PBS Newshour Segment on Bubble-Spotting and China


Is China's Fast-Growing Economy Headed for a Crash?.

See more from PBS NewsHour.

Sotheby’s: The World’s Best Overconfidence Indicator?

Anyone who has witnessed a live auction in which bidding far exceeds pre-auction estimates or sets a new world record price understands there is something curious in the air. There is something electric, something indescribable, something magical. I believe that “something” is confidence, perhaps even overconfidence.

Consider the stock chart of Sotheby’s (BID:US) below, which has proven useful as a bubble indicator. A quick scan of the list of the world’s most expensive paintings finds that there are numerous chronological clusters: 1988–1990, 1997–1999, 2006–2007, and then 2011–2012. Not surprisingly, these clusters are associated with (relative) highs in the price of Sotheby’s stock. New highs in Sotheby’s stock price are an important indicator of overconfidence and bubbly conditions.

Sotheby’s (BID) Stock Prices, 1988–Present

Sotheby's (BID) Stock Prices, 1985–Present

Source: Yahoo! Finance.

At each of these times, confidence was running extremely high. In the late 1980s, for instance, Japanese art buyers domineered the market for high-end art and were responsible for numerous world record prices. Sotheby’s stock price peaked months before the Nikkei began a long decline. Likewise, the 1999 peak in Sotheby’s stock price is associated with the (irrational?) exuberance that telegraphed the tech bust. Although the buyers were different, the dynamics in 2007 were not different. Beneficiaries of easy money (hedge fund and private equity executives, among others) bought art at world record prices, driving Sotheby’s stock price to new highs. Again, the stock’s peak telegraphed the global financial crisis. The most recent peak was driven by Chinese and emerging markets buyers, possibly telegraphing a Chinese and emerging markets slowdown.

Some of my thinking about the usefulness of Sotheby’s in predicting bubbly conditions is adequately described in an article by Derek Thomson titled “The Art of Bubbles: How Sotheby’s Predicts The World Economy.” Since that piece was published, many have asked me to clarify why Sotheby’s stock price seems to telegraph bubbly conditions.

I’ll begin my answer with a question: Might the relationship between Sotheby’s stock price and bubbles merely be a coincidence? I personally do not think so, because in my eyes, Sotheby’s is a leading indicator of leading indicators of leading indicators of confidence. Specifically, there are three layers of confidence stacked upon each other that can be seen in the stock chart above: (1) buyer confidence, (2) appraiser confidence, and (3) investor confidence. Unlike the actual prices of art — which may be a reflection of buyer confidence — Sotheby’s stock price is less subject to the whims of individual buyers or of the uniqueness factor associated with specific works of art.

Not surprisingly, those that set new world record art prices tend to be those that have substantial personal resources — meaning they are usually very very rich. In short, those that pay $100mm+ for a painting are usually those that have much more than $100mm in net worth; such buyers are likely to be billionaires with significant corporate interests. Because of this connection between art buyers and corporate leadership, art markets serve as a useful indicator of corporate and global confidence. If the CEOs of major companies begin to see clouds on the economic horizon (through their corporate capacity), they are likely to scale back on their personal art buying. The inflection point when executives convert from aggressive to reluctant bidders is very unlikely to result in world record art prices. It should not be surprising, then, to note that corporate M&A activity had recent relative peaks in 1999–2000 and 2007. (There wasn’t a new M&A peak in 2011 in terms of transaction value, due in some part to the extended nature of the global credit crunch.)

Announced Mergers and Acquisitions: Worldwide, 1985–Present

Source: Dealogic.

There is an additional layer of confidence that is important to consider — auction house appraiser confidence embedded in pre-auction estimates. As new record prices are set, appraisers themselves begin increasing their estimates of what future sales should achieve. Imagine you are an appraiser of Chinese artifacts and a vase estimated to sell for between $800 and $1200 recently sells at auction for $18 million (true story!). Might you be inclined to raise your estimate of other Chinese artifacts? Higher prices yield higher estimates, which yield higher prices — until they don’t. Closely related to this appraiser confidence is management confidence. In the past, Sotheby’s management grew so confident in their appraisers that they began guaranteeing prices to prospective sellers. The result was an increase in “inventory” owned by Sotheby’s at precisely the time that the market for such art was cooling rapidly.

In addition to the buyer confidence and the appraiser confidence, there is a third form of confidence captured by the price movements of Sotheby’s: investor confidence. Because Sotheby’s stock is itself an object of investor bidding, it is a manifestation of investor perceptions and analyst estimates. As auctions go well, analysts raise earnings estimates. Higher estimates make the stock appear less expensive, drawing investor interest. Relatedly, the investor relations function at Sotheby’s exhibits variable confidence as the stock progresses and the underlying business results become obvious, thereby affecting analyst estimates.

While Sotheby’s current stock price in the low $30 per share range may not be saying very much about (over)confidence today, one can imagine a time when the stock reaches a new high. What if the stock hit $75 a share on the back of world record prices being paid by [insert country here] buyers? Furthermore, assume that the economy of [same country] were booming and its local capital markets were hitting new highs. It seems to me that it would be prudent to take a more risk-averse stance vis-à-vis investing in that country’s market.

