we think of Whitman when people throughout the world are clamoring for the messy form of government that is democracy?

In the spirit of Whitman, and at a time when humanity valiantly struggles to be free, we thought it time to share poetic thoughts celebrating a way of life and form of government that we are able to embrace or reject in the hopes that we might support those who seek the same latitude for themselves and their children.

I Live in a Land
by Ben Valore-Caplan

1.
I live in a land
Where I can create my life
And so do my children.

Where creative energy
Like waves washes against
The shore of the present,
Shaping us slowly,
Imperceptibly,
Lulling us into believing that
The rhythm of change
Soothes always like water on sand.

Except when storms rage
And scare us through the uncertain night
Crashing upon our thoughts and comforts
Unsettling us,
Driving us beneath blankets of fear
And anxious dreams
In which all is lost.

Until the noise and chaos passes
And we awake to the calm of morning
The shore is different
And so is the air
And we are again alive
Energized
Refreshed
Reminded of the energy
We had taken for granted
The lapping waves that were changing the landscape
Even as they soothed us into thinking they were not.

2.
I live in a land
Where I can create my life
And so do my children.

Where I can walk the beach
Feel the pull of a spot of sand,
Settle in
Begin to build
A vision of beauty
Of function
Or something to pass the day.

Others might join me
Or I them
And build together for a time
Castle moat city
Something new
Something worth crafting

The beach here expands
As builders join in
And so do our imaginations
And the possibilities
And the surprises
That we had not thought to build
But someone did
And we share in the wonder
That such people have such ideas
As we shape each other’s landscape
And what we leave behind.

3.
I live in a land
Where I can create my life
And so do my children.

Where every day,
Seagulls cackle well meaning
Offers to protect me
From the heat and gales
Shifting sands
Unknown companions
Uncertainty
And myself.

Their tempting calls
Promise comfort
Security
Someone else,
They seek to lure me from
These gritty sands
And bitter water.

And when the sun is at its zenith
And my fears,
I contemplate their offers.

4.
I live in a land
Where I can create my life
And so do my children.

A frustrating, abrasive place
Chaotic and noisy and ugly
Where people jostle and crash
Stomp on each other’s creations
Throw trash on the sands of society
And pollute the waters of life.

It’s an obnoxious place
Disorganized
Disorderly
Disrespectful
Disturbing
Dissonant.

It’s a wonder really
That anything beautiful or functional
Ever happens here
And that it does
So very often.

5.
I live in a land
Where I can create my life
And so do my children.

And my children believe this,
And that
Will make all of the difference.

Thirty Years

2011-02-08T09:55:00.000-08:00

Thirty years. An eternity really. Yet something those charged with predicting the future—investment analysts, ecologists, political scientists, pension stewards—must be prepared to anticipate. To grasp the sheer audacity required to predict thirty years forward, let’s first journey back thirty years.

Imagine you have travelled back to February 1981.
Anwar Sadat is President of Egypt. Hosni Mubarak is a boring bureaucrat serving as vice-president. Sadat’s assassination (and Mubarak’s miraculous survival) is still nine months off. The peace treaty Sadat had signed with Israel’s Menachem Begin in 1978 had earned him a share of the Nobel Peace Prize and the enmity of many of his countrymen and peers in the Arab World.

In America, Ronald Reagan had taken his oath of office just a few weeks ago, on the same day that 52 American hostages were released by the Iranian students that had taken over the US Embassy. According to many of the hostages, one of their captors was named Mahmoud Ahmadinejad. Whether he was actually part of the takeover or not, we did not know then that he would later become Iran’s puppet president.

The Dow Jones Industrial Index closes February 6, 1981 at 952. It includes companies such as Eastman Kodak, Inco, American Can, and US Steel. The thirty year US Treasury Bonds yield 12.8%, while the Prime Rate stands at over 19%. A conventional thirty year fixed mortgage can be had for 15.1%. The US Federal Debt stands at about $950 billion, which represents about 35% of GDP.

The Soviet Union is America’s great foil and includes in its empire the Ukraine, Kazakhstan, Turkmenistan, Kyrgyzstan, Uzbekistan, Tajikistan, Belarus, Lithuania, Estonia, and Georgia. The Soviet Block includes puppet governments in Poland, Czechoslovakia, Hungary, Bulgaria, Romania, and East Germany. Berlin is divided. The United States has just boycotted the 1980 Moscow Olympics. The 1984 Olympics have been awarded to Los Angeles. The Soviets are deeply mired in Afghanistan where they wage a cruel campaign against civilians, booby trapping toys with bombs and blanketing the country in mines.

Goods made in China are hard to come by and generally consist of hand-worked silk, ivory, and jade. US dollars are not permitted in China. Beijing and the Great Wall are closed to Westerners. There are few cars in China save a handful for top communist party officials. There are no sky scrapers of note in Shanghai or Guangzhou. It has been eight years since Nixon’s visit to China.

The internet has not yet been invented. There is no email, no texting, no chatrooms, no Facebook. A few folks have ponied up to acquire heavy mobile phones they connect to their car battery. People write letters and reports on typewriters. They use calculators and adding machines. GPS is only available to the military and is spotty at best. When people want to research information they turn to an encyclopedia or library.

There are three major network broadcasters as well as PBS. In some communities, there might be an extra TV station. 24/7 television has not yet been invented, and only a few people have cable. HBO has been around since the 1970s, ESPN for two years, and CNN for one, but all with limited access. There is no MTV, FOX, and CNBC. Most people get their news from local prime time newscasts or the local newspaper. Several communities have at least two daily papers. Local DJs rule the radio waves. Clear channel has not consolidated local radio.

We can agree that life was quite different in 1981. Yet now imagine that you were an economist or adviser in 1981 helping a foundation, a pension, or a future retiree plan for the next thirty years. What might you have considered?

You’d probably start by being concerned about fixed income. After all, with Treasury yields in the low double digits, you know that bonds will barely keep pace with inflation that has been running 11-14%. And if anything, bond yields and inflation both seem destined to keep rising. Who would want to lock in money at 12-15% for thirty years? So you would be cautious about fixed income.

Of course, given high inflation and interest rates, who in their right mind would allocate much to US stocks, an asset class that had been returning only about 8-9% per year for the previous thirty years? Investing in stocks in 1981 seemed to many investors to be a sure way of locking in real investment losses.

There were only a few “hedge funds” in existence, they were not yet accessible to most investors, and few investors would have placed money in them anyway. One could trade commodities or REITS but the markets were not very transparent, affordable, or well understood.

What Would You Have Predicted?
So if you were sitting with an investment committee or a family in 1981, how many of the geopolitical, economic and social changes that occurred between 1981 and 2010 would you have predicted? Would you have nailed the demise of the USSR? The advent of the internet, email, text, chat, and all that they entailed? Would you have guessed that you would have a computer strapped to your belt with more communication and research power than any combination of electronic devices that existed in 1981?

Would you have predicted that the Dow would transcend 14,000 once and 12,000 a few times? Or that most trading on the major markets would be driven by computer algorithms? Would you have guessed that 30 year bonds would for a time be discontinued, then reinstated, and that they would yield only about 4.2% as 2010 drew to a close? Would you have dreamed that a 30 year mortgage could be had for about 5%? Or that even those with near perfect credit scores would have difficulty actually securing such a deal?

Would you have predicted that Japan would rise as America’s greatest economic adversary, then stagnate? Could you have guessed that backward, communist China of all places would become our primary economic partner/competitor? Would you have anticipated the rise of the European Union, the successful issuance of the Euro, and the uncertainty that now stalks the very arrangement? Might you have imagined that the World Trade Center would be gone, US troops would be fighting in Afghanistan and Iraq, and that the nightly news would speak regularly of Mosul, Kandahar, and Kabul? Could you have dreamed that a black man from a family of mixed race, nationality, and religion would be president of the United States?

Could you have imagined that the Fed would be busy trying to stimulate inflation to something higher than the current 1.5%? Would you have expected that the US Debt would stand well over $13 Trillion? That somewhere around 1 in 10 US houses would be vacant? That serious discussions would be underway regarding how states and municipalities can declare bankruptcy? That over 20 million Americans who are part of the workforce would not be working?

Could you have conceived of Microsoft, Google, Facebook, Verizon, Apple, Hyundai? Would you have guessed that only nine of the thirty Dow Jones Industrial component companies in 1981 would still be in the DJIA in 2010? Could you have anticipated that five of the 2010 DJIA companies would be financial services firms when none were in 1981? There had been six financial companies in the DJIA in 2008, but Citigroup rose and fell from grace in the years between 1981 and 2010.

How Should We Look Forward Today?
Since we are in the business of helping prepare for the future, we cannot simply throw our hands up because forward-looking predictions are so difficult to make. We must find that balance between predicting what might happen and humbly knowing that we cannot. And in that place of balance, there are certain truths that form a foundation on which we can build a strategy for going forward.

• The companies that will drive innovation over the next thirty years have not yet been created.
• Some of those companies will be domestic and some will be foreign.
• Countries guided by the rule of law and citizen engagement will outperform those that lack either one.
• There will be bubbles and they will pop and people will lose a lot of money.
• Governments and companies that manage their debt loads most effectively will outperform those that do not.
• Through globalization, currency markets will continue to rationalize, driving the world toward a single currency, a stabilized basket of currencies, or relative constancy between a handful of dominant currencies.
• The demographic, social, and technological trends of the last thirty years will be quite different from those of the next thirty years.
• Governments that tax too much stifle innovation and growth which ultimately stifles civil society and promotes economic malaise.
• Governments that tax too little stifle civil society and encourage economic disparity, which ultimately stifles innovation and growth.
• Commodities and land are likely to remain constrained resources for the next thirty years.
• The global population is growing.
• People want to feed their families and provide them with access to health care.
• It can be more lucrative to own a company than to loan money to it.
• It can be much safer to loan money to a company than to own it.
• There will be governments that abuse their people.
• There will be people who abuse their governments.

We realize of course that the statements above do not render an asset allocation blend optimized for the next thirty years. But they do remind us that the next thirty years will be driven by themes we can expect and specifics we cannot.

So as investors plan for retirement, finance foundations and endowments designed to last in perpetuity, craft estate plans, and ensure the health of defined benefit plans, we must think critically, embrace uncertainty, and craft a course of action that anticipates both worst case and best case scenarios. If the last thirty years have taught us anything, it’s that both will most certainly happen.

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Syntrinsic's State of the Union

2011-01-28T09:06:00.000-08:00

On Tuesday, President Obama presented his State of the Union address as required by the Constitution. Immediately following, Paul Ryan, Congressman from Wisconsin, offered the Republican response. We are reluctant to preempt either gentleman, and yet thought that this was a ripe opportunity to provide Syntrinsic’s first State of the Union commentary.

Syntrinsic’s State of the Union is informed by our daily work with good people across the political spectrum that are ethical, patriotic, intelligent, and of solid character. Syntrinsic is grounded in a very strong social agenda, though it is not a partisan one; thus, while our State of the Union may lack in standing ovations from 51% of America, we hope to compensate by referencing themes in 2011 relevant for all of us who care about the stewardship of our nation’s financial resources.

We have focused on one theme that is geopolitical, one national, one tied to the investment industry, and one tied to the nonprofit industry. Our last theme, we think, unites them all.

Geopolitical Theme: Beginning the Next Cold War
Much has been made in recent weeks of the rise of China’s military (e.g. stealth fighter), their increasing territoriality with their neighbors over control of the seas around China, and their desire to make the Yuan a global currency. Some pundits have attempted to position China and US in the beginning of a Cold War-like relationship, stirring up images of former Soviet-US tensions; however, this metaphor does not fit.

The US and China have developed a symbiotic relationship that never existed between the US and the USSR. The Soviets did not finance America’s government debt as China has, nor did American consumers finance the growth of the Soviet economy as we have and continue to do with China. While China and the US have become ever more interdependent, the US and the USSR largely lived in two isolated economic worlds, motivating each other, but doing everything they could to isolate and weaken the other.

We expect to see China continue to flex its growing muscles in the coming year, and yet also expect them to struggle to manage at least four major challenges that can destabilize a totalitarian regime: 1). A “hot” economy; 2). A demographic that includes far too many inadequately educated rural poor men; 3). Growing internal dissent around faith, corruption, government incompetence, and environmental devastation; and 4). Relations with North Korea, Japan, Taiwan, Myanmar, and India.

Will China overtake the US as the next global super power? Not yet. Will China and US relations deteriorate? Probably not. Will the US stop relying on Chinese products or China’s financing of our debt? No. Will the US compel China to become an advocate of human rights in North Korea, Africa, Myanmar, and elsewhere? No. Should we be wary of China? Of the people, no. Of the government, yes.

National Theme: Save our Cities (and States)
Closer to home, 2011 will be marked by the economic challenges of states, cities, and other municipal districts (e.g. schools, utilities, fire and police, airports, etc.). There will be budgets to cut, services to modify, pensions to renegotiate, and most likely employees to be terminated. Some municipal agencies will raise taxes to address the economic pressures, while others cut them with the same intention. Some unions will come to the table as constructive partners and some will do so as antagonists. Some citizens will understand the need to adjust expectations and others will rise up in anger. In some communities, business will partner with elected representatives to develop comprehensive solutions, while in other communities business will stand silently by.

While in most of America, we have moved away from citizen participation in local politics, the economic decisions that must be made may inspire renewed engagement. This is good. Just as the world has become more interdependent, our local communities have also become more closely woven into the web of broader economic and geopolitical forces. Former House Speaker Tip O’Neil liked to quip that “All politics is local,” and he was right. Were he with us today, he might well add that, “International has become local.” A rancher on the Eastern plains of Colorado is connected to one at the base of the Southern Andes in Chile and both are joined to the wheat farmer replanting a flooded field in central Pakistan.

Will our municipalities declare bankruptcy? Some, yes. Will they default on their bonds in greater frequency? Yes. Will pension contracts be renegotiated? Some, yes. Will it be enough? In most cases, no. It will just delay the inevitable for the next generation to address. Will America’s cities and states fall into perpetual decline? No. Many cities and states will need to reposition and make tough choices, but most Americans are resilient, loyal and have a strong sense of place. Cities and states will need to reinvent, but remember, we have done that before several times (e.g. New York City, Chicago, San Francisco, Atlanta, etc.)

Investment Industry Theme: Fiduciary Standard
Imagine if doctors were having a national debate as to whether they needed to put the health care needs of the patient before their own financial gain. Imagine if engineers were arguing in a public forum about whether bridges needed to be built for safe transport or simply to meet the business needs of the engineering firm. What if states were trying to decide whether teachers should strive to serve students before serving themselves?

We believe that were any of these debates going on, the nation would be riveted and strong feelings and extensive news coverage would abound. Yet such a debate is going on right now within the investment industry and even most investment professionals are not even watching from the sidelines. Yet this will be one of the most important decisions impacting the investment industry and its customers in the last 70 years.

In the initial drafts of what became the Dodd-Frank Act, language was proposed that would compel all broker-dealer representatives to meet the same fiduciary care that is required of Investment Advisers per the 1940 Investment Adviser Act. Per the 1940 Act, Advisers must provide loyalty and care to their clients first and foremost, disclose how they are compensated, disclose all conflicts of interest, and act in good faith. Rather than being a rules-based guideline, the fiduciary standard is intended as a principles-based guideline; thus, financial professionals would be expected to meet the spirit—not just the letter—of the guidelines.

