Saturday, June 19, 2010

Oil Spill Update

Below is the oil slick as of the 19th:

Below is what the oil spill looked like 10 days ago...
Oil from the Deepwater Horizon rig lingered near the Mississippi Delta on June 10, 2010. The MODIS on NASA’s Aqua satellite captured this image the same day. The oil slick is pale gray, and the most conspicuous portion of the oil slick in this image appears near the Deepwater Horizon rig. A smaller, though still sizable, extension of the slick appears northeast of the rig. Clouds somewhat obscure the Mississippi Delta, northwest of the rig.
In photo-like satellite images, sunlight reflecting off the ocean surface and into the satellite sensor makes the oil slick easier to see. Oil smoothes the surface of the water, making it a better mirror of sunlight than the surrounding water. As a result, the oil appears lighter than oil-free surface waters.
My question is who we should be believing? Clearly, the government does not have control over the situation and all we need is a storm to turn this thing into a total disaster. Also, clearly the estimates by so called "experts" were required to be increased because how else could you explain these images. Clearly, those new estimates are optimistic (to be generous) as have been all the official statements regarding this issue.

Remember this type of betrayal by the government and corporate interests next time they try to smooth over some financial calamity. The lies in our system are just so preposterous, mammoth and conflicted that its almost beyond my capacity to understand.

How can a fed chief, many bank CEO's, several Oil company CEO's (among many others) and a president all lie their asses off, be totally off base or surreptitiously motivated and still have their jobs? It does not work that way for the rest of us.

Audit the fed - dead...or will the dead cat bounce bring it back

When the DOW falls 2,000 points the pressure on the Fed will start to heat up again...for now Bernake and cohorts have used the process of printing money to buy votes, power and legislation. It is not compliant with the foundations of this republic. The reality is that in any most legal jurisdictions it would be called criminal and be a punishable offense. However, finance is government and most of the officials in government work for finance driven causes since the payoff they get is apparently free money that makes them look good to their constituents. This money is provided at the behest of the Fed and large financial institutions regardless of the liabilities and imbalances it creates.

Structural blackmail is alive and well.

Friday, June 18, 2010

Wednesday, June 16, 2010

Oil Spill from high up and down low...

Update on upcoming release of ES 1min system

This is the final ES system trading 100K from November last year with full slippage removal and trade entry redundancy which actually produces positive slippage. I will have this version of the ES system on the trade servers by tonight. One of the key elements to trading short term futures like this is handling rollover. Therefore we are using specially designed rollover data to build our trade data.

Current Market Overview

I would like to talk about the current market setup. Below is a chart of the SP500 Swing System. This model took its first risk entry on the short side yesterday at the close. Please understand that it will likely take another few entries. Personally, I am hoping that it does.

Characteristically, options expiration can continue to squeeze the market. Therefore, I expect slightly better prices to short. The importance of this position is that, as I have indicated before, when these systems would trigger new shorts, the implications will likely be significant. I believe that to be the case. So, along with that plan I am looking at leap puts/protection slightly out of the money for 2012. I wanted to underscore that this trade or two should be very important. If the market is to remain uptrending then this area need to remain well defended. 

Additionally, I would like to point out that I have migrated from using Tradestation as the datasource for this system to IQFeed. This does change the number of trades becuase they do not quite have as much history as Tradestation. Also, as you can see the ES long trade from the end of may is slightly different. This is because I enabled and new capability of the model. That countertrend capability gives the system significantly better performance and a win rate of better than 94%.

Oil Aquifer directly to Saudi Arabian Oil Fields...