At the end of the day, spotting bubbles is at best a probabilistic exercise and requires multiple confirmatory data points before one can say anything with conviction. Certainty is an elusive goal, but the use of multiple lenses (as I articulate in my book) can be very powerful in gaining an edge. Thus, to improve your performance in the art of spotting bubbles, focus on spotting bubbles of art.

Please note that the content of this site should not be construed as investment advice, nor do the opinions expressed necessarily reflect the views of CFA Institute.


About Vikram Mansharamani

Vikram Mansharamani is an experienced global equity investor and Lecturer at Yale University. He is also the author of Boombustology: Spotting Financial Bubbles Before They Burst and is a regular commentator in the financial and business media, having contributed to Bloomberg, MarketWatch, CNBC, Forbes, Fortune, the New York Times, the Wall Street Journal, the Atlantic, Yale Global, the South China Morning Post, the Korea Times, the Khaleej Times, Harvard Business Review, and the Daily Beast, among others. He earned a PhD and MS from the Sloan School of Management at MIT, an MS in Political Science from MIT, and a BA from Yale University. Follow Vikram on Twitter

 Harvard Business Review

Vancouver Unlikely Victim of China Slowdown


Over the past 18 months, the global fascination with Chinese economic invincibility has steadily waned. And economic sophisticates have reached a consensus: China’s growth rate is slowing. Western demand for exports is falling. And the economy is plagued by overinvestment and excess capacity in housing, steel, and a host of other sectors. Officially, China is growing at a 7.5 percent rate this year. But I guesstimate that China is downshifting. Over the next 10 years, it’s possible that China will grow at an annual rate between 3 and 5 percent.

A man walks in Stanley Park as the skyline of Vancouver is reflected in water. (Jae C. Hong / AP Photo)


The hidden story embedded in the Chinese economic “slowdown” is that investment-led growth is plunging. And the global implications are many: industrial commodities like coal and iron ore lose their China “bid”; mining companies find themselves expanding capacity in the face of slowing demand; commodity-reliant countries like Brazil find the China growth tailwind is turning into a headwind; currencies like the Australian dollar are exposed as extremely vulnerable; rail and port operators find that the volume of containers they handle is falling.

The financial press is doing a good job discussing these direct impacts of China’s growth slowdown. But there are plenty of other indirect, second-order impacts that have been ignored.

For instance, the impact of the Chinese economic slowdown on art markets, something I’ve wrote about in this space, has been dramatic—with the share price of Sotheby’s falling by almost 50 percent over the past 18 months.

Another possible casualty of the slowdown may be high-end real estate in Vancouver. Just as the marginal buyer driving art markets has become the über-wealthy Chinese, so too have Chinese buyers come to dominate the market for posh residences in Canada’s gateway to the Pacific.

“Vancouver has been a popular destination for Chinese, driven in large part by its proximity to China and its spectacular feng shui,” notes Jamie MacDougal of Sotheby’s International Realty. The surge of Chinese interest began in earnest following the Tiananmen Square massacre. Vancouver emerged as a safe place to park capital. A long-standing Canadian policy has offered citizenship to foreigners willing to make substantial investments. But MacDougal notes that Chinese offshore buyers arriving in Vancouver spiked to truly unsustainable levels in 2011, during which bidding wars were regular events and property values rose by the week. Check out the chart below.

Vancouver Real Estate


The current market, notes MacDougal, has changed from one in which Chinese speculators were trading among themselves to one in which the market is “flooded with inventory” and “mainly Chinese sellers” are responsible for the supply. MacDougal’s thoughts are backed up with hard facts. The Real Estate Board of Greater Vancouver notes that in September 2012, the number of transactions of detached, attached, and apartment properties fell 32.5 percent from September 2011. Further, the total number of residential property listings increased by 14.1 percent over the same period—with 4.1 percent of that increase occurring in August 2012 alone. Anecdotal evidence of waning Chinese interest appears to conform to the actual data.

Given this dynamic of rapidly rising supply, it would not be surprising to most observers if prices were falling rapidly. This has not been the case. According to Eugen Klein, president of the Real Estate Board of Greater Vancouver, “prices in the region remain relatively stable overall.” Again, the raw numbers seem to validate his view: average home prices in the Vancouver area were down a mere 0.8 percent between September 2011 and September 2012. It sure seems like we are witnessing stable prices in the face of rising supply and falling demand.

 “Vancouver has been a popular destination for Chinese, driven in large part by its proximity to China and its spectacular feng shui.”

In trying to understand the dynamics driving prices in real estate, it is extremely important to note the illiquid nature of the asset. Barring situations of severe financial distress or noneconomic decision making, sellers are rarely forced into accepting prices at which a market might clear. Rather, they can hold out for better times. Unfortunately, it only takes one divorce-related or estate sale to shift expectations lower in a step function. It may just be the case that high-end Vancouver real estate is loftily suspended, awaiting such a nasty correction.

Remember this cartoon? Wile E. Coyote is running after the Road Runner and eventually finds he has run off a cliff. For a few seconds, his feet are still frantically pumping, and he continues (albeit more slowly) to move horizontally. After a brief period of vertical suspension, however, gravity kicks in, and he plummets straight down. Owners of high-end real estate in Vancouver may soon relearn the lesson that gravity eventually exerts its force—even on the prices of scarce real estate.