Both Dodd (Chris Dodd, Senator from Connecticut) and Frank (Barney Frank, Congressman from Massachusetts), quickly struck the requirement for a fiduciary standard from the Act. Instead they required that the SEC study the situation and make a recommendation. On January 21, the SEC released their study to Congress. Now Congress, the SEC, FINRA (the self-regulating body of the broker-dealers), and lobbyists from the broker dealer, insurance, and banking community, financial planning advocacy groups, money management firms, and others are teeing up for negotiations.

Will Congress compel all financial professionals to meet the fiduciary standards defined by the 1940 Act? No. There’s too much money made under the current arrangement that consumers would not pay if they knew. Will Congress create a single, watered-down standard for everyone despite the SEC’s recommendation otherwise? Possibly. Again, there is much money at stake and great pressure to weaken, not strengthen, fiduciary standards. Will investors experience a more transparent investment industry designed to put their needs first? No. We continue to believe that the only thing that will materially change the structure of the investment industry is a change in consumer demand.

Nonprofit Industry Theme: Impact
The nonprofit industry feeds the hungry, houses the homeless, cares for the sick and abandoned, preserves history and protects the environment, cultivates the arts, and otherwise serves the faith, psychological, and educational needs of society. It helps make us a civil society, provides a safety net, and enables the many aspects of life that do not have short-term profit motive or potential.

Economic pressures in 2011 will continue to challenge nonprofit agencies to become even more efficient, better demonstrate their impact, and forge ever stronger relationships with those that provide financial sustenance, whether through contributions, reimbursements, or other revenue streams. Thus, like in other aspects of society, we can expect to see quality rise to the top. Nonprofits that are extremely well governed, well-managed, and sustainably resourced will continue to thrive. Those that have weak boards, ineffective staff or unsustainable revenue streams will go away, be absorbed, or, merge with peers. That’s okay.

In 2011, we will see continued interest in the expansion of social impact investment structures that raise capital to meet social needs in more creative ways. The line between nonprofit and forprofit will blur as social entrepreneurs move back and forth between legal structures and business strategies to strive to meet their social objectives. That, too, is good.

Will Congress look for ways to tax nonprofits on endowments, hard assets, or other aspects of their business? Yes. When revenues are tight and spending is high, expect Congress to consider everything, including taxing aspects of nonprofit business. That said, we think actually implementing such taxes will be politically difficult and thus unlikely. Will Congress reduce the tax deductibility of charitable donations as the Obama administration has proposed? See answer above. Same pressures to do it, same pressures not to. Will nonprofit organizations go out of business in 2011? Yes. Will the service demands on nonprofits increase? Yes. Will nonprofits be able to meet those increased demands? Some yes. Some will thrive in this environment as they will be able to demonstrate their value at a time when value is important.

Unifying Theme: Entrepreneurship
We hear again and again that people are concerned that America has lost its competitive edge, that we have become complacent, that we are Rome in decline, a shadow of our former greatness, no longer relevant or vital or even interesting. We would share the concern except that America has voiced that level of self-critical anxiety ever since the generation that took over leadership from the first revolutionaries in the 1790s. We believe firmly that America’s obsessive fear of becoming irrelevant keeps us hungry and motivated and relevant.

Once the housing/banking/credit crisis hit the fall of 2008, many Americans felt that the devastation was an indication that our most fundamental structures had failed. Anti-capitalists and anti-globalists reveled in a sort of schadenfreude (def.—“pleasure in someone else’s misfortune”) that the great exploiter had crashed and burned. Clearly government had not protected us from our excesses and perhaps even contributed to them. Many of our banks were unable to manage their own businesses and were taking us all down with them. Our heavy industry was shot, as was the housing industry which made everyone so rich for the previous 20 years.

We see it otherwise. America’s greatness is in its fundamental structure, not our temporal management (or mismanagement) of it. America’s constitution (small “c”) is based on rule of law, the free flow of capital and investment, a healthy civil society, human rights, and the opportunity to launch something, fail, and try again. We are imperfect in all of these endeavors and yet these factors exist in America as they rarely have in any other place or at any other time in human history. Few immigrants leave their homes and families and risk their lives to come here just to receive Social Security and Medicare. People around the globe still see America as a place where the lowliest among us can forge a life of value and meaning, can raise a family, can pray, and can become what one wishes. For that, people will give up and risk a great deal.

Is America perfect? No. Is America fundamentally broken? No. Are America’s partisan politics particularly bad now? Not by a long shot. We’ve improved tremendously over the past 235 years. Is the spirit of the American people broken? No. Can one start a company in America? Yes. Is capital available? Yes, for the right business plan and with enough tenacity. Will it be government spending that turns around the economy? On the margins. Government spending is a tax on the economy (today or tomorrow), so ultimately it is a zero sum impact. Will it be private enterprise that turns around the economy? Yes, as it ultimately is in every recession throughout history and across societies.

As we enter 2011, we have never been more confident, more excited, or more inspired by those among us who seek to make an impact in creating a more humane, secure, innovative, and loving world. Our Union has been rocked hard these past several years; yet, we possess the fundamental structures and thoughtfully engaged citizenry necessary to move from strength to strength. And so we will.

Shocked, Just Shocked

2010-12-17T15:31:00.000-08:00

Much has been made of WikiLeaks’ recent release of previously confidential diplomatic cables. The world was shocked—just shocked—to learn that there is tension between Sunni and Shia in the Middle East and that North Korea’s dictator for life Kim Jung Il is widely considered slightly nuts. Shocked, just shocked.

Lost amidst the political revelations was another packet of secret cables. Wikileaks had intended to post them to their website but accidentally faxed them to Syntrinsic instead. Fortunately, we had plenty of toner on hand. It seems that Wikileaks somehow came upon communications between high ranking officers and officials at major investment firms, regulatory agencies, and other sensitive financial posts.

Following the lead of many great news organizations, we feel we have a moral obligation to post excerpts from these cables here so that the world may be safe for democracy and freedom, etcetera, etcetera. Nonetheless, in a concession to our Chief Compliance Officer and to human decency, we have elected to delete the names of the specific authors, preferring rather to cite their professional roles.

Memo from Regulatory Investigators to Congressional Staffers:
“…and tomorrow we will be announcing a series of investigations into hedge fund insider trading. This announcement is likely to have an adverse affect on the US stock markets; therefore, we recommend that you sell your equity positions at market open tomorrow. Please bear in mind that only members of congress and their staffers are legally able to trade on inside information such as we are providing here, so please keep this memo private.”

Tweet from overwrought Congressional Staffer working on the Dodd-Frank Financial Reform Bill:
“We had promised Fiduciary Standard. Nice dinner last night with lobbyists from You Know Who. Breaking promise. Feeling remorse. LOL.”

Treasury Department Job Posting for CEO Position at Major Bank
“Wanted: Former CEO of failed financial institution with experience alienating shareholders, destroying shareholder value, and demoralizing (or downsizing) employees. Must be willing to accept large signing bonus and considerable stock options that only vest when government bailout secures future of firm. Must be willing to relocate within mid-town Manhattan. Requires a firm commitment of at least nine months, nothing less. Please contact Head of Treasury Department directly. At home. Sunday night.”

Dictation from Federal Reserve Brainstorming session
“Let’s create a US sovereign wealth fund, you know, like Norway, China, or Singapore.”
“Yeah, we could use it to buy US distressed assets. Then sell them back to the private sector later.”
“So where do we get capital?!”
“Let’s print it!”
“No borrow!”
“Is that sovereign?”
“Is that wealth?”
“Hey, delete those last two comments, now!”

Lecture Notes from Professor of Finance at Prominent School of Business
“Look, we teach Modern Portfolio Theory because it is easy to teach, not because it reflects reality. The real world is far more complex, far less predictable than MPT promises. But look, we’ve got tests to give, books to write, ratios to name, and software to sell. Now, enough of this. Please draw a normal curve…”

Speech from Senior White House Official (with staffer edits as indicated)
“Americans should invest in annuities (because insurance companies have contributed heavily to my campaign - REMOVE) and because it is important to plan for your futures. We were going to hold insurance companies to a fiduciary standard but (decided that doing so would likely make it harder to justify their sale in many cases and - REMOVE) did not want to stifle the profitability of the insurance companies when the economy is already weak. Annuities are a great compliment to social security (which many of you will find less robust or reliable than you had hoped - REMOVE).”

Friendly brief from White House Budget Office to Department of Education
“We understand that you wish to develop and require a curriculum around personal finance and we agree that in time, such an effort has merit. In the meantime, we are concerned that your effort to educate young people on matters related to credit card usage, investment, personal debt, and taxes, may demoralize citizens and even discourage their contributions to consumer spending at a crucial time. We ask that any such efforts be pursued when the economy is healthier. To underscore our point, we find that Education Department funding is already difficult to sustain and hope that your cooperation on this matter will enable to fully fund the budget you have requested.”

National Sales Manager response to FINRA panel on investment sales practices
“We are firmly convinced that there is no benefit to investors in disclosing clearly the various expenses associated with investment. Such expenses are minor, are of little concern to investors, and do not influence the behavior of our investment professionals. Even though the supervisory personnel at our firm are compensated based on revenues generated from the sale of investment products, we are 100% convinced that they ensure that all sales practices are in the best interest of the investor. Do you really think someone would sell an investment product just because it pays them better than another product?[Pause]. I didn’t think so.”

Note from Japanese Central Bank official to American counterpart regarding bank supports and interest rates
“Been there. Done that. Didn’t work.”

We realize that the excerpts above are seismic in their impact, revealing the cynical underbelly of global finance. We also recognize that we may be forced into hiding for exposing these dangerous communications. Indeed, the whole economy might grind to a halt, but such is the price of…well, you know.

We like this “secrets” business. You take widely known, common sense information, dress it up a bit, and make it seem mysterious and exclusive. Then—only after you have transformed it from general knowledge into a restricted insight—you dramatically announce it to the world. Sort of like the marketing materials from most investment firms.

Hmmmm, maybe we’re on to something…

The New Philanthropic Normal

2010-12-05T10:40:00.000-08:00

One of life’s mysteries is how and why donors give money. In the eyes of many, philanthropists and foundations remain elusive givers or deniers of financial sustenance. As these donors go, so go our social service agencies, environmental causes, faith based initiatives, and countless essential elements of our civil society.

The Utah Society of Fund Raisers (www.USFR.org) recently asked Syntrinsic to present thoughts on how foundation thinking has shifted over the course of this economic crisis. Of course, there is no such thing as monolithic “foundation thinking.” Each foundation possesses a distinctive approach to stewarding its resources and to giving those resources away. Nonetheless, on December 2, Syntrinsic gave a keynote address to the USFR in Salt Lake City that spoke to the themes below.

What has changed?
Prior to the economic crisis, most foundations were confident, hopeful, and feeling generous. They maintained a perpetual time horizon and were accustomed to growing year over year in excess of their spending. Life was good. Now, however, many foundations are highly uncertain and feel constrained in their ability to support all that they want. They are concerned about their ability to grow assets organically and thus about their ability to live in perpetuity.

We all know what happened. Foundation assets generally declined 30-50% from their peak in the fall of 2007 through the spring of 2009. Depending on their investment strategy and spending, many foundations remain quite a bit smaller than they were before the economic bust. Three other factors, however, are less obvious. First, many foundations have investments with limited liquidity due to private placements that have put up gates or extended the time horizon for distributing funds. Second, most foundations have significantly lowered their forward-looking return assumptions. Whereas foundations routinely expected to make 8-10% per year just a few years ago, most now plan on returns in the 5-7% range, and many do not even try to predict their gains. Thirdly, there remains uncertainty about how estates and foundations will be treated under the tax code. There are those at think tanks and in DC who believe that charitable gifts should not be as tax deductible as they are now and others who think that nonprofits should be taxed similarly to for profit organizations. Clear statements from Congress, the IRS, and the White House to the contrary would be helpful.

In the meantime, organizations seeking to raise funds from foundations wonder if their thinking is fundamentally different than it was pre-crisis. Five general trends have emerged around the country and across foundations of varied sizes and missions.

I. Getting Directly Involved
Some foundations are seeking ways to be more directly involved in the initiatives and programs they fund. The participation can take many forms: foundation representatives might want to be volunteers in the organizations they fund, whether in providing direct service or serving on a board or task force; they also may want to help the nonprofit secure funding from other sources or otherwise influence long-term strategy. In many cases, nonprofit organizations may not want direct involvement from their funders (or at least certain funders), but in other situations, creating opportunities for direct involvement might open doors otherwise closed.

II. Concentrating Support
Some foundations are dealing with a smaller resource base by supporting a smaller number of organizations and/or sectors. In many cases, these foundations have revisited their missions to reaffirm their purpose. If giving has drifted from that core purpose over time, then foundations may use the economic crisis as an opportunity to refocus. If the foundation supports five mentoring programs (for example), then it may decide to concentrate on the 2-3 it deems most effective. It behooves nonprofit organizations to understand a foundation’s current mission and current strategic focus, and to only pursue funding from those where the alignment or “fit” is strongest.

III. Seeking Experience and Credibility
Most foundations were started by entrepreneurs or their descendants. Nonetheless, when it comes to supporting organizations and initiatives—particularly in an environment of scarce resources—foundations tend to be conservative. They want to support organizations or leaders they know (or know of) and support. Thus, it is imperative that those seeking funding be able to demonstrate the credibility of their organization and leadership. Want to launch a new initiative? Have a proven leader take the reins. Want to launch a new organization? Be sure that it is necessary, and if so, then assemble a board and staff whose familiarity will inspire confidence.

IV. Demanding Accountability
Over the last three years, “efficacy” has become a constant theme at foundation conferences and in foundation board rooms. In this context, efficacy is about foundations trying to determine whether they are having an impact in the world. Given all the work involved in establishing and running a foundation, is it really worth it? Nonprofits that hold themselves accountable to mission-specific outcomes are much better positioned to address these concerns than those that do not. The nonprofits in the strongest position are those that plan ahead how they will address the foundation’s head and the heart. Do you have quantitative evidence of impact for those who need it? Do you provide anecdotes, videos, and in-person presentations for those touched by more emotional evidence?

V. Seeking Flexible Capital Structures
Nonprofits almost exclusively strive to appeal to the grants making side of a foundation—and understandably so given how foundations have historically approached the business of allocating resources. However, a shift seems to be afoot, though at the early stages. Some foundations—a small number at this point—are considering how to use their asset base to make strategic investments that support their mission. We’re not talking about negative or positive social screening, but rather more creative options. Some foundations are looking at ways to lend money to nonprofits in lieu of investing in traditional bonds, or to make long-term equity investments in projects in lieu of stocks or private equity. These types of investments have been common in the faith-based community for decades, but we sense increasing possibilities throughout the foundation community in the years to come, particularly as more nonprofits create meaningful opportunities for such investment.

We expect that many of the pressures facing foundations—lower asset sizes, reduced growth assumptions, uncertain tax policy—will continue for many years. We also expect that the social needs foundations strive to address through their support of nonprofit organizations will only increase in scope, intensity, and cost—and dramatically so. In short, today’s funding challenges are not an exception but what we believe to be a “new philanthropic normal.”