To be clear, a relief well will work at 200 or 400 feet...we are not talking about a secondary Oil deposit here...this is a primary global oil reserve - the same one that drives the mid-east oil cartel. How much do you want to bet that come August we hear another story about how the relief well(s) did not work. Obama and BP want to preserve access to this oil...otherwise they would have taken much more appropriate action early on. Certainly, if you happen to mistake 100,000 barrels for 1,000 barrels you can avoid calling things a catastrophe and additionally avoid actually trying to propose extreme methods to protect the environment. (FYI 1000 barrels = 55,000 gallons. presently we are spewing 5,500,000 barrels - a wee bit of a difference from the 40,000 gallons the administration and BP initially promoted) Obama, BP and the regulators were simply looking to buy time and hope for the best - "maybe the public would not notice if we lie a little" was what they were all thinking. I lump them all together. BP is a irresponsible, payola manipulator, Obama is an irresponsible manipulator and manipulatee and on the payroll, finally, the regulators  work for both of these elements...who do you think they want on their or them?

The Obama Administration and senior BP officials are frantically working not to stop the world’s worst oil disaster, but to hide the true extent of the actual ecological catastrophe. Senior researchers tell us that the BP drilling hit one of the oil migration channels and that the leakage could continue for years unless decisive steps are undertaken, something that seems far from the present strategy.
In a recent discussion, Vladimir Kutcherov, Professor at the Royal Institute of Technology in Sweden and the Russian State University of Oil and Gas, predicted that the present oil spill flooding the Gulf Coast shores of the United States “could go on for years and years … many years.” [1]
According to Kutcherov, a leading specialist in the theory of abiogenic deep origin of petroleum, “What BP drilled into was what we call a ‘migration channel,’ a deep fault on which hydrocarbons generated in the depth of our planet migrate to the crust and are accumulated in rocks, something like Ghawar in Saudi Arabia.”[2] Ghawar, the world’s most prolific oilfield has been producing millions of barrels daily for almost 70 years with no end in sight. According to the abiotic science, Ghawar like all elephant and giant oil and gas deposits all over the world, is located on a migration channel similar to that in the oil-rich Gulf of Mexico.
As I wrote at the time of the January 2010 Haiti earthquake disaster,[3] Haiti had been identified as having potentially huge hydrocasrbon reserves, as has neighboring Cuba. Kutcherov estimates that the entire Gulf of Mexico is one of the planet’s most abundant accessible locations to extract oil and gas, at least before the Deepwater Horizon event this April.
“In my view the heads of BP reacted with panic at the scale of the oil spewing out of the well,” Kutcherov adds. “What is inexplicable at this point is why they are trying one thing, failing, then trying a second, failing, then a third. Given the scale of the disaster they should try every conceivable option, even if it is ten, all at once in hope one works. Otherwise, this oil source could spew oil for years given the volumes coming to the surface already.” [4]
He stresses, “It is difficult to estimate how big this leakage is. There is no objective information available.” But taking into consideration information about the last BP ‘giant’ discovery in the Gulf of Mexico, the Tiber field, some six miles deep, Kutcherov agrees with Ira Leifer a researcher in the Marine Science Institute at the University of California, Santa Barbara who says the oil may be gushing out at a rate of more than 100,000 barrels a day.[5]
What the enormoity of the oil spill does is to also further discredit clearly the oil companies’ myth of “peak oil” which claims that the world is at or near the “peak” of economical oil extraction. That myth, which has been propagated in recent years by circles close to former oilman and Bush Vice President, Dick Cheney, has been effectively used by the giant oil majors to justify far higher oil prices than would be politically possible otherwise, by claiming a non-existent petroleum scarcity crisis.
Obama & BP Try to Hide
According to a report from Washington investigative journalist Wayne Madsen, “the Obama White House and British Petroleum are covering up the magnitude of the volcanic-level oil disaster in the Gulf of Mexico and working together to limit BP’s liability for damage caused by what can be called a ‘mega-disaster.’” [6] Madsen cites sources within the US Army Corps of Engineers, FEMA, and Florida Department of Environmental Protection for his assertion.
Obama and his senior White House staff, as well as Interior Secretary Salazar, are working with BP’s chief executive officer Tony Hayward on legislation that would raise the cap on liability for damage claims from those affected by the oil disaster from $75 million to $10 billion. According to informed estimates cited by Madsen, however, the disaster has a real potential cost of at least $1,000 billion ($1 trillion). That estimate would support the pessimistic assessment of Kutcherov that the spill, if not rapidly controlled, “will destroy the entire coastline of the United States.”
According to the Washington report of Madsen, BP statements that one of the leaks has been contained, are “pure public relations disinformation designed to avoid panic and demands for greater action by the Obama administration., according to FEMA and Corps of Engineers sources.” [7]
The White House has been resisting releasing any “damaging information” about the oil disaster. Coast Guard and Corps of Engineers experts estimate that if the ocean oil geyser is not stopped within 90 days, there will be irreversible damage to the marine eco-systems of the Gulf of Mexico, north Atlantic Ocean, and beyond. At best, some Corps of Engineers experts say it could take two years to cement the chasm on the floor of the Gulf of Mexico. [8]