Vikram Mansharamani is a Lecturer at Yale University, a Tiger21 Scholar, and the author of Boombustology: Spotting Financial Bubbles Before They Burst. Follow him on twitter @mansharamani.

That Which Grows, Slows


One of the most consistently problematic decision-making biases is the overweighting of recent data and personal experiences. Psychologists Daniel Kahneman and Amos Tversky attributed this tendency to what they called the "availability" heuristic (rule of thumb): our minds give inordinately heavy weighting to the most readily available/recent/vivid data and experiences. This causes us to believe that the future will likely resemble the most recent past. As a result, we tend to extrapolate prior trends into future estimates in many domains, ranging from career and compensation expectations to global macroeconomic projections. Unfortunately, it is usually when conviction in these expectations is highest (i.e. the trend has been intact for a while) that mis-estimation is most likely to end with violent disappointment.

This is especially true with exponential growth. The fact is, all growth is unsustainable. I encourage anyone doubting this statement to view the video by physicist Al Bartlett on YouTube, which has been modestly labeled "The Most Important Video You'll Ever See" and has been viewed more than four million times. The approximately 80-minute lecture highlights how exponential growth interacts with population and energy dynamics to create a disturbing outlook for the future of our planet. Might our inability to understand the inherent nature of growth as unsustainable also be affecting our ability to navigate investing, economic, and career uncertainty?

Consider the value of Facebook as both a private and public company, as chronicled recently by the Wall Street Journal. In the summer of 2004, Peter Thiel's initial investment in the just-started company valued it at $4.9 million. In May 2006, Facebook raised money at a $500-million valuation. By May 2009, the company was being valued at $10 billion. By the time Facebook went public last May, the number had surged to more than $100 billion. Might it have been that investors were willing to suspend analytical reasoning (i.e. valuation) in favor of trend extrapolation? That seems like a good bet; since the IPO, Facebook's share price has fallen meaningfully.

Another example can be found with projections for Chinese economic growth, which I believe continue to be higher than warranted. The Chinese economy is slowing drastically, leaving huge excess capacity in its wake. Take the steel industry. China today represents approximately 50% of global steel production and consumption. Most of this steel is being used as an input into infrastructure and real estate construction. Iron ore is a key input in the steel production process, and one that China regularly imports. Why is it that iron ore capacity continues to grow today, despite strong evidence of a slowdown in demand for steel? One possible reason is that mining companies extrapolated prior Chinese growth when making multi-billion-dollar, multi-year expansion decisions. Due to the lag between a decision to expand a mine and actual increases in capacity, today's growth is based on yesterday's assumptions of Chinese growth. The forthcoming bust in iron ore may be in part due to analysts blindly extrapolating historical growth rates.

A final example comes from the domain of career management. I recently had a drink with a friend who has been in the investments business (broadly defined) for two decades. Before 2008, annual pay increases of 25% were commonplace (he says they averaged 18% per year). Since then, his pay has gone down 10% a year. While he acknowledges that he likely was overcompensated during the good years, and that his current compensation is still objectively generous, he remains fixated on the prior trajectory. He ratcheted his expectations, assuming that his income and responsibilities would continue to rise.

Given his compensation was approaching the seven-figure mark in 2007, how much growth should he really have expected? To assume his prior compound annual growth rate of 18% would have implied a doubling in his compensation every four years. It also implies he would be earning more than $125 million per year by the time of his retirement. Again, I'm not suggesting such projections are definitely wrong, but they do appear to be statistically unlikely. By having more realistic expectations, he would likely have avoided the negative morale shock that has been weighing on his sense of career satisfaction lately. Better yet, more modest projections would likely have driven greater satisfaction and a grander sense of accomplishment if/when reality exceeded them.

Nothing has ever grown forever. As such, it should be obvious, as the mutual fund disclaimers regularly warn, that "past performance is no guarantee of future results." Perhaps the time has come to modify the disclaimer to be more reflective of underlying reality: "future performance will likely not resemble past results."

Vikram Mansharamani is a lecturer at Yale University, a Tiger21 Scholar, and author of Boombustology: Spotting Financial Bubbles Before They Burst (Wiley, 2011). Follow him on Twitter @mansharamani.

As China Sneezes, Will the World Catch a Cold?

Deflated demand: China’s slow down means less iron ore exports from Brazil (top); gold from Australia (bottom)

NEW HAVEN: Over the past three years, there’s been a remarkable transformation in global perceptions about the sustainability of Chinese growth. As Europe faltered and the US fought a massively oversupplied housing market, China managed to sail through difficult global economic conditions and seemingly avoided the difficulties that ensnared much of the West. In 2010, the world was convinced that Chinese economic growth would save the world. China had grown to become the world's second largest economy and many extrapolated this trend to the day that China would be larger than the United States. Few questioned this belief, and investors titled their portfolios towards assets that would fare well in a world of strong continued Chinese growth.