That said, the nonprofit organizations and other concerned community organizations that innovate and proactively strategize for this environment will find that generous foundations and philanthropists will be all too eager to support their good efforts. The resources are diminished; the spirit of giving in America is as robust as ever.

Letters from the Future

2010-11-19T09:29:00.000-08:00

Imagine receiving the following letter from the Internal Revenue Service:

**********************************************************

To: The _________________ Family

From: The United States Internal Revenue Service

Date: November 18, 2060

This letter serves as official notice of your family’s obligation under the 2060 Federal Reclamation of Earnings Act (FREACT). This Act was recently passed unanimously by the United States House and Senate, approved by the President on November 1, 2060, and formally validated by the Associated Western Financial Union League governing body. As such, this Act is officially binding.

Section 8 of the FREACT reads as follows:

“(A) All families that were documented citizens of the United States or otherwise received benefits commensurate with such citizenship as of January 1, 2010, shall hereby be held liable for their portion of the Federal Debt as of October 31, 2010. This liability shall consist of three factors:

1. Your individual proportionate share of the Federal Debt principal value as of October 31, 2010.
2. Interest on the proportional share of Debt compounded at 8% per year. Interest takes into account estimated interest costs as well as the estimated impact of inflation.
3. An average currency depreciation factor of .5 to account for the continued weakening dollar due in part to the Federal Debt for which your family is responsible.
4. The size of your family. FREACT deems adults responsible for the liabilities of the children living in their household as of January 1, 2010.”
(see: FREACT, 11.18.60, Section 8.A)

To assist you in understanding your family’s specific obligation, the IRS has provided the following example:

Individual Share of Federal Debt - $13.7 Trillion / 301 million individuals = $43,854
Interest Accrued at 8% per year for 50 years = $2,056,815 (gold bullion)
0.50 factor applied for all payments made in $US Dollars = $4,113,630 (current $US)
All adults and children living in your household (e.g. f=5) = $20,568,149

FREACT was crafted and passed to address the highly destructive use of debt that only became more ingrained in the functioning of American society in subsequent years. While the Federal government of 2060 considered collecting by going back to the citizenry of 1945 when an expansive Federal government became most notable, it was decided that receiving letters from the future would be truly disconcerting and may even cause permanent psychological damage. As well, that generation had already endured World War I, The Great Depression, and World War II. By 2010, our records indicate that most Americans were sufficiently sophisticated and jaded that such a letter would be bothersome but cause no cruel or unusual punishment.

For those of you who may wonder at the ability of IRS to forward this letter to your attention, let us assure you that our actions are fully authorized by the Comprehensive Federal Jurisdiction Act of 2056, which empowered the IRS and other government agencies to seek a redress of grievances from citizens, past present and future. As you can imagine, given that most citizens’ personal data is available in a variety of media and forums, it is well within future technological competence to ensure that you have reached this letter. Also, be assured that we know you have opened and read the contents of this letter. Protestations to the contrary will not be permitted.

Per Section 9 of the FREACT, you may forward your payments via two methods.
1. If paying in currency (2010) $US Dollars, you may pay by credit card to the future US Treasury via the Web Portal on the back of this letter. As you may have guessed, by 2060 it is possible to make currency transactions across time periods and currency regimes. FREACT mandates that payments may NOT be made to the current US Treasury due to concerns that such funds will not be reserved for future use as intended. Recall that payments in $US Dollars require a .50 depreciation factor, effectively doubling your payment.

2. If paying in gold bullion, please indicate as such via the same Web Portal. A courier will be sent from 2060 to collect all bullion payments during the last week of December. Bear in mind that payments in gold bullion do NOT require the .50 discount. Payments by shares of gold related exchange traded funds, mutual funds, hedge funds, or other securitized vehicles will not be accepted, nor will shares in gold producing companies.

If you have any questions, please call your congressional representatives as they represent the current and future. Bear in mind that your current representatives also are just receiving this information and may have similar questions. Also, remember that in some instances, your future representatives may not yet be born and certainly are not aware that FREACT will be passed in 2060. Their lack of ability to respond to your questions at this time does not in any way absolve you of your obligation, financial or otherwise, to your future fellow citizens.

You may not contact the future to lodge complaints. The citizens of 2060 had no say on the debt you issued on our behalf; you have no say on how those citizens elect to pay for it. As you may have guessed, nonpayment is not an option. We can assure you that the means for securing payment in 2060 are far more advanced than they were in 2010. While FREACT authorizes the use of iBrain technology (version 3.0) in managing your behavior, voluntary cooperation is desired.

We here at the Internal Revenue Service appreciate your prompt compliance with FREACT and know that you recognize its critical role in reestablishing America as a solvent, even vibrant economic power in the future. We are sure that you have at times wished that your predecessors could have adopted different policies and practices; thus, we are confident that you will respect our desire to do so now that the technological capabilities have made doing so possible.

Thank you in advance for your support.

Sincerely,
The Internal Revenue Service

**********************************************************

Science fiction? Perhaps, though, it might be interesting if the US Treasury was required to forward a simple annual report every year to each citizen outlining in plain English the size and nature of our Federal debt. Of course, a similar overview of the spending would be nice as well. In the meantime, we’ll just get busy growing the economy and keeping an eye out for letters from the future.

Underwhelming Forces

2010-11-10T10:04:00.000-08:00

This week, Syntrinsic has invited guest columnist, E. Pluribus Unum, to comment on the global credit crisis. When it comes to currency, few possess Unum’s heads-up insight or universal appeal.

US Dollars Underwhelm Opposing Forces
(Berlin, Tokyo, Washington DC)—E.P. Unum

While most Americans have been caught up in the drama of the mid-term elections, a real battle has been waging that touches every American household. Reports from the frontlines indicate that the United States is clashing with former WWII adversaries Japan and Germany, cold war antagonist Russia, and emerging economies from Asia to Latin America. Casualties are mounting and the main victim thus far is America’s standing in the world.

This is not simply a battle over territory or natural resources, nor one of faith or ideology or pride. On the other hand, it is a battle for all of these elements, for the conflict is one of economic strength not political power; the primary armaments are currencies, not bullets; and the battlefield is not some forest or hilltop but the sacred ground of the global capital markets.

Like so many geopolitical conflicts, there has been a long escalation of the underlying tension, so much so that there is no one event, person, or date that marks the Beginning of the crisis. Globalization has opened markets and election polls, technology has democratized most information in most of the world, and consumer appetites have steadily grown, changing the definition of middle class and its cost. Throughout this intensification, the developed world has relentlessly grown its leverage.

If the other factors have been kindling, then leverage has been the gasoline poured atop the wood pile. All that was missing was a match. The US housing market became that primary catalyst, with help from housing markets in Western Europe, financial engineers in New York and London, and other minor players. And the currency race to the bottom was on.

Sure, on the surface, American diplomats have been discussing stimulating jobs, reassuring consumers, and keeping people in their homes. But in times such as these, it is critical to look past the posturing. While the diplomats have been holding press conferences, America’s top financial generals have been on a heavy recruitment drive, boosting enlistment from all quarters so that they can flood the domestic and foreign markets with green troops and thus overwhelm our economic competitors. They have scrounged in all corners for recruits, lowered standards, and even gone so far as to assign the same soldiers to multiple missions at the same time. Despite early claims that they would not do so, they have reassigned dollars that had been propping up mortgage backed bonds to now prop up Treasury Bonds instead of sending them home as promised.

Just this past week, the Federal Reserve (not the Pentagon, but a Federal agency similarly tight lipped about its long-term strategy) committed to throwing another 600 billion soldiers into the fight against—well, you know. Each month, waves of 75 billion troops are expected to march out of their headquarters in Washington DC and off to the brutal capital markets where they will confront Yen and Euros and any other currency that dares to be weak.

Out on the battlefield, their mission is simple: drive down the cost of American exports. Make it cheaper to do business with America and concurrently, more expensive to do business with everyone else. This conflict is not based on skill or intrigue; rather, it is a simple confrontation that will be won by numbers and sheer chutzpah. Who’s willing to do what the others will not or cannot do?

“I don’t care how hard they try to keep their currencies stable, when the battle is over, we will be the weakest currency out there,” claimed an anonymous Treasury Sergeant, “or we aren’t American dollars.”

“That’s right,” said an unnamed member of the banking special forces. “Look, our way of life is at stake. You gotta do what you gotta do. If the Japanese try to keep the Yen from strengthening, then we’ll just out-print them. They’ve kept their interest rates near 0% for 20+ years. It’s our turn. We’ve saved the banks. Paying nothing on their deposits will help banks become profitable again. Who can argue with that?”

Another commentator noted that, “If the EU thinks that we’ll just roll over and let our currency appreciate, then they don’t know modern America. Sure we’ve got special relationships, but we’ve got a lifestyle to maintain here.”

In past confrontations such as World War II, the US relied upon a vibrant, growing population, superior natural resources, and robust manufacturing and capital markets to outmatch its opponents. Today, it is America’s superior printing presses and the unabashed confidence to use them that has put our global competitors on the run.

Look at the casualties so far: Versus the US dollar, the Yen has appreciated by 13% since May, while the Euro has increased by 17% since June. Even the Polish Zloty has gained 19% during the same period. In short, it’s a rout. No one is really even close. It’s an American triumph. Start the ticker tape (parade).

American success is sparking angry reactions around the globe. Brazil’s President-elect, Dilma Rousseff accused America of recreating the competitive currency devaluation environment that led up to WWII. And according to the Wall Street Journal, German Finance Minister Wolfgang Schlauble claimed that the Federal Reserve is “undermining the credibility of U.S. financial policy. It just doesn’t add up when the Americans accuse the Chinese of currency manipulation and then, with the help of their central bank’s printing presses, artificially lower the value of the dollar.” But one would expect America’s competitors to complain; they are losing the devaluation battle and they know it.

The battle is still in its early stages, but America’s financial generals have made clear their commitment to keeping the US dollar weak and they aren’t going to change course just because it upsets our European allies and global trading partners.

Of course, not everyone is upset. In a moment of candor, one unnamed strategist from a certain middle kingdom commented, “Oh, we complain on the surface, but it is just an act. Imagine if your greatest adversary kept weakening himself on purpose, every day, giving away more control, more power, more influence. Really, you could not dream up such a situation. When the dollar has become too weak, people around the world will look for another currency. And we’ll be waiting. It may be our children, or even our grandchildren, but we’ll be waiting. They may win today’s battle, but we will win the war.”

Next Door

2010-11-05T12:06:00.000-07:00

Two years ago, a homeowner from the former Motor City described watering and mowing the lawn of an abandoned home next door. She hoped to keep out potential trespassers, preserve the value of her home, and maintain some semblance of normalcy in a once-thriving neighborhood. It seemed at the time to be a tale from a distant land, a desperate, broken corner of America where unemployment hovers between 30-50%. An exception.

A few weeks ago, in Denver (unemployment: 8%) a homeowner in one of the city’s newest, most vibrant neighborhoods found himself in a similar situation. Wells Fargo Mortgage had (reluctantly) become the new neighbor after the previous resident left, taking not just the family, but also most of the appliances and fixtures. The abandoned lawn had reached knee-height and the bushes had grown out over the sidewalk. The police had been called at least once regarding suspicious activity. Detroit had arrived next door.

So you mow your neighbor’s yard and trim back their bushes because it must be done and you tell your friends about the phenomenal deal, a house selling for just 60% of its 2006 purchase price. You cringe when the appraisers tell you what they guess your house might be worth and you make peace with realizing that your reliable American mobility is neither. And it’s not all bad, because Denver is not such a bad city in which to be stuck; it’s just strange accepting such a concept.

That’s the easy part.

The hard part comes when you open the paper to find that many Americans have been living rent-free for many months (“The Stealth Stimulus of Defaulters Living for Free,” Wall Street Journal , November 1, 2010). According to LPS Analytics, the average borrower whose home is in the foreclosure process has not made a payment in 16 months. That’s 1.33 years. These borrowers are still living in their homes but not paying to do so. Nationwide, the WSJ estimates that the situation equates to about $2.6 billion per month in rent-free housing. That’s a lot of revenue not being paid by borrowers or received by lenders, many of whom have recently been kept afloat by taxpayers. The situation drives a complex set of new social conditions that raise innumerable questions.

I. Rent-Free Residents
Some find good news in the situation, arguing that perhaps some of that money is enabling people to buy food and other necessaries during a difficult time, or to sock savings away for when they are finally compelled to move out. In truth, no one knows how that money is being spent, but ideally it is indeed buying people some time on meeting basic needs.
· Assuming that several million American families are currently living rent free, what happens when they can no longer do so? Where will they go?
· If the banks are currently subsidizing the living arrangements of these millions, then who will subsidize them going forward when they no longer are allowed to live in the homes? Nonprofit organizations such as Rescue Missions and the Salvation Army that already face capacity and funding constraints? Municipalities already overwhelmed by financial obligations? Friends and relatives already under strain? No one?

II. Banks as Homeowners
Banks now own 1 million homes in the US. Another 5.2 million homes are either in the foreclosure process or at least a few months late on mortgage payments.
· What happens as banks own an ever increasing part of the residential real estate market?
· How might this change their relationship to the communities they serve around the country?
· Assuming that many banks are striving to get these properties off their books as quickly as possible, how does their fire-sale pricing impair the broader housing market?
· Since banks remain a primary source of mortgage financing, what does it mean that they are potentially lending to buyers who seek to buy homes from the bank’s own inventory?
· If there are about 75 million owner occupied homes in the US (US Census, 3Q2010) and somewhere north of 5 million are under severe financial stress so far, then aren’t we farther from the end of this crisis than the beginning?

III. The Paperwork Fiasco
Bank of America now services over 14 million loans, 1.3 million of which are at least 60 days late on mortgage payments (“BofA Tries to Untangle Files,” WSJ, 11/1/10). Regulators and some state Attorneys General, however, have ordered Bank of America and other lenders to review the paperwork on hundreds of thousands of foreclosures already in process, alleging that some paperwork may not be 100% complete due to sloppy record-keeping during the height of the mortgage boom, especially at firms like Countrywide which the Treasury Department “strongly encouraged” Bank of America to acquire at the height of the crisis.
· How will slowing down the foreclosure process delay the healing of the residential real estate market?
· What happens if regulators forbid banks from pursuing a material number of foreclosures and yet residents do not fulfill their mortgage payments? Who litigates that situation? Can the bank still sell the home to recoup its loan?
· What obligation does the resident bear if the resident has no intention of becoming the rightful homeowner?
· Given that homeownership would be in limbo, who pays the municipal taxes? If no one does, how does this compound woes already faced by many municipalities? What recourse do the municipalities have, if any? Whose authority trumps whose—the AG’s office, banking regulators, county court, arbitrators…?

All three of these themes reflect a rapidly and dramatically changing culture of homeownership in America. As a society we are fundamentally altering the relationship between regulators and lenders, lenders and borrowers, and homeowners and their neighbors. No one party is explicitly driving this process; thus no one party can be blamed or held accountable, nor can any one party lead us out of this morass. As is the case with most pandemics, there are many actors involved, each confronted by a set of seemingly insurmountable challenges, and there are many intangibles that defy modeling or regulating.

In every neighborhood, there are good people struggling through these difficult circumstances, people who may not have told their closest friends that they are on the brink of losing their homes. It’s a sobering time.