Only after the magnitude of the disaster became evident did Obama order Homeland Security Secretary Napolitano to declare the oil disaster a “national security issue.” Although the Coast Guard and FEMA are part of her department, Napolitano’s actual reasoning for invoking national security, according to Madsen, was merely to block media coverage of the immensity of the disaster that is unfolding for the Gulf of Mexico and Atlantic Ocean and their coastlines.
The Obama administration also conspired with BP to hide the extent of the oil leak, according to the cited federal and state sources. After the oil rig exploded and sank, the government stated that 42,000 gallons per day were gushing from the seabed chasm. Five days later, the federal government upped the leakage to 210,000 gallons a day. However, submersibles monitoring the escaping oil from the Gulf seabed are viewing television pictures of what they describe as a “volcanic-like” eruption of oil.
When the Army Corps of Engineers first attempted to obtain NASA imagery of the Gulf oil slick, which is larger than is being reported by the media, it was reportedly denied the access. By chance, National Geographic managed to obtain satellite imagery shots of the extent of the disaster and posted them on their web site. Other satellite imagery reportedly being withheld by the Obama administration, shows that what lies under the gaping chasm spewing oil at an ever-alarming rate is a cavern estimated to be the size of Mount Everest. This information has been given an almost national security-level classification to keep it from the public, according to Madsen’s sources.
The Corps of Engineers and FEMA are reported to be highly critical of the lack of support for quick action after the oil disaster by the Obama White House and the US Coast Guard. Only now has the Coast Guard understood the magnitude of the disaster, dispatching nearly 70 vessels to the affected area. Under the loose regulatory measures implemented by the Bush-Cheney Administration, the US Interior Department’s Minerals Management Service became a simple “rubber stamp,” approving whatever the oil companies wanted in terms of safety precautions that could have averted such a disaster. Madsen describes a state of “criminal collusion” between Cheney’s former firm, Halliburton, and the Interior Department’s MMS, and that the potential for similar disasters exists with the other 30,000 off-shore rigs that use the same shut-off valves. [9]
Silence from Eco groups?... Follow the money
Without doubt at this point we are in the midst of what could be the greatest ecological catastrophe in history. The oil platform explosion took place almost within the current loop where the Gulf Stream originates. This has huge ecological and climatological consequences.
A cursory look at a map of the Gulf Stream shows that the oil is not just going to cover the beaches in the Gulf, it will spread to the Atlantic coasts up through North Carolina then on to the North Sea and Iceland. And beyond the damage to the beaches, sea life and water supplies, the Gulf stream has a very distinct chemistry, composition (marine organisms), density, temperature. What happens if the oil and the dispersants and all the toxic compounds they create actually change the nature of the Gulf Stream? No one can rule out potential changes including changes in the path of the Gulf Stream, and even small changes could have huge impacts. Europe, including England, is not an icy wasteland due to the warming from the Gulf Stream.
Yet there is a deafening silence from the very environmental organizations which ought to be at the barricades demanding that BP, the US Government and others act decisively.
That deafening silence of leading green or ecology organizations such as Greenpeace, Nature Conservancy, Sierra Club and others may well be tied to a money trail that leads right back to the oil industry, notably to BP. Leading environmental organizations have gotten significant financial payoffs in recent years from BP in order that the oil company could remake itself with an “environment-friendly face,” as in “beyond petroleum” the company’s new branding.
The Nature Conservancy, described as “the world’s most powerful environmental group,”[10] has awarded BP a seat on its International Leadership Council after the oil company gave the organization more than $10 million in recent years. [11]
Until recently, the Conservancy and other environmental groups worked with BP in a coalition that lobbied Congress on climate-change issues. An employee of BP Exploration serves as an unpaid Conservancy trustee in Alaska. In addition, according to a recent report published by the Washington Post, Conservation International, another environmental group, has accepted $2 million in donations from BP and worked with the company on a number of projects, including one examining oil-extraction methods. From 2000 to 2006, John Browne, then BP's chief executive, sat on the CI board.
Further, The Environmental Defense Fund, another influential ecologist organization, joined with BP, Shell and other major corporations to form a Partnership for Climate Action, to promote ‘market-based mechanisms’ (sic) to reduce greenhouse gas emissions.
Environmental non-profit groups that have accepted donations from or joined in projects with BP include Nature Conservancy, Conservation International, Environmental Defense Fund, Sierra Club and Audubon. That could explain why the political outcry to date for decisive action in the Gulf has been so muted. [12]
Of course those organizations are not going to be the ones to solve this catastrophe. The central point at this point is who is prepared to put the urgently demanded federal and international scientific resources into solving this crisis. Further actions of the likes of that from the Obama White House to date or from BP can only lead to the conclusion that some very powerful people want this debacle to continue. The next weeks will be critical to that assessment.