The sustainability of China's high growth rates is now being questioned, and with good reason. Headline GDP growth was 7.6 percent in the most recent quarter, the sixth straight quarter of slowing growth. Chinese officials at the highest levels regularly comment today about measures to support continued growth. Benchmark interest rates were cut in June and July, and while real estate markets have recently demonstrated some resilience, prices remain – on average – below last year's levels and inventories are noticeably high. Recent earnings reports from multinational corporations continue to confirm the official data: China is slowing, with significant implications.

The credit-fueled investment boom is ending, with serious ramifications for the supply-chain to China. The short of it is that China has simply built too much stuff, and while it will eventually need the currently empty malls, buildings and infrastructure – one can even add entire cities to this list! – demand for the raw materials used to build them will plunge. Given that approximately 75 percent or so of recent Chinese GDP growth has come from capital investing, building less stuff in China has the potential to cut growth rates to the low- or mid-single-digit range.

Figure 1. Big consumer: Investors fear that China’s purchases of raw materials will plunge. Enlarge Image

While the list of casualties may be quite long, three of Wall Street’s favorite investments appear particularly vulnerable; two other expected “casualties” may actually stumble through without much pain.

As a result of its building boom, China has had a domineering influence on the market for industrial commodities. The magnitude of Chinese demand on selected industrial commodities is noteworthy: more than 60 percent of global demand for cement and iron ore, more than 40 percent for steel and aluminum in 2011. Inspired by strong growth in demand for their products over the past several years, many mining companies have embarked on multiyear expansion projects – with an underlying assumption of continued growth in Chinese demand.

Reduced demand from China combined with expanded supply will lower prices. Consider iron ore, selling for ~$50/ton in 2007. In 2011, it was trading for ~$200/ton at one point and was recently quoted ~$110/ton. If the Chinese building boom busts, demand for iron ore, a key input in steel-making, will surely plunge. Iron ore could revisit the ~$50/ton price point, if not lower.  In general, however, it’s conceivable that India and other emerging markets could pick up the slack capacity of what are fundamentally scarce resources in the long-run – more than 5 years).

Australia, in particular, is in the cross-hairs of a slowdown in Chinese investment spending as it’s a major supplier of key industrial commodities – bauxite, alumina, gold iron ore, lead, zinc, uranium, aluminum, brown coal and more. Years of strong growth from China have also led to a continued influx of immigrants participating in the booming mining business, resulting in inflationary pressures in both labor and housing markets. Many of the Australian mines have expanded to meet an expectation of continued Chinese demand growth.

Figure 2. Trouble ahead? The Australian dollar appears vulnerable against declines in raw-materials prices, left, and the mining industry, right. Enlarge Image

The risk of commodity weakness infecting Australia's banking and housing finance system is quite high because most mortgages are kept on the books of banks. Investors should exercise caution when investing in Australian assets -- be they equities, debt, or even the Australian dollar (Figure 2). As a relatively high-yielding option in a low-yield world, Australian sovereign debt has benefited from strong inflows of yield-hungry capital. Mid-single digit yields, sufficiently attractive to date, may not appear adequate in the face of currency declines exceeding the yield.

A material slowdown in China will affect other emerging markets despite arguments about decoupling. Even if one believes that the real economies of the emerging markets have decoupled due to domestic consumption drivers – though in China, for instance, consumption accounts for about a third of GDP (versus more than 50 percent in both India and Korea) – it’s clear that the financial markets remain interconnected. In fact, if anything, the emergence of exchange-traded funds and other pooled investing products has created greater financial interconnections than ever before.

Further, the mere fact that India, China, Russia, Thailand and other developing countries are pooled into a single asset class known as "emerging markets" connects them via portfolio managers that view them as linked. If Russia were to fall by 20 percent, for instance, and all other markets were flat, emerging-markets managers would find themselves overweight non-Russia markets. Indiscriminate selling might follow as portfolio managers rebalanced, generating the financial contagion all desperately sought to avoid.

In addition, approximately 25 percent of the S&P 500's earnings is directly derived from emerging markets, with a large amount (perhaps around 20 percent), coming indirectly from emerging markets. Unfortunately, this means that multinational corporations may soon find that earnings are harder to grow than previously expected.

A credit-fueled investment boom is ending, with serious ramifications for the supply-chain to China.

While it is not impossible, it seems unlikely that the world is about to descend into a multi-decade debt-deflation spiral.  Some areas may not be so vulnerable.

Paradoxically, China probably won’t be a severe casualty of a massive deceleration in investment spending.  Social stability is on the top of Chinese leaders’ minds, particularly as the country goes through a leadership transition. They will deploy all resources at their disposal to prevent social unrest that might emerge from slower economic growth. And even if the country grows GDP at roughly 3 to 5 percent per annum over the next decade, that’s impressive growth that will result in a significantly larger middle class: Consumption as a percentage of GDP is destined to rise, creating winners amidst the wreckage and placing the Chinese economy on a more resilient foundation.