We agree that there are many critical issues in Washington and in state houses around the country that require addressing, but we would argue that a far more concentrated and concerted effort on the housing crisis from courageous political and banking leaders could do more to turn the mood of Americans than almost anything else. For when a people are unstable in their homes, the rest of their lives are tossed into tumult. Workplaces, schools, neighborhoods, houses of worship—all suffer when people do not have a place. There have always been those amongst us without a home, but the number of those who are no longer secure in their home is higher than it has been in decades.

Printing money will not change the fundamental structural shifts in America’s relationship with our homes, nor restore confidence in an essential element of the American Dream. We need more. We need brave leadership. We need a Midway, an Inchon. We need Washington to cross the Delaware in the dead of winter against all odds to take Trenton. We need a win and we need it to be at home. Or at least next door.

No Better Place, No Better Time

2010-10-28T13:36:00.000-07:00

Last week, a letter in the Wall Street Journal claimed that Americans would be foolish to start a business today because the government has been destroying the incentive to build a successful company. We have heard this refrain in casual conversation and in the context of electioneering.

How odd. We are at a loss to think of a time and place in human history in which there was greater freedom or a better time to start a business, almost any business.

It is important to clarify what is needed to start and grow a business and to be clear where government has the ability to interfere.

Ideas
Entrepreneurs must identify a service or product that is new or distinctive or is to be delivered in a new or distinctive way. Thanks to globalization and the internet, American’s can think and invent across sectors, industries, regions, and delivery modalities in ways that our parents and grandparents could not, regardless of their intelligence. In America, the government cannot and does not limit one’s ideas, though we can do it to ourselves pretty easily.

Work Ethic
To start and build a company requires tremendous determination, the ability to move through adversity, the willingness to invest time and energy and then more of both. Ownership requires a sense of ownership. No government policy can give one a strong work ethic. The hardest working people we know are driven more by intrinsic than extrinsic motivation. (Yes, that recognition represents a key part of the origins of “Syntrinsic.” If we embraced external motivation, our name would be quite different.)

Knowledge
In order to implement one’s idea, it often is necessary to acquire new knowledge about technical or management aspects of the business. America’s education system gets a lot of criticism and much of it deserved; however, at least America as a country does not prevent people from learning what they want or need to know. Someone passively waiting to be given knowledge may struggle, but those who actively seek to learn can take advantage of a social system full of free and low-cost educational opportunities. For generations, the best way to acquire knowledge was through apprenticeship, not in school; that ability to glean on-the-job training from experienced mentors is as robust as ever if one is appropriately motivated.

Good Colleagues
No business succeeds in a vacuum. Partners, employees, vendors, customers, strategic partners, and other stakeholders share in the work via creativity, insight, or simple sweat equity. In America, entrepreneurs can seek out and find the people they need from around the globe, and in America people can take the risk of joining something new or innovative or both. We are not constrained by government in who we can hire nor are those who seek work constrained by government in seeking employment. America does not force children to choose professions in early adolescence as many developed countries do. We have the opportunity to invent and reinvent ourselves many times over.

Rule of Law
Volumes have been written about the critical role that that the rule of law plays in creating a healthy climate for constructive capitalism (see: The Mystery of Capital, Hernando De Soto, Basic Books, 2000). While we do not all agree on specific laws or even how many laws there should be, we do live in a country governed by law and with largely disinterested courts and other intermediaries to help officiate the application of law.

Access to Capital
While it has been difficult to borrow money from traditional banks over the past 2+ years, there remain many individuals and organizations that possess capital and are willing to invest in those with compelling business plans. Government may not go out of its way to make it easy for an entrepreneur to secure funds for an idea, but nor does government step in the way to prevent access. If you want to borrow against your credit card or home you can, provided the lender on the other side is interested. If you want to borrow from private or institutional investors the government will not prevent you from doing so. That may seem simple but it means the world.

Many other factors contribute to entrepreneurial opportunity, including civil society, transportation infrastructure, accessible telecommunications, absence of corruption, and healthy demographic trends. No combinations of factors ensure success of an individual entrepreneur, but taken together, they do create a climate where society-wide entrepreneurial success is highly likely.

The challenge of course, is that these factors must be protected vigilantly. Success can easily breed complacency. Just because America has been a richly innovative society since before its founding does not mean that it must remain so.

At a policy level, government can take many steps that simply make it harder to start a business:

· Diminish some of the incentive for working hard by making the work too onerous (e.g. regulatory overkill) or reducing the potential rewards of success (e.g. onerous tax policy).

· Make it scary or difficult to hire people by: mandating salary and benefits (including employment taxes) that are beyond what employers are able/willing to pay; mandating whom one can hire by gender, nationality, race, or other socio-political factors; making it easy not to work; or by making it difficult to remove people from employment.

· Demonize businesspeople.

· Threaten the Rule of Law by creating uncertainty about the application of laws already on the books. Recent examples include displacement of secured bond holders (Chrysler), interference with foreclosures, and protection of certain failed institutions (while allowing others in the same industry to crash). When one earns a reputation for changing the rules in the middle of the game, one makes it harder to get people to play again.

· Mandate allocations of capital. All capital controlled by the government was private capital first. Thus, any time that the government requires that a government agency allocate capital in a way that does not make economic sense or any time that the government mandates private corporations or individuals to allocate capital in a certain way, the risk is run that capital will not be available for otherwise meritorious ideas

That said, we do not think that government is the main problem today. That’s a highly unpopular thing to say in this political environment, but stay with us for a moment.

Ultimately, American government reflects American culture, and we’re more concerned with the latter than the former. We are not so sure American culture understands or is excited about entrepreneurship in the manner necessary to go forward effectively. The factors most necessary to start a business today—great ideas, work ethic, innovation, courage, leadership, collaboration—these are not controlled or materially limited by the government. These factors are our responsibility as individuals, as citizens.

It is easy to bash government from all sides of the aisles, and there is a place for it perhaps. More importantly however, our economy will only thrive—and our society prosper—so long as there are people with good ideas who possess the work ethic, skill, and tenacity to bring those ideas to life.

There’s been no finer place to start a business than America. If not now, when?

American Parent

2010-10-15T18:50:00.000-07:00

We often wonder what it might be like to be a parent in different locations or points in time. Take Gaza for example. Set aside any political or religious differences as best you can. Imagine for a moment being a mother or father (or other caregiver) trying to raise a family in Gaza City, striving to be thoughtful, dutiful, and loving. Imagine trying to get access to a home in a safe neighborhood. Imagine trying to secure a job where you can do something meaningful that enables you to support your family. Imagine your daughter heading out in the evening in search of clean water. Imagine your son negotiating the life or death choices between Fatah and Hamas.

Now step away from Gaza. Imagine being a parent in Darfur or Congo where roving gangs can destroy everything precious in a few random moments. How about raising a family in the slums of Mumbai or Nairobi, where a type of poverty thrives of which it is difficult for modern Americans to even conceive? What steps would you take if you lived in Iran or North Korea and wanted to create a better future for your friends, neighbors and descendants? Would you protest and thus risk a grisly prison term or midnight execution? Would you keep your head down and stay out of trouble? Picture yourself in Guatemala or Oaxaca, knowing that there is no way you can feed your family through subsistence farming and no way to change that except by leaving.

As American children begin to learn of abject poverty and injustice around the world, they reasonably ask, “Why don’t they just move?” as if that response was so obvious. When an adult American steps into the shoes of a person struggling against deeply engrained economic despair, political abuse, or cultural and religious intolerance, it is natural in many cases to think of how we might fight back; yet, in so many situations the best response for a reasonable person would be to leave and seek a better life elsewhere.

Those whose ancestors came to America by choice came here in search of better conditions, whether they came from the potato farms of Ireland, the shtetls of the Ukraine, or the rice paddies of Cambodia. Political, economic, and religious freedom have driven people to our shores since long before we crafted a Constitution or used it to justify the creation of the US Bureau of Citizenship and Immigration.

That sense of mobility also has driven Americans internally ever since Roger Williams left Massachusetts Colony for the relative religious freedom of Rhode Island and Providence Plantations. Gold-seekers and fur trappers pressed the boundaries of America westward. Okies streamed west in droves from their repossessed and soil-depleted Dust Bowl farms, fleeing one way of life and creating another. Black Americans who were free but disenfranchised streamed north to Chicago, Detroit, Philadelphia; more recently, many have moved back south to Charlotte, Atlanta, Houston and points in between.

While the pressures on families in America and around the world remain intense, human mobility is complicated by two trends that often arise in times dominated by fear and uncertainty.

1. Immigration
The developed world—which on a relative basis remains far wealthier and healthier per capita than developing or undeveloped societies—has increased its aversion to those seeking opportunity in their countries. Sure, some desired changes in immigration policy and its enforcement are based on a firm belief in law enforcement for its own sake, but one has to wonder if that is truly the motive across the board. Roma being kicked out of France, North Africans refused entry into Italy, Zimbabweans rounded up in South Africa, and potential immigrants from Mexico and places south being told that they are no longer welcome here because their immigrant culture undermines what makes America America, a common refrain used in other times of economic crisis to keep out the Scots, Irish, French, Italians, Poles, Jews, Cubans, Haitians, Russians, Iraqis and Afghanis, as well as many other families from around the globe.

2. Housing
It has become much harder for Americans to move internally to seek a better life. With 25% of Americans in homes that carry loans greater than the home’s current market value, the math of moving is not compelling or even possible for many. With suddenly risk-averse banks curtailing their lending activity, who is there to financially support the risk inherent in leaving one place and going to another even when a new job is in the offing? If Americans cannot create sufficient opportunity where they are because of oppressive social conditions and they can no longer move in search of opportunity, then what have we become? It’s not just about housing.

Political debate around the immigration and housing crises would be better informed if more of the actors in those discussions possessed empathy for those impacted most personally by these situations, if they had developed a better sense of the true personal and social ramifications of the ideas that they espouse. For us to remain human in the true sense of the word, we must possess the ability to stand in another person’s shoes—whether a refugee mother in Darfur or an unemployed dad in Detroit.

Imagining life as a parent from somewhere else will not make solving humanity’s problems any easier (indeed, it may make them more difficult because we will know more), but it will help us keep those problems human-scale. It is hard to get people inspired about raising GDP; it is easier to motivate them to seek to provide a better life for the people they care about most.

Somewhere in the world right now, there is an adult in a small village without clean water, without a school, without police who serve and protect, and that adult is wondering, perhaps wistfully, “What would it be like to be a parent in America, that land of wealth and promise and opportunity?”

Let’s hope that America long remains the type of place that people dream about, and let’s make the hard decisions necessary to keep America worthy of their dreams.

On the Cattle Trail

2010-10-08T10:54:00.000-07:00

In Colorado, a conversation with a stranger can quickly turn into a nostalgic journey, particularly when speaking with someone whose family has been in the area for at least three generations. If so, then there is a good likelihood that you’ll end up discussing cattle—stockyards, cattle trading, ranching, slaughter houses, packing houses and the like. For whether their family came here to escape the politics of colonial Mexico, tuberculosis on the east coast, or pogroms in eastern Europe, whether they were drawn by the opportunity of a vast new state or simply got sidetracked on their way to California, there’s a good likelihood that they ended up participating in or otherwise experiencing the cattle business.

In most cases, that cattle-driven conversation would be a nostalgic one set in places that don’t exist anymore, or certainly not in the same way. It would describe ranches once owned by families that were set on the windswept high plains of eastern Colorado, in the stunning San Luis Valley that is in so many ways closer to New Mexico than to metropolitan Denver, and scattered across the Western Slope around Delta and Montrose. Many of these ranches still exist and some still function as such. But many are now barren, or have been sold to a major agricultural conglomerate, or have even become retirement communities complete with golf courses and shopping centers.

The remembrances would be set in the years prior to the early 1980s, in Commerce City or Greeley or Longmont where smallish family owned businesses raised cattle, traded them, slaughtered them, butchered the sides and packaged them into filets, tenderloins, rib-eye, skirts, and even bacon and sausage, and transported them by truck, rail, and ship across the country and around the world.

Those small family owned businesses are few and far between now. Some were forced to close due to volatility in cattle prices and union demands, others were snatched up by regional corporations, then national and multinational powerhouses. A handful still operate in a modest form but are sustained financially by other professions or businesses with steadier, more significant income. Those that remain in operation most effectively tend to be far from the urban centers of the Front Range

Clues to the former trade abound, but you have to be looking. The drive along I-70 into downtown Denver from our International Airport takes one past the former stockyards, though plenty of people drive that route every day without noticing the history whizzing past the windows or even knowing to look. It would be hard now to envision the area formerly teeming with thousands of heads of cattle coming and going on the many train tracks that connect Denver to Omaha, Kansas City, Oklahoma City, and Chicago.

A few blocks to the east of the stockyards, former slaughter houses and packing houses congregate along Washington Street, quiet now. No bellowing from the cattle being unloaded from trucks, no banter in the parking lots between hard-working men in white coats red with blood. Some buildings have fallen down, others remain empty, still others have become offices, warehouses, and at least one laser tag facility.

While every January thousands of people still travel from across the plains to participate in the National Western Stock Show, one can—and most do—remain ensconced in the urban core and suburban neighborhoods and never be touched by what likely appears to many to be a relic of the past or a quaint tribute to rural life. Even though beef is on nearly every menu in town and in every grocery store, it is hard for many to believe that there are still families—real people living real lives—who get up every morning to raise cattle, breed them, care for them, and bring them to market, albeit a market that is now much farther from where most people live and work.

And while some remain deeply connected to the cattle business, most of the children, grandchildren, and great grandchildren of those who once built and lead this dynamic, rich, and vital part of our culture live largely in a different world. They are consultants and investment advisers, real estate agents and nonprofit leaders. They are in manufacturing and energy and technology. While a fortunate few maintain some connection to this former world, most people know it mostly as a story, one often collecting dust on the shelves because it has not been recently told.

America’s bookshelves are populated with stories such as this. The Western Pennsylvania story of steel mills lining the Allegheny, Monongahela, and Ohio Rivers, drawing immigrants from across Europe and helping build America’s bridges, cars and skyscrapers. The Oregon story of wood lots and timber mills producing the lumber that houses families across America and even a few in Japan. The family dairies of Wisconsin that were financially viable for generations until the world changed and the economics shifted and so many were forced to close and create a new life.

America was born by people seeking to change their lives. It is and always has been a tumultuous country. One generation comes here because it is possible to build a life here, to start an industry, a company and to pass it along to future generations. Yet that same vitality has a destructive quality as well. For the very forces that enable one to start a packing house, a steel mill, a timber mill, a dairy farm, make it challenging for others to sustain it over time. All of the stories referenced above—Colorado, Oregon, Pennsylvania, Wisconsin—reached their denouements in the early 1980s. These are not journeys into ancient history, nor are they exceptions.

As difficult as many find this time in history—whether one calls it the Great Recession or the Great Deleveraging or simply shrugs and looks worn out—America has been here before many times. It is a time of reinvention, a time where elements of life that we thought were timeless (e.g. housing appreciates at 10-20% per year) have proven not to be.

So long as we believe that new stories can be written and so long as we maintain policies that enable them to be written, then we should be all right. If, however, we no longer believe that we have the power to create new stories, if the personal and social will to create are gone, it does not matter who we elect or what they do in office.