Tuesday, June 15, 2010

Now the liars in Washington and BP want us to believe they could be wrong by 6000% but this time they have it right

first it was 1,000 barrels, then 5,000, then 12,000, then 20,000, 40,000 and now 60,000. Who are they kidding? Please recall the guy who I pointed out testified in the beginning of May that it was 95,000 barrels - we never heard from that guy again and he got NO press coverage.
Initially, you may recall, the US Coast Guard and BP told the public that they weren’t certain any oil was flowing from the Deepwater Horizon disaster.
Then it was updated to an estimated 1,000 barrels a day.
Then 5,000 barrels a day – which is when everyone sat up and started paying attention.
Last week federal scientists updated the estimated flow rate to anywhere from 25,000 to 40,000 barrels a day.
Today, based on updated information and scientific assessments, the new rate is estimated is between 35,000 and 60,000 barrels per day.
The new flow rate was announced by Secretary of Energy Steven Chu, Secretary of the Interior Ken Salazar, and Chair of the National Incident Command’s Flow Rate Technical Group Dr. Marcia McNutt
The team assures the public that “BP was required to develop projects containment capacity expanding to 40,000-53,000 barrels per day by the end of June and 60,000-80,000 barrels per day by mid-July.” White House officials have voiced confidence in the ability to contain those flow rates on that timetable.

ES Daily Swing System Goes Short

SSO Swing System Triggers Short

As expected...

Market Update

Intraday systems close longs and the daily systems are setup to trigger shorts on this close today. I will update prior to the close.

Monday, June 14, 2010

George Soros Speach - Membership Meeting Address, Vienna

June 10, 2010

In the week following the bankruptcy of Lehman Brothers on September 15, 2008 – global financial markets actually broke down and by the end of the week they had to be put on artificial life support. The life support consisted of substituting sovereign credit for the credit of financial institutions which ceased to be acceptable to counter parties.

As Mervyn King of the Bank of England brilliantly explained, the authorities had to do in the short-term the exact opposite of what was needed in the long-term: they had to pump in a lot of credit to make up for the credit that disappeared and thereby reinforce the excess credit and leverage that had caused the crisis in the first place. Only in the longer term, when the crisis had subsided, could they drain the credit and reestablish macro-economic balance. This required a delicate two phase maneuver just as when a car is skidding, first you have to turn the car into the direction of the skid and only when you have regained control can you correct course.