Several commodities are not as affected by the China factor as industrial commodities, specifically agricultural and energy commodities. The middle classes of India and China are growing rapidly, even if GDP rates slow in these countries, and accompanying this growth is demand for animal protein and transportation fuels. Families, accustomed to adding some chicken or pork on top of their rice for dinner, are unlikely to cut back to just rice. Likewise, the demand shock to energy is growing as individuals go from riding bikes to mopeds, to motorcycles and cars. Such demand trends are unlikely to reverse. Hence, the globe can anticipate higher prices for food and fuel commodities for the foreseeable future.

Last year, most analysts expected the Chinese economy to eclipse the US economy within 10 years. The combination of a rapid Chinese slowdown and a US renaissance driven by American agriculture and natural gas, i.e, food and fuel, may in fact push the crossover date out by years, if not decades – making analyst credibility perhaps the most visible of casualties.


Vikram Mansharamani is a lecturer at Yale University and the author of Boombustology: Spotting Financial Bubbles Before They Burst. Follow him on Twitter @mansharamani

Keep Experts on Tap, Not on Top


Among the many qualities that distinguish successful leaders from millions of less-successful executives in the world is an awareness of the limits of their knowledge. They know what they know, they appreciate what they don't know, and they have a healthy respect for what they don't know they don't know. In short, they have great meta-knowledge.

Meta-knowledge can be thought of as a lack of hubris, an intellectual humility of sorts. Those who see the world probabilistically seem to better navigate volatile environments because they are wired to embrace uncertainty. They understand that they don't know anything with 100% certainty and are therefore open to ideas different from their own.

The psychologists Daniel Kahneman and Amos Tversky demonstrated quite convincingly that we human beings are not the model-optimizing "rational" actors that many economists historically believed we are. One of their key findings was that humans are consistently overconfident, suggesting that we generally have poor meta-knowledge. We tend to think we know more than we actually know. A corollary of this result is that we also tend not to know what we do not know.

In my experience, experts are among the least successful predictors in times of massive uncertainty. This is not to suggest that experts don't have significant and valuable knowledge; quite the opposite, they likely do. Rather, it implies that they think they know more than they actually do and therefore exhibit more confidence than is warranted. The result: a significant number of very visible expert predictions have gone embarrassingly wrong.

Consider for instance, two books that made it to the top of the bestseller lists: The Population Bomb and The Great Depression of 1990. The first, by Stanford biologist Paul Ehrlich, noted in 1968 that "the battle to feed all of humanity is over...in the 1970s, the world will undergo famines — hundreds of millions of people will starve to death...." Ehrlich failed to appreciate the possibilities of the "Green Revolution" which dramatically increased agriculture's productivity. Incidentally, the green revolution was already underway when Ehrlich wrote his book, he just didn't grasp the potential impact. The Great Depression of 1990, by Southern Methodist University economist Ravi Batra (which stayed on the bestseller list for 10 months in hardcover and over 19 months as a paperback), totally missed the technological developments that made the 1990s among the most productive decades ever.

Lest we conclude it's only doomsday experts that miss the mark, it's worth highlighting that Yale economist Irving Fisher noted on October 17, 1929 that "stocks prices have reached what appears to be a permanently high plateau," a mere days before the Great Crash welcomed the Great Depression. And of course, there's James Glassmann and Kevin Haskett's Dow 36,000, published in 1999, mere months before the Dow Jones Industrial Average began a slow, long, and painful decline.

Many of these "experts" adopted single-discipline approaches to developing insights; they were, to use the language of my prior HBR blog post, "specialists." They were truly knowledgeable within their domain, but it was often developments outside of their domain that derailed their predictions. They failed, it seems, to have a broad enough perspective.

Generalists, on the other hand, are those who have broad knowledge but lack deep domain expertise. Most generalists do not claim to be expert at anything, making them psychologically more receptive to ideas distant or different from their own. They are, it seems, more aware of what they do not know and understand that there is a large body of information that they do not know they do not know.

Why does this matter? When facing massive uncertainty, as exists in today's highly interconnected global economy, it is essential to appreciate both what one does know as well as what one does not know. Such logic is not shocking, but it has significant ramifications for how one should manage his or her career, and how organizations should manage their human resources. Specifically, the best decision-makers (i.e. leaders) in times of uncertainty are likely to be those who possess above-average skepticism and intellectual humility. Individuals should therefore seek career paths that constantly put them in unfamiliar roles and through which they can learn what they don't know. The feedback one receives through these roles will likely improve one's intellectual self-awareness.

Another interesting implication is that specialists and experts should be seen as resources to tap into when needed. They have a very valuable role to play; it just may not be as a leader. (Of course, the ideal would be to develop expertise in dozens of domains en route to becoming a leader, but that may make for a very long career trajectory.) My friend Michael W. Sonnenfeldt, founder of Tiger21, a peer-to-peer education group for high-net worth individuals, has eloquently observed a key insight: "Many of us have learned it's best to keep experts on tap, not on top."

More blog posts by Vikram Mansharamani

Vikram Mansharamani is a lecturer at Yale University, a Tiger21 Scholar, and author of Boombustology: Spotting Financial Bubbles Before They Burst (Wiley, 2011). Follow him on Twitter @mansharamani.

All Hail the Generalist


We have become a society of specialists. Business thinkers point to "domain expertise" as an enduring source of advantage in today's competitive environment. The logic is straightforward: learn more about your function, acquire "expert" status, and you'll go further in your career.