Better that we look forward to creating the stories our grandchildren will tell than lament the passing of those that already have been told.

Guiding Principles for Effective Stewards

2010-10-01T07:24:00.000-07:00

The libertarian in us would like to believe that all industries—including the nonprofit sector—can reliably self-regulate. In our regard for individual responsibility, we expect that organizations should have the insightful leadership, altruistic ideals, and financial security necessary to control behaviors which most deem to be unethical. Our freedom loving selves believe that organizations can and will conduct themselves in a manner which betters society through the pursuit of enlightened organizational self-interest.

The federalist in us would like to believe that the US government—through its statues, regulations, and agencies—provides for-profit and nonprofit organizations with a mature, thoughtful guiding hand. We expect that government crafts a legal framework in which competent agents of the state clearly define and reward appropriate behavior, thereby effectively balancing the tension between social good and individual freedoms.

However, neither our libertarian nor our federalist extremes live in the real world where the nonprofit sector and investment industry meet. Both nonprofits and investment professionals struggle mightily to define appropriate behavior and best practices in the absence of clear, definitive legal or cultural guidance. One can reference the Uniform Prudent Management of Institutional Funds Act (UPMIFA) but it does not define how to be a responsible steward. The SEC, FINRA, and other investment regulatory bodies issue many regulations yet leave an extensive gray area where definitions of “ethical,” “suitable,” and “appropriate,” vary considerably.

Even though the intersection where the nonprofit sector and investment industries meet is clear, too many nonprofit organizations perceive their finances as isolated from their mission and program. This perceived division between social and financial is common in the nonprofit world, yet false. Sustainable change requires prudent stewardship. For nonprofit organizations, programmatic mission and finance are interdependent, not mutually exclusive.

In our experience, the separation stems from those nonprofit leaders who see money as a necessary evil rather than as a necessary good. They did not get in the nonprofit business because they cared about money and so approach it reluctantly and perhaps even with animosity. If they see capitalism as a source of poverty rather than as a source of potential enrichment, then the situation is all the more difficult. This difference in perspective is profound and explains in part why so many nonprofits with inspiring missions and phenomenal programs do a poor job of managing the financial resources in which they have been entrusted. Ultimately, they are forced to constrain their programming and limit their long-term impact.

With this in mind, Syntrinsic has crafted the following seven Guiding Principles for Effective Stewards. Our hope is that the Boards and staffs of more and more nonprofit organizations will embrace these Principles and improve the practice of nonprofit stewardship.

Guiding Principles for Effective Stewards of Nonprofit Financial Resources:

1. We strive to make the most effective use of the financial resources to which we have been entrusted by the broader community.

2. We conduct financial affairs in a manner that is transparent and that avoids taking any action which may be perceived as self-dealing or otherwise conflicted.

3. We demand that our financial advisors also conduct their business in a manner consistent with our Guiding Principles.

4. We dedicate the time and energy necessary to develop, implement, and monitor the strategy for prudently managing our organization’s finances.

5. We ensure that our board members, committee members and senior staff understand and fulfill their responsibilities as they relate to financial management and oversight.

6. We integrate our financial management into our overall strategic planning so that our mission and our stewardship are aligned.

7. We promote effective stewardship throughout our organization and amongst our stakeholders, vendors, and other strategic partners.

Those who have spent considerable time in the nonprofit sector know that many organizations would have difficulty enacting these Principles in a meaningful way. Those who are steeped in the investment industry know that some of these principles directly conflict with common industry practices (e.g. transparency, conflicted relationships, etc.).

We are not naïve. Posting these Principles will not cause radical change to sweep through the nonprofit community making prudent stewardship a primary driving force in nonprofit decision making. Nor are we jaded. There are phenomenal professionals and volunteers who already shepherd nonprofit resources in an exemplary manner.

At the end of the day, our hope is that those who serve and support nonprofit organizations will set the highest standards of fiscal stewardship regardless of the decisions of nonprofit and financial market regulators. In so doing, these organizations will better be able to feed, shelter, educate, protect, guide, and empower those most in need. That would be something both libertarians and federalists could celebrate.

For Loan Oft Loses Both Itself and Friend

2010-09-24T11:24:00.000-07:00

Many of us first encountered the word “covenant” in the Old Testament story of the bond forged between God and Abraham and his descendants. In the context of faith, “covenant” conveys a mutual commitment of the most intimate sort.

Later in life, we encounter “covenant” in its more secular context when we take out a mortgage to buy a home, establish a line of credit to launch or grow a business, or in other realms in which we accept the status of borrower or lender. In such relationships, the covenants have come to mean the formal terms of the relationship, the metrics to which parties are to be held accountable, the conditions to which both parties are bound, and the consequences for violating those terms.

Perhaps more important than these formal agreements have long been the informal covenants between lenders and borrowers, that is, the societal expectations that supersede those drawn up by legal compact.

Think about the word “bond” for a moment. We use it to describe a security now, but what is it really? When investors buy bonds, they really are loaning money to a country (United States Treasury), a company (General Electric), or municipality (Los Angeles Public Schools). They also might be loaning money to a pool of credit card holders, a pool of mortgage holders, a pool of churches, or other borrowers. This use of the term “bond” is no accident, for the security represents a literal binding between lender and borrower, the forging of a relationship of mutual trust, confidence, and respect that provides assurance to both parties.

Over time, social convention has defined that bond or relationship between borrowers and lenders: A lender will not change the terms of the loan outside of parameters agreed upon in advance; a borrower will repay the lender in a timely fashion as promised; the lender will receive the rights commensurate with the lender’s position in the capital structure (secured, unsecured, senior, junior, etc.); the borrower will conduct itself with due care and loyalty to the lender at least until the borrower has fulfilled is obligations. In this social framework, the lender-borrower relationship remains built on the premise that loans are bonds and that covenants are sacred. But is that framework still operating?

Modern securities markets are such that lenders and borrowers rarely know each other. In the vast majority of cases, the lender knows neither why the borrower wants or needs the money nor how the money will be used. Instead, many lenders rely on a credit rating, yield, and maturity to ascertain whether the borrower is worthy. Likewise, the borrower rarely knows the lender. A municipality raises funds from thousands of faceless lenders located across the municipality and many living outside of it. The corporation borrows money from lenders seeking yield and some level of safety but who may have no other investment in the success of the corporation.

This evolution of the borrower-lender relationship from a true bond to one that is largely detached from a sense of mutual obligation is causing some intriguing and troubling events. In Harrisburg, capital of Pennsylvania, Mayor Linda Thompson is faced with a choice of maintaining city services or paying the city’s lenders (aka bondholders). For her, the choice is clear: do not cut services. According to the Wall Street Journal (“Harrisburg Surrender,” 9/8/10), Ms. Thompson said, "To disrupt [services] because we can't make a bond payment would just be unconscionable. And as a leader I couldn't do it," To her credit, she also is concerned about scaring off bond investors, recognizing that to do so would impact a critical source of financing.

A similar tough choice is faced by Michael Thomas, a leader of the Pequot tribe in Connecticut, owners of one of the world’s largest casinos at Foxwoods: Pay dividends to tribal members from Foxwoods’ revenues versus pay bondholders who have lent money to build Foxwoods. (WSJ, “Tribe’s Roll of Dice Rattles Lenders,” 9/17/10) The Pequot and other Indian tribes are in a privileged position for now because as sovereign nations, they can’t be forced into bankruptcy, and even if they declared it, their lenders would not be allowed to operate casinos on reservations. That said, the casino business will suffer greatly if by stiffing current lenders, the pool of future lenders dries up.

Ms. Thompson and Mr. Thomas are not alone in this dilemma. Municipal borrowing (states and cities) has grown from $1 Trillion in 1990 to $2.4 Trillion in 2010, an increase of 140% over 20 years. Not evident in these numbers is the concurrent sharp increase in unfunded or underfunded pension and health care obligations municipalities have accepted. These commitments paired with a sharp decline in tax revenues have converged to confront municipalities with multi-horned dilemmas of epic proportions: Pay underfunded pensions versus support public education versus build infrastructure versus support unemployed citizens versus pay secured lenders versus maintain vital emergency services versus raise taxes versus encourage new business investment versus get reelected versus…

An early sign of the current economic crisis occurred when banks stopped lending to each other following BNP Paribas’s announcement that it could not adequately value the loans on its books. The overnight interbank lending rate spiked and the crisis of confidence began. Soon after, investment banks stopped supporting the auction rate market, another marketplace where lenders and borrowers met to support each other’s interests. The municipal bond market experienced its greatest shock since the 1860s. These events occurred in late 2007 and early 2008, well before the escalated fears of municipal defaults, declining tax revenues, and unfunded pension obligations, and before the failures or near failures of Bear Stearns, Washington Mutual, Lehman Brothers, AIG, Merrill Lynch, General Motors, Wachovia, Goldman Sachs…you get the idea.

So where are we today? We all operate with an investment marketplace driven by computer algorithms and high frequency trading, an investment industry populated with countless exchanges, traders, product engineers, and money managers, a regulatory framework with agencies possessing complex mandates without rationalizing guidance to address conflicts like those described above, and a global pool of millions of borrowers and lenders striving to make the most effective decisions for themselves every day.

Despite these complexities and technological innovations, at the end of the day, we have borrowers and lenders who desire confidence in the larger system and in their relationships with each other. For all of our wizardry, those who lend and borrow want to have the assurance that comes from relationships built on a shared commitment to each other.

America is at a crossroads in so many ways, and the most difficult of our collective economic decisions still lie ahead of us. Before we further diminish the sanctity of the relationship between borrower and lender, we need to recognize how doing so irrevocably impacts our culture. This is not a time to say that our social contracts do not matter because they force difficult choices; this is a time to make difficult choices precisely because our social contracts are what bind us.

Beware the Financial-Industrial Complex

2010-09-09T10:27:00.000-07:00

Three days before the end of his term as President, Dwight D. Eisenhower—Republican, architect of D-Day, and senior military officer for the United States in the closing years of WWII—gave the American people his parting thanks and a stern warning about the growing interdependence of the Federal government and what he described as the “military industrial complex.” He said in part:

“This conjunction of an immense military establishment and a large arms industry is new in the American experience. The total influence -- economic, political, even spiritual -- is felt in every city, every State house, every office of the Federal government. We recognize the imperative need for this development. Yet we must not fail to comprehend its grave implications. Our toil, resources and livelihood are all involved; so is the very structure of our society.

In the councils of government, we must guard against the acquisition of unwarranted influence, whether sought or unsought, by the military industrial complex. The potential for the disastrous rise of misplaced power exists and will persist.”

While we lack the bully pulpit and gravitas of a departing president, we would like to issue a similar warning about our society’s changing relationship with financial services. We ask you to reread Eisenhower’s passage above, substituting “financial” wherever you see a reference to “military.” It would start, “This conjunction of an immense financial establishment and a large finance industry is new in the American experience. The total influence—economic, political, even spiritual—is felt in every city, every State house, every office of the Federal government…” And so on.

Is this overstating matters? Consider that the financial services industry spent over $5 billion on campaign contributions and lobbyists in the decade leading up to the financial crisis, that by 2007, nearly 3,000 lobbyists represented the industry in Washington, and that the cost of bailout, stimulus, TARP and other recent programs stands at over $3 trillion. From 1998-2008, campaign contributions from the financial sector rose by 185% to $443 million while lobby expenditures grew by 117% to $455 million. Meanwhile, the Standard and Poor 500 fell by 13%.

It is important for all Americans to acknowledge that the political contributions and policy missteps (deliberate or well-intentioned) occurred under both Democratic and Republican leadership reflecting the near-even split in political contributions from banks, securities firms and insurance companies. (See: “Sold Out” http://www.wallstreetwatch.org/) This is not one party’s problem.

People could give in to cynicism, chuckle at the irony of financial reform being named after Barney Frank and Chris Dodd, stare in amazement at political candidates who claim to represent the “regular folks” yet are funded by those who exploit their ignorance of finance, shake their heads when government officials promote annuity sales as the basis for retirement planning, and marvel that so little has changed structurally in how investments are crafted, regulated and sold. But that would be a weak response, a concession not worthy of those who are aware of these problems and can potentially influence their successful resolution.

Eisenhower, too, could easily have succumbed to cynicism in his farewell message; however, his next paragraph admonished Americans to be more vigilant. He stated that,

“We must never let the weight of this combination endanger our liberties or democratic processes. We should take nothing for granted. Only an alert and knowledgeable citizenry can compel the proper meshing of the huge industrial and military machinery of defense with our peaceful methods and goals, so that security and liberty may prosper together.”

So let’s imagine for a moment that we share a similar goal with regards to the relationship between American society and financial services. What would it take for us to more effectively “compel the proper meshing of the huge (machinery of finance) with our peaceful methods and goals, so that security and liberty may prosper together?”

While the question deserves a more comprehensive review of cultural, regulatory, and operational changes, there are some low-hanging fruit that are ripe for the picking that do not necessarily require Washington’s acquiescence.

· Create much clearer and more restrictive policies regarding how past and present senior officers and directors of major banks, broker-dealers, and insurers can serve in positions of authority or influence at the Federal Reserve Bank, in the US Department of the Treasury, the OCC, FDIC, SEC, and other regulatory agencies or offices, state or federal. Obviously, these policies would need to flow both ways. The argument that their “talent” is invaluable has been sufficiently disproven by those who have crossed over previously and failed massively in their economic judgment if not their political adroitness. If enough voters express enough frustration when conflicted appointments are made, fewer will be made.

· Stem the consolidation of financial power in a few financial institutions that have become increasingly dependent on government largess to support their operations. Antitrust or banking regulators could carry this out; in the meantime, consumers decide where to conduct business.

· Support community banks and credit unions that are imbedded in the local community, are more likely to return profits to the community, support FDIC, and are of a more human scale.

· Eliminate the conflicted relationships between broker-dealers and money managers that materially increase costs to investors in a manner that lacks transparency. Rather than waiting for the SEC to take action, consumers can refuse to do business with conflicted professionals.

· Create a fiduciary standard for anyone involved in the manufacture, promotion, or distribution of financial products. That is, require that every financial professional in the supply chain of investment product creation and distribution demonstrates the highest ethical standards and always prioritizes the loyalty and care due to the end client, be it a retired couple, a pension plan, or a municipality. This does not mean that every investment must work perfectly, but that every investment product must be crafted and marketed with the intent of benefitting the end investor—even insurance products. We demand similar accountability in most other industries; finance is largely exempt.

· Reward politicians who refuse to accept money from financial corporations that do business in manner that is conflicted with the best interests of their customers.

Eisenhower’s words of warning resonated and surprised because he had tremendous credibility when it came to military matters. He was an insider. He had seen the evolution of the US military from 1941 to 1961 and—right or wrong—he did not like what he saw.

Financial Services lacks such a powerful figurehead. There is no one voice that can stand up in Washington DC with the credibility of an Eisenhower to warn against the corruption of finance and government. Because of that vacuum, it becomes all the more important that citizens, consumers, and voters of all persuasions express their sentiment in their actions to the best degree they can.

Pogo once said, “We have met the enemy and he is us.” What Pogo forgot to mention is that, “We have met our allies, and they are us, too.”

My Kingdom for a Treasurer!