The first phase of the maneuver has been successfully accomplished – a collapse has been averted. In retrospect, the temporary breakdown of the financial system seems like a bad dream. There are people in the financial institutions that survived who would like nothing better than to forget it and carry on with business as usual. This was evident in their massive lobbying effort to protect their interests in the Financial Reform Act that just came out of Congress. But the collapse of the financial system as we know it is real and the crisis is far from over.

Indeed, we have just entered Act II of the drama, when financial markets started losing confidence in the credibility of sovereign debt. Greece and the euro have taken center stage but the effects are liable to be felt worldwide. Doubts about sovereign credit are forcing reductions in budget deficits at a time when the banks and the economy may not be strong enough to permit the pursuit of fiscal rectitude. We find ourselves in a situation eerily reminiscent of the 1930’s. Keynes has taught us that budget deficits are essential for counter cyclical policies yet many governments have to reduce them under pressure from financial markets. This is liable to push the global economy into a double dip.

It is important to realize that the crisis in which we find ourselves is not just a market failure but also a regulatory failure and even more importantly a failure of the prevailing dogma about financial markets. I have in mind the Efficient Market Hypothesis and Rational Expectation Theory. These economic theories guided, or more exactly misguided, both the regulators and the financial engineers who designed the derivatives and other synthetic financial instruments and quantitative risk management systems which have played such an important part in the collapse. To gain a proper understanding of the current situation and how we got to where we are, we need to go back to basics and reexamine the foundation of economic theory.

I have developed an alternative theory about financial markets which asserts that financial markets do not necessarily tend towards equilibrium; they can just as easily produce asset bubbles. Nor are markets capable of correcting their own excesses. Keeping asset bubbles within bounds have to be an objective of public policy. I propounded this theory in my first book, The Alchemy of Finance, in 1987. It was generally dismissed at the time but the current financial crisis has proven, not necessarily its validity, but certainly its superiority to the prevailing dogma.

Let me briefly recapitulate my theory for those who are not familiar with it. It can be summed up in two propositions. First, financial markets, far from accurately reflecting all the available knowledge, always provide a distorted view of reality. This is the principle of fallibility. The degree of distortion may vary from time to time. Sometimes it’s quite insignificant, at other times it is quite pronounced. When there is a significant divergence between market prices and the underlying reality I speak of far from equilibrium conditions. That is where we are now.

Second, financial markets do not play a purely passive role; they can also affect the so called fundamentals they are supposed to reflect. These two functions that financial markets perform work in opposite directions. In the passive or cognitive function the fundamentals are supposed to determine market prices. In the active or manipulative function market prices find ways of influencing the fundamentals. When both functions operate at the same time they interfere with each other. The supposedly independent variable of one function is the dependent variable of the other so that neither function has a truly independent variable. As a result neither market prices nor the underlying reality is fully determined. Both suffer from an element of uncertainty that cannot be quantified. I call the interaction between the two functions reflexivity. Frank Knight recognized and explicated this element of unquantifiable uncertainty in a book published in 1921 but the Efficient Market Hypothesis and Rational Expectation Theory have deliberately ignored it. That is what made them so misleading.

Reflexivity sets up a feedback loop between market valuations and the so-called fundamentals which are being valued. The feedback can be either positive or negative. Negative feedback brings market prices and the underlying reality closer together. In other words, negative feedback is self-correcting. It can go on forever and if the underlying reality remains unchanged it may eventually lead to an equilibrium in which market prices accurately reflect the fundamentals. By contrast, a positive feedback is self-reinforcing. It cannot go on forever because eventually market prices would become so far removed from reality that market participants would have to recognize them as unrealistic. When that tipping point is reached, the process becomes self-reinforcing in the opposite direction. That is how financial markets produce boom-bust phenomena or bubbles. Bubbles are not the only manifestations of reflexivity but they are the most spectacular.