But what if this approach is no longer valid? Corporations around the world have come to value expertise, and in so doing, have created a collection of individuals studying bark. There are many who have deeply studied its nooks, grooves, coloration, and texture. Few have developed the understanding that the bark is merely the outermost layer of a tree. Fewer still understand the tree is embedded in a forest.

Approximately 2,700 years ago, the Greek poet Archilochus wrote that "The fox knows many things, but the hedgehog knows one big thing." Isaiah Berlin's 1953 essay "The Fox and the Hedgehog" contrasts hedgehogs that "relate everything to a single, central vision" with foxes who "pursue many ends connected...if at all, only in some de facto way." It's really a story of specialists vs. generalists.

In the six decades since Berlin's essay was published, hedgehogs have come to dominate academia, medicine, finance, law, and many other professional domains. Specialists with deep expertise have ruled the roost, climbing to higher and higher positions. To advance in one's career, it was most efficient to specialize.

For various reasons, though, the specialist era is waning. The future may belong to the generalist. Why's that? To begin, our highly interconnected and global economy means that seemingly unrelated developments can affect each other. Consider the Miami condo market, which has rebounded quite nicely since 2008 on the back of strong demand from Latin American buyers. But perhaps a slowdown in China, which can take away the "bid" for certain industrial commodities, might adversely affect many of the Latin American extraction-based companies, countries, and economies. How many real estate professionals in Miami are closely watching Chinese economic developments?

Secondly, specialists toil within a singular tradition and apply formulaic solutions to situations that are rarely well-defined. This often results in intellectual acrobatics to justify one's perspective in the face of conflicting data. Think about Alan Greenspan's public admission of "finding a flaw" in his worldview. Academics and serious economists were dogmatically dedicated to the efficient market hypothesis — contributing to the inflation of an unprecedented credit bubble between 2001 and 2007.

Finally, there appears to be reasonable and robust data suggesting that generalists are better at navigating uncertainty. Professor Phillip Tetlock conducted a 20+ year study of 284 professional forecasters. He asked them to predict the probability of various occurrences both within and outside of their areas of expertise. Analysis of the 80,000+ forecasts found that experts are less accurate predictors than non-experts in their area of expertise. Tetlock's conclusion: when seeking accuracy of predictions, it is better to turn to those like "Berlin's prototypical fox, those who know many little things, draw from an eclectic array of traditions, and accept ambiguity and contradictions." Ideological reliance on a single perspective appears detrimental to one's ability to successfully navigate vague or poorly-defined situations (which are more prevalent today than ever before).

The future has always been uncertain, but our ability to navigate it has been impaired by an increasing focus on studying bark. The closer you are to the material, the more likely you are to believe it. In psychology jargon, you anchor on your own beliefs and insufficiently adjust from them. In more straightforward language, a man with a hammer is more likely to see nails than one without a hammer. Expertise means being closer to the bark, and less likely to see ways in which your perspective may warrant adjustment. In today's uncertain environment, breadth of perspective trumps depth of knowledge.

The declining returns to expertise have implications at the national, company, and even individual level. A collection of specialists creates a less flexible labor force, one that requires "retraining" with technological developments creating constantly shifting human resource needs. In this regard, the recent emphasis in American education on "job-specific" skills is disturbing. Within a company, employees skilled in numerous functions are more valuable as management can dynamically adjust their roles. Many forward-looking companies are specifically mandating multi-functional experience as a requirement for career progress. Finally, individuals should manage their careers around obtaining a diversity of geographic and functional experiences. Professionals armed with the analytical capabilities (e.g. basic statistical skills, critical reasoning, etc.) developed via these experiences will fare particularly well when competing against others more focused on domain-specific skill development.

The time has come to acknowledge expertise as overvalued. There is no question that expertise and hedgehog logic are appropriate in certain domains (i.e. hard sciences), but they certainly appear less fitting for domains plagued with uncertainty, ambiguity, and poorly-defined dynamics (i.e. social sciences, business, etc.). The time has come for leaders to embrace the power of foxy thinking.

Vikram Mansharamani is a lecturer at Yale University, a Tiger21 Scholar, and author of Boombustology: Spotting Financial Bubbles Before They Burst (Wiley, 2011). Follow him on Twitter @mansharamani.

Foodstock 2012


A steady stream of Lincoln town cars delivering confident executives.  Unbridled enthusiasm in the air, record attendance, and eager attendees seeking pictures with the keynote speakers.  An assassinated former president was reincarnated with impressive accuracy to provide for audience entertainment.  Professional videos were prepared to tout the industry’s successes.

Mortgage bankers convening in 2007?  Nope, the scene I describe was from the USDA’s Agricultural Outlook Forum in late February in the Washington DC area.  Attendance at last week’s event exceeded two thousand, and included farmers, politicians, regulators, agribusiness executives, bankers, and academics from around the world.

Might the collective confidence of the event’s attendees indicate an irrational exuberance that is destined to reverse?  Was the widespread enthusiasm and economic success (farm income exceeded $100bn in 2011) sustainable?  Was the “life is good” attitude indicative of a bubble before it bursts?

