6 am pacific

Insider Trading

Raj Rajaratnam the boss of Galleon, a hedge fund in New York was arrested on Friday for being the mastermind of an insider trading network. That network included people in other hedge funds, private equity funds, consultants and corporate executives – all involved in trading insider information on public companies for profit.

In my four years at Gridstone, I met many hedge funds on sales calls. We offered a research platform with deep data on public companies which should have been of interest to any analyst who invested in public companies based on their fundamentals. But slowly I realized that there were very few in the hedge fund world that actually researched companies to any depth. Most just “traded the news” or were what is called “momentum traders”.

There were reasons for this. Understanding companies requires time and application. At about twenty companies in one or two industries, you start hitting the ceiling of what is possible for one analyst to cover. Hedge funds often don’t have the assets to be able to afford that many analysts.

But I think the real reason is that it is too damned difficult to beat the index just analyzing companies based upon publicly available information. Everyone is seeking an informational edge over the market. Some of this edge is through channel checks and such legal but proprietary sources. Much of it is through rumors – legal but quasi-public. And some of it is through insider information.

Informational edge is a slippery slope at the bottom of which lies insider information – the most alpha-producing informational edge. If you are a high achiever like most hedge fund managers are, and you have profited from proprietary information in the past, it is almost irresistible to cross the line. It doesn’t help that the difference between the difference between a rumor and insider information is only in how the information was procured. A rumor very well could have started its life as insider information. On large caps, placing a bet that is significant for the fund but small enough to escape being noticed is not too difficult. My belief is that insider trading is far more common than what one major bust every few years will make it seem like.

For Raj Rajaratnam and Danielle Chiesi this was about their hedge funds’ performance. But why did Anil Kumar and Rajiv Goel get involved in this? Perhaps the price of admission to invest in Galleon – which was ironically a fund whose performance was based on insider trading – on their tips.

The other irony here is that two of the major players in the insider trading ring are of Indian origin. So is the prosecuting attorney – Preet Bharara – US attorney for the Southern District of New York.

KenKen Puzzles

KENKEN Puzzles - NYTimes.com-2

In the last two months I have gotten hooked on to a puzzle called KenKen. It is similar to Sudoku, but different. I never played Sudoku much so I am not the best person to do a compare and contrast. But like Sudoku it comes to us from Japan. It was invented by Tetsuya Miyamoto, a Mathematics professor.

Will Shortz of the New York Time explains how to play it.

The New York Times has other coverage, besides hosting new puzzles every day.

Try it. It’ll give you hours of enjoyment. Also, if you have school going children, especially elementary school kids, this is a good way to make practicing arithmetic or logic, fun.

Leaving the Kindle On During Takeoff

airplane The last time I took a flight somewhere with my newly acquired Kindle, I was posed with this dilemma – should I turn my Kindle off during takeoff and landing? Or should I pretend that I was just reading a book that looked a little different?

Now the airline rules are very clear and are rigorously implemented by the airline crew:

1. All Portable Electronic Devices (PED) must be switched off during takeoff and landing.
2. No wireless devices can be operated during the flight.

The second rule is pretty unambiguous in how it should apply. All cellphones, laptops and devices with WiFi – anything with an RF signal – must not be turned on during the flight. The Kindle does have a cellular signal which can be easily turned off. Not a problem – the wireless anyway drains the battery real fast and its probably a good thing that you have to turn it off in case you had it on at the time.

Financial Transaction Tax

Philippe Douste-Blazy, the Chairman of Unitaid and the former French foreign minister writes in an op-ed in the New York Times about how the world could come up with the funds to meet the United Nations Millennium Development Goals

The one untapped source that could easily provide the amount of money needed is the foreign currency market, which handles almost $800 trillion in trades annually, all of which is untaxed. A tiny levy of 0.005 percent on transactions involving the world’s most traded currencies — the dollar, the euro, the pound and the yen — would raise more than $33 billion annually for development, while not hurting the market or affecting the average international traveler.

What’s So Difficult About a Gas Tax?

Tom Friedman in his latest column Real Men Tax Gas writes about a gas tax that could potentially fund healthcare, reduce the deficit and still have some leftover to make it up to people who can’t afford the tax:

Such a tax would make our economy healthier by reducing the deficit, by stimulating the renewable energy industry, by strengthening the dollar through shrinking oil imports and by helping to shift the burden of health care away from business to government so our companies can compete better globally. Such a tax would make our population healthier by expanding health care and reducing emissions. Such a tax would make our national-security healthier by shrinking our dependence on oil from countries that have drawn a bull’s-eye on our backs and by increasing our leverage over petro-dictators, like those in Iran, Russia and Venezuela, through shrinking their oil incomes.

Does Complexity Have Regressive Social Effects?

I have written about the virtues of simplicity in business before. But when I look around things are getting more and more complex.