In my interpretation equilibrium, which is the central case in economic theory, turns out to be a limiting case where negative feedback is carried to its ultimate limit. Positive feedback has been largely assumed away by the prevailing dogma and it deserves a lot more attention.

I have developed a rudimentary theory of bubbles along these lines. Every bubble has two components: an underlying trend that prevails in reality and a misconception relating to that trend. When a positive feedback develops between the trend and the misconception a boom-bust process is set in motion. The process is liable to be tested by negative feedback along the way and if it is strong enough to survive these tests, both the trend and the misconception will be reinforced. Eventually, market expectations become so far removed from reality that people are forced to recognize that a misconception is involved. A twilight period ensues during which doubts grow and more and more people lose faith but the prevailing trend is sustained by inertia. As Chuck Prince former head of Citigroup said, “As long as the music is playing you’ve got to get up and dance. We are still dancing.” Eventually a tipping point is reached when the trend is reversed; it then becomes self-reinforcing in the opposite direction.

Typically bubbles have an asymmetric shape. The boom is long and slow to start. It accelerates gradually until it flattens out again during the twilight period. The bust is short and steep because it involves the forced liquidation of unsound positions. Disillusionment turns into panic, reaching its climax in a financial crisis.

The simplest case of a purely financial bubble can be found in real estate. The trend that precipitates it is the availability of credit; the misconception that continues to recur in various forms is that the value of the collateral is independent of the availability of credit. As a matter of fact, the relationship is reflexive. When credit becomes cheaper activity picks up and real estate values rise. There are fewer defaults, credit performance improves, and lending standards are relaxed. So at the height of the boom, the amount of credit outstanding is at its peak and a reversal precipitates false liquidation, depressing real estate values.

The bubble that led to the current financial crisis is much more complicated. The collapse of the sub-prime bubble in 2007 set off a chain reaction, much as an ordinary bomb sets off a nuclear explosion. I call it a super-bubble. It has developed over a longer period of time and it is composed of a number of simpler bubbles. What makes the super-bubble so interesting is the role that the smaller bubbles have played in its development.

The prevailing trend in the super-bubble was the ever increasing use of credit and leverage. The prevailing misconception was the believe that financial markets are self-correcting and should be left to their own devices. President Reagan called it the “magic of the marketplace” and I call it market fundamentalism. It became the dominant creed in the 1980s. Since market fundamentalism was based on false premises its adoption led to a series of financial crises. Each time, the authorities intervened, merged away, or otherwise took care of the failing financial institutions, and applied monetary and fiscal stimuli to protect the economy. These measures reinforced the prevailing trend of ever increasing credit and leverage and as long as they worked they also reinforced the prevailing misconception that markets can be safely left to their own devices. The intervention of the authorities is generally recognized as creating amoral hazard; more accurately it served as a successful test of a false belief, thereby inflating the super-bubble even further.

It should be emphasized that my theories of bubbles cannot predict whether a test will be successful or not. This holds for ordinary bubbles as well as the super-bubble. For instance I thought the emerging market crisis of 1997-1998 would constitute the tipping point for the super-bubble, but I was wrong. The authorities managed to save the system and the super-bubble continued growing. That made the bust that eventually came in 2007-2008 all the more devastating.

What are the implications of my theory for the regulation of the financial system?

First and foremost, since markets are bubble-prone, the financial authorities have to accept responsibility for preventing bubbles from growing too big. Alan Greenspan and other regulators have expressly refused to accept that responsibility. If markets can’t recognize bubbles, Greenspan argued, neither can regulators—and he was right. Nevertheless, the financial authorities have to accept the assignment, knowing full well that they will not be able to meet it without making mistakes. They will, however, have the benefit of receiving feedback from the markets, which will tell them whether they have done too much or too little. They can then correct their mistakes.