I have been a student of booms and busts over the past 20 years and have developed a set of indicators for identifying bubbles.  Two in particular seem relevant to the study of agricultural conditions today.  First, there is a always a believable story of how “it’s different this time” and the inevitable (over)confidence and invincibility that accompanies such a feeling.  Second, moral hazard (via government guarantees or downside price protection) makes for a “heads I win, tails you lose” risk environment.  With respect to agriculture, both of these indicators suggest the situation is not sustainable.

It was hard not to notice the celebratory tone that hailed the many impressive accomplishments of US agriculture.  In many ways, the success of agriculture has generated a sense that good times will continue indefinitely.  I was gently (and regularly) reminded that the USDA touches every American since we all eat food.  It was repeatedly mentioned that Lincoln referred to the department as the “People’s Department” and that while 50% of Americans lived on farms in 1862 (the year Lincoln established the USDA), today 2% of Americans live on farms that produce a surplus that is exported to a hungry world.  Record land prices drew some discussion of bubbly dynamics – but rationalizations of how “it’s different this time” seemed to win the day.  Demand from emerging middle classes in the developing world provided strong support for the belief that we are in a new era of agricultural prosperity (i.e. that it’s “different this time”).

As is typical of most bubbles, past trends are extrapolated into the future to paint a picture of continuing good times ahead. The pinnacle of last week’s events was a plenary session moderated by Secretary of Agriculture Vilsack that included 7 former Secretary’s of Agriculture discussing the future of agriculture in America.  It was noteworthy that the 8 members on stage included republican and democratic appointees, lawyers, farmers, and legislators.  While the event was truly a “love-fest” in that everyone was praising everyone else about how great a job everyone was doing, there were some noteworthy exceptions from former secretaries who commented on the sustainability of US agriculture and implied heavily that the current good times were unlikely to continue indefinitely.

Clayton Yuetter, Secretary of Agriculture from 1989-1991, noted “the antidote to high prices is high prices; the antidote for low prices is low prices.”  While an appealing intellectual construct, USDA supports policies that contradict this perspective.   The counter-cyclical and marketing loan programs both allow for farmers to not consider prices when making planting decisions.  Lower prices don’t deter production as government subsidies effectively create the moral hazard-induced asymmetric risk-reward trade-off.

Given these two very concerning dynamics, it is not surprising that John Block, Secretary of Agriculture from 1981-1986, suggested the USDA’s “strength and power and influence in the halls of government and in the nation” are at risk in a time of budget cuts.  He even suggested the USDA change its name to the “Department of Food, Agriculture, and Forestry” in order to maintain control of the food programs (~70% of the annual budget, includes food stamps, school lunches, and other nutrition programs) and the forest service (manages ~193 million acres and employs more people than any other group within the USDA).  His specific rationale: USDA would be at risk of losing its cabinet level status without the size and breadth of these two programs.

Why should cabinet status drive inappropriate organizational structure?  Birthdays are wonderful times to celebrate the past, but they are also appropriate times to reconsider plans for the future.  As the USDA turns 150 this year, we should consider if the food and nutrition programs actually belong in it.  Might these programs be more appropriately placed in the Department of Health and Human Services? Or, as mentioned by Secretary Block as a risk, perhaps the Forest Service should be relocated to the Department of the Interior.  Frankly, even the underlying agricultural subsidy programs should be reconsidered.  Should American taxpayers be providing subsidies to an industry that posted record profits in 2011?  The time to reduce or remove subsidies is now, while prices are high and pain of removing them minimal.  Further, the Farm Bill should be rewritten from scratch, not modified incrementally from Depression-era policies that in many cases are no longer relevant.

Reorganizing the USDA and rewriting the Farm Bill might remove some of the hot air supporting the bubble dynamics in agriculture today.  The USDA has inadvertently contributed to overconfidence and moral hazard, much to the detriment of taxpayer resources.  The fiscal tightening that appears necessary might best begin by grabbing the “low-hanging fruit” (pun intended!) at the USDA.  The time has come to return the People’s Department to the people.

Vikram Mansharamani is a Lecturer at Yale University, a TIGER 21 Scholar, and author of Boombustology: Spotting Financial Bubbles Before They Burst.

Food Bubble Is Expanding US Waistlines


In the housing boom that lasted from 2001 to 2007, highly motivated investment bankers capitalized on historically low interest rates, abundant liquidity, government- sponsored housing finance, political encouragement to make housing accessible to all, and mortgage-interest tax policies to create a securitization party of unrivaled scale and scope.

The hangover from this toxic cocktail continues to plague the global economy: The world still struggles with too much debt, the threat of deflation and the painful prospect of more deleveraging.

Similar dynamics are at work in the global food system: Forces are combining to create another dangerous bubble. This food bubble, like the housing one, has grown from a system that is focused on generating efficiencies through high volumes, which generate lower prices and increased consumption. The commoditization of loans and crops, supported by government policies to keep prices low, has led to overconsumption of credit and food — resulting in a highly leveraged society, and a national obesity epidemic.