2010-09-02T10:40:00.000-07:00

In a literary reference often overlooked by high school English teachers, Shakespeare’s King Richard called out “A Treasurer! A Treasurer! My Kingdom for a Treasurer!” just moments before he lost his horse. Alas, he had neither reliable Treasurer nor brave horse and thus lost his kingdom. Let’s hope we do better.

In the coming months, voters around the country will select governors, senators, and congressmen. We will vote on controversial amendments and propositions. Further “down ballot” most of us will find elections for school boards, judges, university regents, attorneys general, and the little known and even lesser understood office of municipal treasurer.

Treasurers of municipal districts (states, cities, counties, etc.) are an underappreciated lot. Given their intense responsibilities, they also are under-scrutinized by voters and the media, and in too many cases under-qualified or under-resourced. Cynics might argue that the Treasurer’s office is nothing more than a political stepping stone to the greater glories of mayoralty or governorship or a chance to pocket some spare change from vendors of various stripes.

However, we believe that electing someone to serve as caretaker of the community’s purse is one of the most vital decisions voters can make and one worthy of the most thoughtful consideration. Syntrinsic has crafted a generic job posting for Municipal Treasurer in an effort to capture a sense of the arduous and often thankless task faced by the keepers of the purse strings.

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For Immediate Posting: Municipal Treasurer

The Municipality of [Insert locale here] seeks a Treasurer who possesses the judgment of King Solomon, the courage of King Arthur, the compassion of Mother Theresa, and the communication skills and media savvy of Oprah Winfrey.

Responsibilities
The following responsibilities are to be completed in full, without exception, every day, even during election cycles, with limited staff, without undue influence caused by partisanship, media hype, special interest pressure, kickbacks, traveling salesmen, or CNBC:

· Renegotiate unrealistic pension obligations made by previous administrations. Do so without causing taxpayer revolt, regional strikes, or municipal bankruptcy. Honor the sanctity of contracts while modifying them.

· Unwind illiquid derivative contracts with obscure counterparties without negatively impacting the balance sheet or attracting the attention of credit rating agencies, the press, voters, regulators, or former municipal employees whose jobs were cut to pay for the failed investments.

· Vet the fiscal health and ethical business practices of all financial institutions with whom the municipality does business, including custodians, bond issuers, credit providers, money fund issuers, bond traders, investment banks, broker-dealers, consultants, insurance underwriters, banks Pension Plan platforms, money managers, research providers, technology vendors, and other assorted financial partners.

· Assist in evaluating how the municipality can take on greater regulatory oversight for financial institutions and finance professionals within your jurisdiction, given changes in the national regulatory landscape.

· Improve education by cutting education spending. Stimulate the economy by raising taxes on businesses. Encourage employment by increasing the cost of hiring new employees. Identify other contradictions and address them with grace and composure.

· Predict the future.

Skills
Eligible candidates should be able to demonstrate the following skills and traits:
· Fearlessness
· A wonkish delight in policy balanced by a disdain for wonkishness
· Healthy skepticism
· Hope and faith
· The ability to make impossible choices
· The ability to make sure that no one blames you for the impossible choices you have made so that you can stay in office and make more of them
· The ability to travel to distant regions, meet new people, and persuade them to entrust you with their money
· Offend and inconvenience no one
· Persuade most everyone to share the burden and feel good about it
· Stay out of the press, but keep citizens informed
· Be transparent, but don’t cause a panic
· Make wise long-term decisions without the next election distracting you
· Raise money. (For yourself. It costs a lot to be a Treasurer these days.)

Final Consideration
For those uncertain if they might be suitable candidates, we have found that effective municipal Treasurers often have backgrounds as alchemists, nuclear weapons inspectors, HazMat crew chiefs, and Supreme Court justices. Mortals need not apply.

Please forward cover letter, resume, and glitzy promotional video to the address below. We will review your materials as soon as we can afford to rehire our elections staff. They were laid-off after one of our structured notes failed to protect the municipality’s principal. The lawyers tell us that the prospectus had said that might happen but…well, you know.

Attention: Candidates for Treasurer, State of Distress, One Long Road, Capital City, USA
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Giving Credit Where Credit Is Due

2010-08-27T08:00:00.000-07:00

In 1985, a visitor to China strolling about Beijing or Shanghai could expect to see in a day perhaps 10-20 cars struggling to make their way through a phalanx of bicycles and streaming rivers of pedestrians. Now Beijing struggles with almost perpetual traffic jams involving tens of thousands of vehicles that may be stranded on the highway for days—even weeks.

Situations like this make statisticians salivate. How intriguing, they think, to understand these jams. Are they random? Are there causal factors that can be identified and even managed? In short, what is happening? We can’t help but ask similar questions, not about cars in China, but about leverage in America.

1. Why can’t we return to the stock market growth rates of the 1980s, 1990’s, and into 2007?
While we would like to think that stock market growth during those nearly 30 years was primarily due to productivity gains, technological innovation, and good ol’ American know-how, we think that much of that stock market growth was due to the massive increase in our country’s leverage at the exact same time. Heresy? Perhaps. But if we are correct, then investors need to rethink expectations for stocks going forward.

Chart I below compares the growth of the S&P 500 (large US company stocks) to the growth of Public Debt (Federal), Consumer Credit, and Mortgage Debt from January 1976 to June 2010. Syntrinsic has added a “Smoothed S&P 500” line that mitigates the volatility of the S&P from 1994 to the present, so we can better see the general S&P 500 trend excluding extreme market noise.

Source: Treasury Direct, Federal Reserve, Bureau of Economic Analysis

The Debt is almost perfectly correlated to the Smoothed S&P 500, with correlation between them of 0.99. It could be coincidence, but we think such a strong relationship indicates something more important. While there has been a lot of noise over the past 35 years (fall of USSR, emergence of internet, rise of China, rise and stagnation of Japan, NASDAQ bubble, 9/11, Iraq, Afghanistan, housing crisis, etc.), leverage is a prime suspect in driving stock market growth during this period.

Just to emphasize how much our country was increasing its use of borrowed money, during this period leverage grew at a rate of 4.8 times the concurrent rate of inflation.

Based on the relative growth of Debt and the S&P 500 during this period, the Debt could be responsible for 50 - 60% of the stock market’s increase. If we were to factor in growth in municipal and corporate debt, the role of leverage would be dramatically higher.

2. But wasn’t our strong stock market of 1981-2007 due more to robust domestic growth than to leverage?
We wish that it were so; however, we think that domestic growth had a less significant impact than the increase in leverage. Chart II below compares the growth of the S&P 500 to the growth of America’s Gross Domestic Product (“GDP”). GDP is an imperfect measure of the economy, but it is the most comprehensive imperfect measure we have. Importantly, it includes much of the growth due to the increase in real estate values.

As with leverage, the smoothed stock market grew as GDP grew with a correlation of 0.99, (remember, perfect correlation is 1.00). However, the stock market grew 3.7 times faster than GDP grew during that period. Accepting that the correlation metric means something, then it would seem GDP is responsible for about 25% of the stock market’s growth. When we factor in the erosive effect of inflation, then the GDP growth rate falls to about 2.5% per year and GDP’s role in stock market growth drops below 10%.

The information below summarizes the annualized returns of these measures. Note that the sum of the annualized growth of Real GDP (Nominal GDP less CPI) and Public, Consumer, Mortgage Debt is quite close to the annualized growth of the S&P 500 (11.41% v. 10.66% per year); unfortunately, Debt represents over 78% of that sum.

Annualized Growth (Jan 1976 – June 2010)
S&P 500 = 10.66%
Public, Consumer, Mortgage Debt = 8.91%
Nominal GDP Growth = 6.55%
Inflation (CPI) = 4.05%

3. But aren’t we in a Great Deleveraging?
Nearly two years ago we wrote that we were in the midst of a Great Deleveraging, that it was time to rise up and spend down our lavish ways, unwind our collective exposure, and get back to basics—or something like that. Indeed, consumers have stopped increasing our leverage. Since the end of 2007, consumer credit has been stalled out at around $2.5 Trillion and Mortgage Debt has been stuck at about $14.5Trillion.

However, since December 2007 we have grown our country’s Public Debt from $9.2 to $13.2 Trillion, thus increasing the sum of our Public, Consumer and Mortgage debt from $26.3 Trillion at the end of 2007 to just shy of $30 Trillion as of June 2010. In short, we are not in a Great Deleveraging.

4. But if we are continuing to increase our leverage, then why is the stock market still about 25% below where it was in October 2007?
There are many reasons, but let’s consider investor sentiment and the how our leverage has been growing. Assume that 2008 was a shock to most investors and that people generally become more wary of the role of leverage. Certainly, there emerged for many an appreciation for the critical role that consumer credit and mortgage credit had played in America’s historically robust growth during this period.

But that is not the kind of debt we have been increasing; we have only been increasing our public debt. Increasing public debt at such massive levels has been sparking worry and fear, not consumer or investor confidence. Whether you embrace Keynes or Hayek, and whether or not you think the investing public is intelligent, investors are signaling their generalized anxiety about the potential affect of borrowing and printing more money. Thus, unless something enables consumer or mortgage borrowing to reengage, it is hard to see what would cause the market to rise materially.

Soon after news of Beijing’s traffic jam hit the international press, China’s state controlled media reported that the massive gridlock had mysteriously disappeared. Headline changed—problem (apparently) solved. Ah, that it would be so easy to solve an intractable transportation problem or to address our economic challenges. But just as the Chinese must at some point face up to a legacy of poor urban planning, corrupt officials, and a dishonest media, we in America must at some point look at our economy with more realistic eyes and not fool ourselves into believing in past economic glories or some sort of perpetual economic superiority.

It’s difficult to realize that what we had thought was a golden age economically was perhaps just a period of decent growth consistent with historic norms but juiced by leverage. But that realization should serve us better going forward than pretending otherwise.

Creating Something Better

2010-08-22T20:34:00.000-07:00

A few weeks ago, political commentator and former Reagan speechwriter, Peggy Noonan, joined the chorus of those questioning whether the current generation leading America will leave America’s children something better. In her August 7, 2010 Wall Street Journal column, Noonan writes,

“The biggest political change in my lifetime is that Americans no longer assume that their children will have it better than they did. This is a huge break with the past, with assumptions and traditions that shaped us…The country I was born into was a country that had existed steadily, for almost two centuries, as a nation in which everyone thought—wherever they were from, whatever their circumstances—that their children would have better lives than they did. That was what kept people pulling their boots on in the morning after the first weary pause: My kids will have it better. They'll be richer or more educated, they'll have a better job or a better house, they'll take a step up in terms of rank, class or status…Parents now fear something has stopped…they look around, follow the political stories and debates, and deep down they think their children will live in a more limited country, that jobs won't be made at a great enough pace, that taxes—too many people in the cart, not enough pulling it—will dishearten them, that the effects of 30 years of a low, sad culture will leave the whole country messed up.”

But we have to ask, “Is it true? Has every American generation been confident that they were creating something better for their children? Is America a country that, as Noonan says, has existed steadily? One in which everyone thought their children would have better lives than they did?”

Consider a few major inflection points in American life and whether this intergenerational ethic was as clear and present to those who experienced them as they may appear in our historical mythology.

The American Revolution
America’s very founding revealed a country divided. Roughly one-third of the colonists were Tory supporters of England, one-third were what modern pollsters call “undecided,” and just one-third earned the title of rebel, whether given as compliment or pejorative. There was no consensus that one generation was leaving a better world for the next. That uncertainty was exacerbated—not settled—by Britain’s surrender.

The Civil War
Imagine yourself in the 1850s as the country spiraled ever closer to succession and war over the expansion of slavery. Regardless of one’s politics or geography, it is hard to imagine that either unionists or secessionists were certain they were leading their children down a path to a better country. And during the War itself, people’s confidence in America was shaken by the sheer scale of loss of life, disease and injury, destruction of whole cities, hunger, and fear that America and its ideals were disintegrating.

The Long Depression
The post Civil War Depression of the 1870’s was the worst America had seen in length and depth. Throughout the US and Europe, people were still reeling from devastating wars and economic collapse marked my deflation and bank failures. There were no formal safety nets, no pension plans, and only modest social and civil protections. By the panic of 1873, Americans had been living with a good 20 years of fear, uncertainty, war, and social turmoil. Little was certain, not least the future.

World War I
America’s “doughboys” were fighting a war that few felt would create a better world? The War was largely one of attrition marked more by new technologies of unprecedented brutality than by any sense of social or political accomplishment. The doughboys returned to a country that was not prepared to employ them, help them heal, or otherwise honor their service. Not America’s finest moment, and hardly a time of inspiring confidence in the future for the veterans or their children.

The Great Depression
The generation leading America through the 1930s faced much greater economic, social, and political turmoil than we do today and with far fewer resources for addressing those challenges. Were they confident that their children would be better off? Was America for them “steady?” If we think we are “disheartened” today, imagine how they must have felt.

World War II
Americans confronted global totalitarianism, the physical destruction of Europe, death camps, mass famine, casualties counted in the tens of millions. Our home front was divided far more than our selective and romantic memories recall. The outcome of the War was highly uncertain when America entered, our military was woefully underprepared. Parents sent their children into battle unclear whether the world would be better for it—hoping perhaps, but far from certain. They became what some call “The Greatest Generation” but no one knew that at the time.

This list is not comprehensive, nor does it come close to fully conveying the tremendous uncertainty with which Americans have lived since before this country was founded. But it serves as a good reminder, a grounding, a context for examining our current economic, political, and social challenges in a more realistic manner. We are not as bad off as the persistent social buzz might indicate.

For what has bound America over the years is not the constant assurance that one generation is creating a better world for the next generation; rather, it is the constant aspiration to create a better world. The distinction may seem subtle, but it is everything. We can never KNOW that our children will have it better, but heaven help us if we give up wanting it that way.

America has been about moving forward despite adverse conditions to raise loving families, start important businesses, build new friendships and communities, develop new technologies, build houses of worship, and expand the definition of freedom and human rights. America has never been constant or steady in the challenges it has faced. It has however, found over and over its core, its center, its commitment to persisting anyways in the desire to create a better world.

As always, the elements that have made America great are under tremendous pressure. When things are difficult as they so often are, it is natural that some would cry for more government regulation and control, and some for closed borders. At times like this, people look for scapegoats in immigrants, political opponents, and those from other cultures and religions. It is to be expected that some will lose hope and think that we as a country are lost—such despair is also a constant in American life.

However, we have more tools at our disposal than previous generations, far greater resources, better social support networks, more innovative technology, more accurate information, and most importantly, the wisdom gained from the experience of previous generations. America has not lost or forgotten something; we are simply struggling to recall what we already know and put it to action.

On this anniversary of the founding of our company, we move forward with great anticipation. Our lives have been greatly blessed by the generations before us who sacrificed, worked, thought, risked, persisted, and created. We expect our children—and theirs—to be able to say the same.

Our Modern Age of Exploration

2010-08-05T14:00:00.000-07:00

In 1914, toward the end of the Age of Exploration, former US President, Colonel Theodore Roosevelt and famed Brazilian scientist and explorer, Colonel Candido Rondon, led a team of naturalists and camaradas (workers) on an expedition to be the first to map and explore the Rio da Duvida, the Amazon’s River of Doubt.