Second, in order to control asset bubbles it is not enough to control the money supply; you must also control the availability of credit. This cannot be done by using only monetary tools; you must also use credit controls. The best-known tools are margin requirements and minimum capital requirements. Currently they are fixed irrespective of the market’s mood, because markets are not supposed to have moods. Yet they do, and the financial authorities need to vary margin and minimum capital requirements in order to control asset bubbles.

Regulators may also have to invent new tools or revive others that have fallen into disuse. For instance, in my early days in finance, many years ago, central banks used to instruct commercial banks to limit their lending to a particular sector of the economy, such as real estate or consumer loans, because they felt that the sector was overheating. Market fundamentalists consider that kind of intervention unacceptable but they are wrong. When our central banks used to do it we had no financial crises to speak of. The Chinese authorities do it today, and they have much better control over their banking system. The deposits that Chinese commercial banks have to maintain at the People’s Bank of China were increased seventeen times during the boom, and when the authorities reversed course the banks obeyed them with alacrity.

Third, since markets are potentially unstable, there are systemic risks in addition to the risks affecting individual market participants. Participants may ignore these systemic risks in the belief that they can always dispose of their positions, but regulators cannot ignore them because if too many participants are on the same side, positions cannot be liquidated without causing a discontinuity or a collapse. They have to monitor the positions of participants in order to detect potential imbalances. That means that the positions of all major market participants, including hedge funds and sovereign wealth funds, need to be monitored. The drafters of the Basel Accords made a mistake when they gave securities held by banks substantially lower risk ratings than regular loans: they ignored the systemic risks attached to concentrated positions in securities. This was an important factor aggravating the crisis. It has to be corrected by raising the risk ratings of securities held by banks. That will probably discourage loans, which is not such a bad thing.

Fourth, derivatives and synthetic financial instruments perform many useful functions but they also carry hidden dangers. For instance, the securitization of mortgages was supposed to reduce risk thru geographical diversification. In fact it introduced a new risk by separating the interest of the agents from the interest of the owners. Regulators need to fully understand how these instruments work before they allow them to be used and they ought to impose restrictions guard against those hidden dangers. For instance, agents packaging mortgages into securities ought to be obliged to retain sufficient ownership to guard against the agency problem.

Credit default swaps (CDS) are particularly dangerous they allow people to buy insurance on the survival of a company or a country while handing them a license to kill. CDS ought to be available to buyers only to the extent that they have a legitimate insurable interest. Generally speaking, derivatives ought to be registered with a regulatory agency just as regular securities have to be registered with the SEC or its equivalent. Derivatives traded on exchanges would be registered as a class; those traded over-the-counter would have to be registered individually. This would provide a powerful inducement to use exchange traded derivatives whenever possible.

Finally, we must recognize that financial markets evolve in a one-directional, nonreversible manner. The financial authorities, in carrying out their duty of preventing the system from collapsing, have extended an implicit guarantee to all institutions that are “too big to fail.” Now they cannot credibly withdraw that guarantee. Therefore, they must impose regulations that will ensure that the guarantee will not be invoked. Too-big-to-fail banks must use less leverage and accept various restrictions on how they invest the depositors’ money. Deposits should not be used to finance proprietary trading. But regulators have to go even further. They must regulate the compensation packages of proprietary traders to ensure that risks and rewards are properly aligned. This may push proprietary traders out of banks into hedge funds where they properly belong. Just as oil tankers are compartmentalized in order to keep them stable, there ought to be firewalls between different markets. It is probably impractical to separate investment banking from commercial banking as the Glass-Steagall Act of 1933 did. But there have to be internal compartments keeping proprietary trading in various markets separate from each other. Some banks that have come to occupy quasi-monopolistic positions may have to be broken up.

While I have a high degree of conviction on these five points, there are many questions to which my theory does not provide an unequivocal answer. For instance, is a high degree of liquidity always desirable? To what extent should securities be marked to market? Many answers that followed automatically from the Efficient Market Hypothesis need to be reexamined.