Take the tax code for instance. The US tax code is so complex it is almost impossible to deal with for the average tax payer. An example of this is the Flexible Spending Account.

The FSA is supposed to give the tax payer a tax deduction on healthcare expenses that are not covered by their health insurance. It includes deductibles, co-pays and some kinds of health care expenses that are typically not covered by health insurance.

So far there’s not much you can object to. But the implementation is where it gets tricky. At the beginning of the year the employee must elect the amount to be deducted from their pay towards funding their FSA account. They can’t spend more than what is pre-funded in their accounts. If they spend less, they lose the money!

To me this seems hare-brained. If you are expenses go way over say because of some dental surgery expenses where the copays are high, you are out of luck if you didn’t foresee this at the beginning of the year. If your expenses are well under at the end of the year, you either lose the money or in the last month go hog wild buying OTC drugs that you don’t need. Who wants to see their own money go waste?!

Pay for Performance is Difficult to Implement

In the current debate on healthcare I’ve started hearing something that is quite familiar – pay for performance. The notion is simple – doctors should be paid based on patient outcomes not on the volume of work (fee-for-service). Its intent is easy to agree upon, but terribly difficult to implement.

In the Consulting and IT Services we have seen performance or outcome based pricing go through the entire hype cycle without getting any adoption to speak of. It’s not that customers didn’t want it enough or that vendors dragged their feet. It is just too hard to do. As a result, whenever I have seen pay for performance in contracts they have been in the form of bonuses that have never been big enough to impact vendor profitability seriously.

Pay for performance will be difficult to achieve in US healthcare as well. For reasons that are not very different from why they didn’t work in the IT industry. Here are the challenges:

Digital Book Economics

kindle_2_-_front I got a Kindle recently and have so far enjoyed it. In almost every respect it beats the experience of reading the dead tree version. It is light and portable. I read non-fiction more than fiction and I hate lugging around the heavy hard cover. Turning pages (no paper cuts!) and bookmarking are both better. It seems to be perfectly designed to be read while working out on an elliptical. Font size control is a boon for those of us over 40. If you want a new book, buying it and downloading it wirelessly is dangerously simple and quick. I foresee bigger contributions to the Amazon.com empire from the Pradhan family.

There are a few disadvantages of course. The biggest one is the price. At $360 or so you don’t want to leave it on the airplane! You can’t loan a book to someone else. Books with illustrations won’t offer the same experience for a while (no DC comics on the Kindle so far). You are forever tied to amazon.com as your supplier of books. Much like the lock-in that music downloads from iTunes created for the iPod until Apple also moved to mp3 downloads. Funnily, the DRM that the publishers insist on creates a lock-in that benefits the device manufacturer the most.

Kindle, and hopefully other e-books, will change the economics of the book publishing industry. I can’t say if it will be for better or for worse for the publishers (probably worse) or authors (probably better). But the readers will certainly have more choice. And this can be very, very good for Amazon’s shareholders.

Funny Chart

Andrew Biggs compares spending on veterinary services and healthcare spending in the US. The case he makes is that the issue with healthcare is not the rate of growth of spending but the absolute amount of spending. He presents this chart as evidence of both. But it is a totally inappropriate way to represent the data.

The first thing that the chart hits you with is that the ‘slope’ of both lines is roughly the same. And the fact that Biggs’s conclusion is that the growth rate over the period is roughly the same for both might lead you to think that they are connected. But they aren’t. The lines are on different scales and so a comparison of slopes is meaningless. If you interpolate the data points, you get growth rates over the entire period of 267% for healthcare and 261% for vetcare. Close enough that the conclusions don’t change. But that’s not the point.

A chart of this kind (Y1/Y2) is the wrong choice to show similar growth rates. I could take any two time series and design the Y1, Y2 scales in such a way that they appear to be growing at the same rate. The right way of doing this would be an indexed chart such as is used to compare the performance of two stocks or a stock against an index.

indexed-chart

The Broader Context of Swatting Flies

obama-could-hurt-a-fly-the-caucus-blog-nytimescom A couple of weeks back, President Obama swatted a fly in the White House. It did not go unnoticed in the media. Since this blog is about global trends, it would be remiss if I didn’t cover this important event and put it in the context of fly-swatting around the world.

The President is clearly a fit man with great reflexes. During the election campaign he sank a three pointer on demand for the camera which earned him my everlasting admiration. This time he swatted a fly that was bothering him during an interview in the White House. Nailing a fly is never easy, however, I am somewhat skeptical about the bona fides of the White House fly. Was it a house fly? If so, is it possible that the North American house fly is an entirely different species from the flies that I grew up with in India? They do look somewhat fat and happy over here, compared to the lean, mean third world variety. I don’t believe – and I say this from considerable experience – that a human being can swat one of those Indian flies with their hands. With a fly swatter, maybe, but not your bare hands. I mean no disrespect to the Prez, but that fly was not the real thing.