Their team had no idea of what they might encounter on their adventure. Almost all were capable and almost all had investigated other parts of the Amazon; none had explored this particular river. They had no way to know its course, speed or the nature of the hazards that they might encounter. It may be hard to imagine in our world of GPS that in 1914 (just 96 years ago!) a thousand-mile long river did not exist on any map and was essentially unknown to all except the small number of native clans that lived along its shore, people who had had no contact with the outside world.

Consider some uncertainties they faced:

· What type of boat(s) does one take down an unexplored river? Shallow draft or deep? Heavy or light? Wood, canvas, or metal? What is the ideal length? How should they be powered? How many such boats should be brought?

· What food does one bring and how much on a journey that could last two months, six months or more? Can one rely on hunting or fishing along the way? Since any food must be carried and stored and potentially cooked, and knowing that starvation had claimed the lives of many explorers, how does one prepare accordingly?

· What kinds of people should be included in the team? What traits and skills are needed? What if your one doctor falls ill? Your one naturalist? When do you decide that team member is unfit for the journey? Who decides and what is done about it?

The Commission consisted of a band of smart, courageous adventurers who already had proven their mettle in difficult circumstances around the globe. They knew that they were embarking on a journey of great uncertainty and were hoping that their experience, skill, and will power would enable them to make it through safely and successfully.

But the most powerful character in the adventure and the greatest variable of all was the course and behavior of the river itself. It was completely unknown. Every bend meant a new possibility, each whirlpool or eddy could mean intense danger or nothing at all. Each rapid had the ability to shoot the explorers forward or dash their boats and hopes to pieces. The river—inspiration for such a grand undertaking—could easily have brought about the death of those so inspired.

In Candice Millard’s book, Theodore Roosevelt’s Darkest Journey: The River of Doubt, the author describes various characters gradually accepting or at least being challenged to consider that their past experiences, common sense, and abilities were not necessarily enough to see them through, that they might not complete this journey, that for all their planning and thoughtfulness, they may not succeed and may in fact die on what had started as a rather straight-forward adventure.

The river represented the great unknown. One could wonder whether we more modern Westerners are comfortable with the notion that there are places as yet unmapped. With our quick and easy access to information of both superficial and in-depth nature, and with a rather glib confidence in and reliance upon our technology and analytic skills, perhaps we have grown accustomed to imagining that we can place ourselves at any point in time and place and understand what to do next.

Maybe that is why the political airwaves in this decisive year are filled with soaring—and often patronizing—rhetoric about the economy and other matters. Politicians, analysts, economists, and other commentators have been impassioned in their claims that they know exactly what to do about just about everything, from health care and financial reform to containing Iran and North Korea (not to mention China and Russia), from energy policy to immigration policy to stimulating economic growth.

Col. Rondon knew and demonstrated as he led the Commission down the River of Doubt that a lack of humility about our knowledge is frightening, that blind certainty represents a person’s or a society’s greatest potential weakness. He was as confident and brave as anyone in his position could be in part because he was willing to admit that there were risks he did not understand and was thus not willing to take or ask others to take.

Productive doubt is good. It causes us to give pause, to think more deeply, more carefully, to see things with less ego clouding our judgment so that we can better perceive the variables on the periphery that might be terribly important and yet easily overlooked by decision-makers who think they already know all that there is to be known. Doubt that leads to paralysis is not helpful, but doubt that leads to more deliberate planning can be a welcome friend.

In some respects the Age of Exploration is over. And yet in other ways it is never over, for the world has never been here before, never before experienced this convergence of political, social, technological, economic and environmental conditions. Our path forward is just as uncertain and unknown as the River of Doubt was to Roosevelt, Rondon and their men; thus, our path forward requires that we ask questions they faced as well. How will we move down our river? What supplies do we need along the way? And what types of people are required to make the journey successful? Whether we like it or not, we are on a grand adventure together, one fraught with danger and with great potential to learn about our world and make better sense of it. With good care, it could be quite a journey.

No Nonprofit is an Island

2010-07-29T10:11:00.000-07:00

While Catholic theologian, Thomas Merton, long argued that “no man is an island,” many of us retreat into a relatively solitary world when life becomes most difficult. For some, the isolation is a way of dealing with insecurity or shame, for others it reflects a fear that no one else cares or can understand, while still others figure that they can best rely upon themselves to solve their problems. And of course, when facing tremendous obstacles, sometimes we simply cannot see outside of ourselves very well to seek the help we need or to identify the help that might already be waiting.

Organizations are no different. Small businesses and large corporations alike can become strikingly insular under pressure. The times when they most need to look outside for guidance, financing, or other support can easily become the times when barricades go up, trust disappears, and people turn on each other instead of to each other.

Given their community orientation, collective spirit, and life affirming missions, it may seem ironic that nonprofit organizations face similar challenges. Layoffs, budget cuts, uncertain and declining revenues, and higher demand for services make the equation particularly challenging for nonprofit boards and staffs. Whether leading human service organizations, health care facilities, houses of worship, educational institutions, environmental organizations, museums, or other mission-driven organizations, nonprofit officers and executives often feel much like they are stranded on an island when the storms of economic crisis are looming.

Recognizing that many nonprofit organizations face business challenges on a scale and frequency they have never before experienced, and realizing that it can be difficult to access perspectives from peers in different industries or geographic regions, we thought it might be helpful to identify patterns we have witnessed across nonprofit organizations throughout the nation across size and sectors.

1. Executive turnover is higher than in the past.
We have seen more nonprofit executive (CEO, CFO, Executive Director) turnover in the past nine months than in the previous 10 years combined. The causes are as varied as the people and the organizations. Some executives have completed their main objectives at one organization and simply are ready for new challenges. Others have left organizations going through internal structural realignment designed to increase margins, efficiency, profitability, effectiveness, skill sets, etc. We have seen organizations change leaders as a result of clarifying their missions and others change leaders because they are not sure of their mission. Some leaders have moved on simply because the work is terribly demanding and they need a break. And of course, we have witnessed leaders move on because they lacked the aptitude or value system required. Whatever the reason, there’s change amongst executives is occurring on a massive scale throughout the country.

2. Revenues are more uncertain and for different reasons than in the past.
Many organizations that rely primarily on private donations and/or corporate sponsorships are facing the reality that their private and corporate donors live in a highly uncertain world, one buffeted by questions about tax policy (e.g. Estate tax? Charitable deductions?) as well as radically reduced donor liquidity and net worth. Organizations that rely on federal, state or local reimbursements are in a tremendous quandary as they deliver (and pay for) services for which they may not be reimbursed in a timely manner or in the amount committed by the associated municipality. And many faith based organizations—a final safety net in many communities—cannot rely on the revenues contributed previously. When someone who tithed 10% of their income (and yes, there are many who do so), becomes one of many congregants who needs financial support while looking for a job, then the financial model in many faith-based communities falters. There are numerous churches facing bankruptcy; that is not normal.

3. Mission matters more than it did before.
A nonprofit that is not sure about its mission or cannot clearly articulate its mission likely will not endure this period in history. Some organizations are reinventing themselves despite successful work over the past 20, 50, or even more years. They have to. The landscape has changed, the way that society identifies and addresses problems has changed, the way that people communicate has changed. Meanwhile, other organizations are getting back to their roots, honing in on their core competencies and cutting back on non-core initiatives that seemed logical when times were more flush and the competition for dollars less intense. Whether missions are newly revised or thoughtfully reaffirmed, organizations that can express their relevance have a much better chance of achieving sustainability.

4. Financial stewardship is a higher priority and more creative than in the past.
Most nonprofit organizations are accustomed to doing more with less, running lean, and relying on the generosity not just of donors, but also of staff willing to earn less than they might in for profit ventures. Thus, some behavior we have witnessed recently is simply prudent budget management. But we also are seeing more intense integration of financial planning into the broader strategic vision of many nonprofit organizations. Five year planning is receiving more serious consideration than in the past, with more conservative revenue estimates and more realistic cost estimates. Spending models for endowments and supporting foundations are using more conservative spending assumptions, reduced return assumptions, and making allowances for potential emergency draws. Organizations are analyzing their illiquid assets such as buildings and land to evaluate if they can provide liquidity to support operations and special projects. And like the rest of the world, many nonprofits are doing whatever they can to deleverage, that is to pay down their debt and reduce or eliminate their current debt service.

5. Board leadership is essential.
It surprises us how many excellent nonprofit organizations with strong track records of effective service have relatively weak or at least inconsistent Board leadership. In a decent economy, an organization can limp along without good governance; in an economy like the current one, a lack of effective leadership signals the beginning of the end. Look back over this list—every item on it requires courageous, attentive and skillful Board-level guidance. This item can be a hard one to admit, but believe us, many organizations are trying to figure out this challenge without letting the world know that their Boards are not all they can be.

Nothing mentioned herein is radical. Yet for each nonprofit organization, these may well be life or death challenges; at the very least, they compel a level of soul searching that many officers and directors have not previously faced. And as our nonprofit organizations examine themselves, they echo the self-reflection going on throughout America and around much of the world. Yet because many of these organizations serve as a mainstay of our civil society, because they represent a key ingredient in making capitalism more compassionate, democracy more participatory, and society more sustainable, it is vital that on the whole they are successful in addressing these challenges.

We know our audience, and many if not most of our readers are actively engaged in addressing these concerns as professionals and volunteers. But there is a great deal of leadership needed throughout our communities to address these concerns and there are people who are isolated now who have tremendous gifts to offer and service to provide. Even Merton, who practiced the relatively solitary life of a Trappist Monk, created ways to reach out and connect with others in an effort to effect social change. Let’s find those whom are not yet connected to community and invite them to join us. There’s work to be done.

Whose Debt Is It Anyway?

2010-07-22T12:55:00.000-07:00

In the depths of World War II, when the course of battle was looking most bleak, American forces went on an unusual offensive. War heroes like Medal of Honor Marine Sergeant John Basilone joined actors and singers in grand tours of the United States to host War Bond Rallies. Their goal: to persuade the American public to buy US Government bonds to provide the country with the short-term financial resources necessary to arm the largest and best armed military force the world had yet seen.

And it worked—ordinary citizens stepped up, just as they did when contributing old steel pots and nylons or accepting rations of butter and eggs. Essentially, Americans financed the build out of our military and civilian industry. It is no coincidence that such a massive stimulus helped speed the beginning of the end of the Great Depression.

Fast forward to 2008-2010. In the midst of our modern economic crisis, US leaders from President George Bush to Secretary of State Hilary Clinton, Treasury Secretary Timothy Geithner to President Barack Obama, have repeatedly—and humbly—gone to Chinese leaders requesting that they continue to buy US Treasuries. Such an effort makes some sense given that about 28% of the US Treasuries are owned by foreign governments or sovereign wealth funds. Of that 28%, approximately, 31% is owned by the People’s Republic of China, Hong Kong, and Taiwan. Thus on the whole, China, Hong Kong, and Taiwan hold about 9% of the outstanding US Treasury debt, or roughly $1.14 Trillion as of May 31, 2010 (all data from the US Treasury).

This foreign ownership of US debt—and particularly Chinese ownership—has many Americans deeply troubled. Among other things, they fear becoming deeply indebted to countries that do not share America’s commitment to representative democracy, human rights, and market-driven capitalism. [Yes, we understand that Taiwan is quite different from the People’s Republic of China; however, mainland China exerts tremendous influence in Taiwan and we believe that influence is likely to increase commensurate with the decline of US influence.]

This rise in foreign ownership is concurrent with a decline in private ownership of US debt. US private households directly hold well less than 10% of the US Treasury debt. We can complain all day long about our growing dependence on China, but nothing keeps Americans from using personal savings to help finance our own spending. If the $1.14 Trillion of US debt owned by China, Taiwan and Hong Kong were divided by the roughly 100 million US households, each household would need to pick up about $14,000 to absorb 100% of Chinese-related lending.

This situation invites important questions about how we as a nation borrow and invest:

1. Why isn’t there a vocal movement among America’s political and social leaders calling for American citizens to lend money to our government to help finance the departments, benefits, and policies that our Congress has adopted?

2. If you were leading such a movement, how would you persuade ordinary Americans to invest more substantially in US Treasury bonds?

3. If such a movement were to emerge, would American households respond in the positive? That is, would individual Americans be willing to increase lending to the US Treasury?

4. Is there a legitimate concern in having China, OPEC ($235 billion), Russia ($126 Billion) or others with contrasting social or political values serve as major lenders to the United States? Are there compelling reasons to encourage such nations to serve as our major lenders?

5. Assuming that the US continues to increase its reliance on foreign lenders and reduce its dependence on domestic households, how does that impact the US ten years from now? Twenty? Fifty?

6. How would you feel if the Congress mandated that US citizens hold a certain percentage of their net worth (brokerage accounts, 401k, IRA accounts, 529 accounts, trusts, foundations, etc.) in US Treasury bonds? Would that be an appropriate way to help finance US government obligations?

The world has shifted a great deal since the war bond rallies of 1942-45, and perhaps we fancy ourselves too sophisticated to get swept up in a patriotic fervor to loan money to our government. However, one could argue that if we truly believe in the current fiscal stimulus, in universal health care and social security entitlements, in a strong military and financial presence in Afghanistan, Iraq, Western Europe, Korea, the Middle East and Africa, education reform, and in addressing AIDS, hunger, and human rights throughout the world, then we should be willing to finance such activities directly rather than relying upon outside lenders.

And if we are not willing to finance these policies ourselves, then perhaps we need to engage in more difficult discussions about how we allocate America’s financial resources, about what REALLY matters to us?

We look forward to the fantasy concert at Red Rocks Amphitheater here in Colorado co-hosted by Barbara Streisand and her ideological antagonist Kid Rock, where they sing “America the Beautiful” a capella, then ask their screaming fans to help pay for the financial cost of American freedom and ideals. See you there.

The Death of E.Z. Money

2010-07-08T09:10:00.000-07:00

It is sobering to write an obituary, particularly for someone who has touched many of us so deeply, who has become an integral part of our lives, and who in passing leaves a void impossible to fill. One feels a responsibility to honor the departed, yet to do so honestly, to recognize that legacies are complex and subject to varied interpretation by survivors.

The obituary below has not yet been published; indeed, the actual death has not been formally confirmed. However, the subject of our obituary has not been seen in public in recent months, has failed to respond to requests for interviews, and has resisted the probing of the most ardent investigators. We share this draft with you today. Perhaps if our subject reads of his demise, he will dare to inform us that he is alive and well. Should he remain silent, then perhaps we are simply confirming a loss that has already impacted us all.

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E.Z. Money
1942 – 2010(?)

“E.Z. Money was born in 1942 in Washington DC to loving but demanding parents. His mother had struggled through the Dust Bowl, sold apples on the streets of New York City, and suffered great losses from bank failures and stock market crashes. Dad was fighting fascism in Germany, Italy and Japan, and lacked the power of either muscle or will to put up an adequate fight.

“This tumultuous birth has been obscured by history because of E.Z.’s immediate, dramatic influence on his parents. By 1945, E.Z. had brought them great calm, easing their struggles. He remained quiet and unpretentious through the 1950s and 1960s. Of course, during these early years, E.Z. was overshadowed by his cousin, G.D.P., whose growth and vitality made E.Z. seem irrelevant. G.D.P. took credit for many of E.Z.’s accomplishments from the rebuilding of Europe to the growth of the military, from building out the highway system to financing the early years of Johnson’s Great Society.