It is clear that the reforms currently under consideration do not fully satisfy the five points I have made but I want to emphasize that these five points apply only in the long run. As Mervyn King explained the authorities had to do in the short run the exact opposite of what was required in the long run. And as I said earlier the financial crisis is far from over. We have just ended Act Two. The euro has taken center stage and Germany has become the lead actor. The European authorities face a daunting task: they must help the countries that have fallen far behind the Maastricht criteria to regain their equilibrium while they must also correct the deficinies of the Maastricht Treaty which have allowed the imbalances to develop. The euro is in what I call a far-from-equilibrium situation. But I prefer to discuss this subject in Germany, which is the lead actor, and I plan to do so at the Humboldt University in Berlin on June 23rd. I hope you will forgive me if I avoid the subject until then.

George Soros

Sunday, June 13, 2010

RVS Overview and M3 System Philosophy

I wanted to publish this post as a follow up as to some previous posts that opened up the discussion of approach and philosophy behind my work and also many requests for more information. So, here is an overview of what RVS is about and what my approach is for modeling and markets.

First, some background. The systems are the backbone for several hedgefunds, and also run institutional and professional money on a CTA basis and via license though m3TradingServices. If you find yourself wanting to find out more, contact us directly via email The models here are proprietary and owned, designed, developed and maintained by m3 alone. They are NOT available for distribution of any kind. Currently, the systems are trading substantial live real money allocations. Additionally, the daily models support extremely large position allocations and use a MOC approach for cash markets. They are called RVS – Relative Value Systems and HLA systems.

These powerful models use non correlated measures of trend, rich and cheap and use dynamic reduced risk entry and allocation methods to build positions. There are no standard indicators used in the models save some references to an average here or there. While we have many other models, the RVS models are the work horses and are amazing for tracking the markets on a long-term basis. We use them to execute live trades, as controllers for other models and/or as well as general market indicators. We have built these models for most of the global major market indexes and focus live capital by applying it to the most liquid and easy to access markets – either cash or futures.

The philosophy behind RVS is based on single risk unhedged transactions. My belief is that the market pays for risk taking not risk avoidance. Therefore, all of my work is based on precise risk taking and measurement. I believe that standard quantitative analysis is unreliable and selective. Quants generally like correlations, and our markets are not fond of correlations anymore. Additionally, de-leveraging makes a mockery of theoretical relationships as I am quite sure it will of the fascination with HFT. Therefore, this work concentrates on risk taking in the natural sense and does NOT use stops.

Rather the approach is to use precise entries and reduced risk allocation methods with PL targeting for risk management. PL targeting is much more effective than stops and enabled 47% returns on an account basis for our futures systems in May while many were getting stopped out on nearly every trade. I believe that the markets are reverting to a more organic state and will compromise most computers and standard investment methodologies – including buy and hold, multiple asset class and market based diversification and standard and exotic hedging. Those approaches to taming these markets, in my opinion, are unlikely to achieve success. Rather a focus on precise risk taking and organic trading will work.

I think its back to the basics and that that is exactly where the market participants as a whole are not looking or unable to look. To see this in action simply look at the portfolios of insolvent entities like JPM and Goldman Tax. They are all based on hollow correlated and theoretical risk. It is impossible for them to get back to basics without going bankrupt - we need to remember that when the market senses a weakness it overwhelms it. I suspect we will see that happen and that these names among others will suffer a much worse likeness of the BP saga than can easily be imagined. This is why my work concentrates on pure risk taking and is not interested in anything other than price. Theoretical valuations, hedged risks, diversification and correlated price movements are not the focus and will never drive a trade for my systems. These traits simply introduce new risks by facilitating false assurances and confidence on risk assessment and analysis and ultimately forment complacency.

Below is a chart I posted on the 9th of June...I would like to point out that we are at 1090ish area for the ES...and that is quite near the target area for the ES Daily Swing System...the trigger could still take some time to develop or occur as soon as next week...things look like they are about to get interesting...I will keep you posted.

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