“But E.Z. was not waiting in vain. By the early 1970’s he had begun to find his calling, playing a powerful role in underwriting the War in Vietnam and fighting the good fight against OPEC and spiraling inflation. Nonetheless, E.Z. still bore the burden of his shameful birth. Most Americans weren’t comfortable with E.Z., feeling that he didn’t really represent the nation’s core values or vision of itself. That disdain, however, was about to change.

“The 1980s invited E.Z. to step more boldly into the limelight. E.Z. reconciled with his cousin, G.D.P. They made a pact: they would support each other’s growth, collaborating to usher in an age of economic prosperity never before experienced by any society in any age. It worked. Interest rates and inflation were subdued, jobs created, technologies invented, and all without meaningful complaint from the country that made E.Z. welcome. Of course, a new generation was ascending the corporate and political power structure, a generation that had known E.Z. from their earliest years. While the previous generation recalled life without E.Z., their children did not. And who could complain, so long as E.Z. and G.D.P. blazed a new path of material wealth.

“By the 1990’s, E.Z. had fully come into his own, spawning a whole network of associates and sycophants. New friends such as hedge funds and private equity funds clamored for E.Z.’s attention, using him to forge a new industry of financial innovation. They secured great wealth for themselves and increased influence for E.Z. The modest days of the 50s and 60s had come to seem quaint. There was no going back.

“E.Z. also proved to be an able politician, thriving regardless of which party dominated Congress or sat in the White House. While a few skeptics complained about the access E.Z. had to policy makers and corporate executives, most were content to let it go without complaint. E.Z. and G.D.P. had forged a pact that had become ingrained in the minds of economists, policy makers, and even consumers—E.Z. would make G.D.P.’s growth possible, while G.D.P.’s growth would take care of E.Z. It was the perfect arrangement. Whether operating at the level of municipalities, corporations, or families, their partnership was broadly embraced.

“As E.Z. aged however, cracks began to appear. E.Z. was as confident as ever and certainly in as much demand, but he struggled to maintain the façade of dominance. In 1998, E.Z. was accused of being behind the Russian Debt Crisis and associated failure of Long-Term Capital, an American hedge fund. He was pegged with exacerbating the NASDAQ bubble in the late 1990’s, initiating the telecom debt crisis of 2002, and creating a climate that facilitated accounting frauds at Enron and WorldCom.

“But it was the housing crisis that started in 2007 and continues today that really called into question E.Z.’s legacy. No longer does conventional wisdom stand by E.Z. or support his pact with G.D.P. Somewhere along the line, that pact broke down and most consumers and voters know it or at least sense it. Some accuse E.Z.’s handlers of masking the breakup of his partnership with G.D.P. even as their separation intensified. Some policy makers laud E.Z. and sing his praises, though they may do so because they don’t know who else to promote. For so long, G.D.P. and E.Z. were a team; it is hard for many to imagine one without the other.

“Today, we say goodbye to this influential American, appreciative for what he helped create and wary about imagining life without him.

“Mr. Money is survived by his parents and his aging cousin, all of whom now spend their time traveling the globe. Contributions in Mr. Money’s name can be made to the Department of the Treasury, attn: debt relief.”

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The public is not certain if E.Z. Money truly has died. Many key decision makers are still expecting E.Z. to rejoin G.D.P. and prove that their pact retains its former power and influence. There are many constituencies that still think the heady days of the 80s and 90s are “normal” and eagerly await their return.

Personally, we wonder if E.Z. Money really ever existed. After all, his is a life story that seems more a work of fiction: Born of violent parents, overshadowed by a domineering cousin, dismissed and disrespected, embraced as a savior, then cast again into disdain, now seeking redemption.

Perhaps E.Z. Money has really been nothing more than a phantom of our imaginations, someone we have created because we needed him to be real. He gave us confidence and hope, made us believe that literally anything was possible, and made it all seem so easy. Whether real or imagined, alive or dead, a gift or a curse, E.Z. Money will be missed.

The Past Does Not Predict the Future

2010-07-01T12:00:00.000-07:00

Four-year-olds are prone to asking, “Why?” Why does the sun set? Why does the car need gas? Why does the canoe float? Why did God create the animals? Why do I need to go to bed?

As we age, these questions persist but change in tone, losing their innocence. Why do terrorists attack? Why is the climate behaving this way? Why has the economy faltered? Why do World Cup referees miss the obvious?

The investment industry expends a great deal of energy trying to understand why certain conditions have occurred in the investment markets and how those conditions can help predict future activity in those markets. For the last 30+ years, finance academics and analysts have evaluated “correlation” to explain how action in one part of the investment markets causes action in another part. Correlation is a calculation intended to indicate that if “X” happens to the US bond market, then one can expect “Y” to happen with US equities, if “X” happens with US equities, then “Y” should happen with Non US equities, and so on. A correlation of +1.00 indicates that two asset classes move together, 0.00 indicates they move independently, and -1.00 that they move inversely.

This would be an aside of little interest to most people except for one critical piece of information: Almost all financial planning tools and almost all asset allocation modeling software assumes that one can predict the correlation between asset classes with a reasonably high degree of accuracy and that correlation is reasonably consistent over time. Advisors to pension plans, insurance companies, endowments, foundations, and private investors often use analytic tools that rely on predicting the correlation between asset classes to determine how best to strive to meet their objectives.

Yet, predicting correlation between asset classes in a complex and ever-evolving economy is not easy. Most applications use historic correlations between asset classes to estimate future correlations. But here at Syntrinsic, we have a problem with that. Our analysis finds that historic correlation between asset classes is not consistent, predictive, or otherwise reliable as a measure of future correlation. In short, the past does not predict the future.

Consider the example of US bonds and US equities (stocks). If one calculates the rolling 12-month correlation between these two asset classes over the past 25 years (1986 to 2010), one would expect to see some consistency of that correlation. However, the correlation ranges from +0.89 to -0.78. Given that the highest correlation possible is +1.00 and the lowest is -1.00, it would be hard to argue that there is a meaningful data point that can be used to describe the historic correlation between these assets. And yet, many analysts actually use historic correlation to estimate future correlation.

Some would argue that 12 month correlation is insufficient, and that the measure of correlation really requires longer sweeps of time. So we ran our analysis for 2, 3, 4, 5, and 10 years as well. While the result is smoother than the 1 year analysis, it is hardly reassuring for those who think of correlation as a reasonably fixed and predictive data point. The 10-year analysis—which is the smoothest—still ends up with a range from +0.53 to -0.23.

Most importantly, whether short-term or long-term data sets are being used, try to find a period when the backward looking calculation of correlation would have predicted the next 5-7-10 years. You won’t likely find one. For example, if one took a snapshot in December 1997, when 10-year correlation was at +0.53, and used that to predict correlation for 1998-2007, then one would have been terribly disappointed, as that next ten years had a correlation of -0.22.

For some, these observations may seem technical, obscure, and even irrelevant; however, deconstructing the use of correlation in financial planning ties into many major fiscal policies. Just consider the intense debates raging about the funding of municipal and corporate pension plans—much of that debate is linked to models that assume forward looking behavior based in significant part on historic correlations. If those correlations are not adequately predictive, then what?

This is a great time for asking “Why?” at every level of business, finance and investment. Why were certain investment models created in the first place? Why did those models persist through the boom years of 1981-1999? Why have those models failed to meet expectations in 2000-2010? And obviously, what are we planning to do about it?

Today’s four-year-olds are depending on our ability to address these questions with candor and rigor. It would be embarrassing if 30 years from now they were asking us why we kept using models that don’t work .

Even FIFA is considering adding some sort of instant replay to the World Cup. That just goes to show that anything is possible if one asks the right questions.

Tree Memories

2010-06-24T12:00:00.000-07:00

Thirty years ago, children camping in the Rocky Mountains came to know the looming lodgepole pines that rustled in the wind through the day and night, provided hiding places for chipmunks, deer, and capture the flag, and shaded the creeks and trails from the intense sun.

Rarely did those children consider how the roots of the lodgepole kept the soil from running downhill during spring thaw or summer rainstorm, how they fed and sheltered beaver, sand hill cranes, and elk, how they served as a linchpin to a complex ecosystem already fragile due to limited water, thin topsoil, and brutal sun and wind.

Today, however, children camping in many parts of the Rocky Mountain West know the looming trees quite differently, for most of the pine they see are dead, killed by the invasive, persistent Mountain Pine Beetle (see: http://www.fs.fed.us/r2/bark-beetle/index.html).

These once-majestic trees now stand together like skeletons, brown and ominous, many with their needles already dropped. Or they lean up against each other like a pile of pick-up sticks, their roots no longer holding the soil. Or they have already fallen across paths, roads and each other, rotting slowly as nature intended and yet on a scale so massive that it seems eerily unnatural.

In many places, even those pine trees that have survived the Beetles’ onslaught succumb indirectly to their impact. Many trees that once shared the force of the wind with their neighbors now face it alone; they tilt warily, branches ripped off, needles too, precariously clinging to the thin soil. Those that have survived the beetles are destabilized by shifting soil as erosion exposes their roots. And the already ever-present danger of forest fires has been exacerbated by the layers of dry tinder now layering whole mountains. With over 3.5 million acres of forest devastated by the beetle, this is no ordinary infestation, but an event that is profoundly changing the ecosystem for decades to come.

While one could intellectualize the damage with arguments about forest management policies or simplistic allusions to the circle of life, the reality is that change on this scale is intense, unusual, and difficult to accept.

However adventurous we human beings are, we still value a sense of place, of order. We tend to assume that the way it has been is how it will be—forever, that to a certain degree, our children will grow up in a world that reflects that in which we were raised, though not perhaps in terms of technology, which most of us recognize changes quickly and at an ever increasing rate of change, nor in terms of geo-politics: country borders shift in every generation, regimes come and go, and economic systems evolve.

But to imagine the Rockies stripped of much of their pine forests in less than two decades—well, that is change on a scale that can really upset our sense of place, a transformation that highlights yet again how little control we really have over our surroundings. It is one thing for humanity to change humanity’s environment, but quite another for a small beetle to do so, with us unable to do much more than neaten up the carnage.

Is there a meaningful metaphor in all of this? Sure. There are always metaphors that translate across systems, be they environmental, ecumenical, or economic. But for today, perhaps it is enough to simply point out that a way of life is changing, that in a corner of the world that otherwise seems so peaceful and stable, ecosystems and cultures are adjusting quickly to changes they did not expect, invite, or anticipate.

Thirty years from now, the barren, denuded landscape of the Rockies will be a fond memory for those who see it today as children. They will marvel with their own children at the new growth of quaking aspen, fir, spruce, and even pine that will have sprung up where fallen lodgepoles used to be. They will be overjoyed by the changes—and perhaps a bit nostalgic for the world they once new. That is how it works.

We here in Colorado—like so many people all around the globe—will pass to our children a world profoundly different than the one in which we were raised. Some elements of that are wonderful and other elements terrifying. In that, we have much in common with people around the globe, and with those generations who have come before us and those who will come after.

What's Our Context?

2010-06-17T12:00:00.000-07:00

In The Decline and Fall of the Roman Empire, (1776), British historian Edward Gibbon began his tale with Trajan, emperor from 98 to 117 BCE, when Rome was at its geographic zenith. He traced Rome’s descent over 71 chapters of rich and provocative language, astute character sketches, and insightful observations.

Gibbon could have told the same story with less depth and color, emphasizing only those points that best supported his thesis. Instead, he gives readers a context for understanding how dramatic events evolved organically from the events that preceded them. For those hoping to understand Rome’s decline, Gibbon provides a framework for understanding a complex array of issues and events. He provides “context.”

So how about us today, those striving to understand and make decisions in a similarly multifaceted geopolitical environment? Do we possess the context necessary to fully appreciate the implications of the events, issues, and policies with which we are bombarded 24/7? Generally speaking, we think not.

Few people have sufficient time or resources to place today’s news in a relevant historical framework. There is no shared narrative through which we can appreciate or question the significance of the latest hot topic. The frenetic pace of information exchange, media bias, the infotainment approach to news distribution, and a lack of time and attention make it difficult to develop the context necessary for a meaningful interpretation of events and issues.

Consider the European debt crisis, particularly as it relates to Greece. Debate rages over what should be done, who should do it, and what precedents are being set. The popular narrative seems to be that the efficient, hard-working, and budget-conscious Germans are being forced to bail out the lazy, corrupt, and irresponsible Greeks.

But if one steps back 70 years, the story evolves differently. During WWII, Germany sacked Greece with particular brutality. The Germans dismantled Greece’s entire infrastructure, razed nearly every major town, city, and port, and wiped out almost all fields, orchards, and herds for years if not generations. After WWII, the US invested heavily in rebuilding post-war Germany via the Marshall Plan and other channels, but was reluctant to rebuild Greece while a communist government was in power. Thus, while Germany emerged from WWII with a viable economy woven into that of the Western world, Greece did not.

Does this information change the need for Greek austerity measures? Absolutely not. Does it mean that Germany is forever on the hook for Greece’s financial mismanagement? No. But to ignore this history undermines the ability of policy makers to derive a politically viable solution. A lack of context renders the media interpretation of events incomplete, and compels the general public to form a simplistic understanding of complex characters and issues.

One could flesh out similar examples in the apparent demise of the “special relationship” between the US and Great Britain, in the seemingly “sudden” animosity in Turkey toward Israel, in the deep seated emotion around a US military presence on Okinawa, in the current chess game between the US and Russia in Kyrgyzstan, or in countless other issues.

One could argue that the effort, skill and time required to create context doesn’t fit the format or intention of most cable news, talk radio, or print media outlets. However, we are concerned that the lack of context stems from too many people believing that the historical framework does not matter, that a quick spot on CNN or Fox, NPR or Rush is sufficient to form a strong opinion on health care, Islam, Wall Street, foreign policy, or the economy. Clearly, those quick sound bites are not enough to form informed opinions; yet, with so much information to track, sound bites are often the best most can do.

This piece opened with Rome, and then shifted to modern Greece. Taken together, Ancient Rome and Ancient Greece still form the context through which many in the US and Western Europe understand ourselves and the world, even if subconsciously. Given the great debates about our shared identity, about our political philosophies and the nature of our social contracts, steeping ourselves in America’s historical context is essential, yet no less so than immersing ourselves in a rigorous, nuanced, and wide ranging appreciation for the larger global context.

Much ink has been spilled discussing the causes of the global economic crisis. These diagnostic attempts often assume the story started with the repeal of Glass Steagall in 1999, the relatively uncontrolled growth of Fannie Mae, or other recent policy and leadership mistakes. But almost all of these discussions still start in the last decade.

It is common to see the immediate effects of a crisis and think that the cause(s) must be nearby; however, upon further reflection, we all recognize that with almost any crisis, the causes are vaster, more intertwined, and far older than we might think. That reality is not always convenient.

Though he regards emperor Diocletian highly, Gibbon emphasizes his contribution to Rome’s downfall. He notes that Diocletian “deserves the reproach of establishing pernicious precedents, rather than of exercising actual oppression.” Rome did not fall until nearly 170 years after Diocletian’s rule; yet, as Gibbon points out, context matters. There was no surprise in Rome’s fall, just a culmination. That lesson is essential today. We must look back as we move forward.