Just as bankers created loans for standardized mortgage pools, most farmers now produce predominantly for commodity markets. And just as bankers stopped caring about their customers’ financial health, or even their ability to repay loans, farmers, under the heavy influence of government programs, have increasingly stopped growing food for the benefit of the people who eat it. In fact, industrial farming is generally not even producing “food,” but rather inputs for what author Michael Pollan calls “edible food-like substances” — processed foods.

Bushels of Corn

Consider corn. While some of it is actually consumed as food (for example, “on the cob”), most is converted into animal feed, ingredients for processed food or feedstock for ethanol. The price of most corn grown in the world is based on qualitative variations from the benchmark No. 2 grade corn. By the U.S. Department of Agriculture’s definition, a bushel of No. 2 grade corn weighs about 54 pounds and contains no more than 5 percent damaged kernels and less than 3 percent broken corn and foreign materials. Just as unsophisticated buyers blindly bought AAA rated mortgage securities, so does the corn industrial complex readily accept all No. 2 grade corn. Similar dynamics exist for other commoditized crops, such as wheat and soybeans.

U.S. government policies have promoted the production of high-volume commodity foods. These policies date to the early 1970s, when poor harvests in the Soviet Union and bad weather in the American farm belt caused crop prices to skyrocket. U.S. News & World Report and Time magazines dedicated cover stories to food inflation and its social impact.

To prevent grocery prices from soaring 20 percent or more, Earl Butz, the secretary of agriculture in the Nixon and Ford administrations, made a series of policy changes designed to lower food prices. He did away with some loans to farmers, government grain purchases and incentives for leaving land idle during times of low crop prices. And he replaced them with direct payments to farmers to make up any difference between the market price and an artificial price floor.

Rather than discourage farmers from growing more crops when market prices were low, the new policy motivated them to produce more, regardless of price. The floor, which has been regularly adjusted, set a price at which farmers could effectively sell an infinite supply. Ballooning crop volumes drove prices lower, which, in turn, increased consumption.

Similarly, in 2001, when the Federal Reserve lowered short- term interest rates — to fight the deflationary forces from the popping Internet bubble — the price of money was driven lower, and that increased the use of debt.

Price of Calories

In the past 30 years, food prices have fallen, on average, 1 percent per year, according to an analysis from the Department of Agriculture’s Economic Research Service. During the same period, the daily average calorie consumption in the U.S. has risen about by an average of about 400 calories, or about 18 percent.

There’s reason to think that the low price of food has led people to eat more of it, and especially the kinds of foods that are subsidized by U.S. agricultural policy. Consider that overconsumption is not spread evenly across food groups, but rather predominates among processed foods containing ingredients such as corn, wheat and soybeans, whose prices are heavily influenced by government policies.

Flour and cereal products account for 39 percent of the total increase in average American food consumption since 1980 – - about 155 additional calories — while whole foods not supported by agricultural subsidies are not being eaten much more today than before: The average American’s intake of fruit rose by a mere 6 calories over the past three decades, and calories from vegetables were flat.

In 2004, a dollar could buy more than 1,000 calories of cookies or potato chips, or 875 calories of soda, but only 250 calories of carrots or 170 calories of fruit juice, according to Adam Drewnowski, a professor of epidemiology at the University of Washington and director of the Center for Public Health Nutrition in Seattle. In other words, agricultural subsidies cause the least healthy calories to be the cheapest.

Given that about 3,500 calories is equivalent to a pound of body weight, it is easy to see that extra calories are a major contributor to our obesity epidemic — alongside inadequate exercise and a poor diet. Furthermore, given the strong linkages between obesity and cardiovascular disease, diabetes and other illnesses, our industrial food system appears to be no more sustainable than our pre-2008 housing-finance system.

Another unintended consequence of producing food in such large volume is that the bigger the yields per acre, the fewer nutrients the crops contain. Donald R. Davis of the Biochemical Institute at the University of Texas in Austin has looked at the evidence regarding the relationship between yield and nutrient content. The studies comparing high-yield and low-yield varieties of corn, wheat and broccoli show, in his words, “uniformly inverse associations between yield and nutrient concentrations.”

Food and Health

In a time of strained budgets and rising medical costs, we must think more broadly about the health effects of our food system. To ignore the connection between agricultural policy and public health would be as wrong as to ignore the link between housing policy and financial regulation. Presidential campaign debates and the renewal of the farm bill in 2012 may offer a platform for the conversation. Let us begin by redesigning agricultural policy to minimize incentives for overproduction and encourage the production of healthy calories.

Two agricultural subsidies, in particular, should be greatly reduced or eliminated: the marketing-loan program and the countercyclical-payments program. The marketing-loan program, which allows farmers to borrow using their crops as collateral, effectively enables farmers to lock in a minimum price via non-recourse loans. If market prices are lower than the government-set target price, farmers are not required to pay back the full loan amount. Yet if prices are higher than the target price, they keep the difference. Countercyclical payments act as their name suggests: When prices are lower, subsidy payments are higher — enabling farmers to again lock in minimum prices. Both subsidies focus disproportionately on commodity crops.

These programs create de facto price floors, allow farmers to ignore crop prices when deciding how to allocate land, and effectively encourage overproduction. From 1995 to 2010, the Department of Agriculture spent more than $50 billion on these programs. Eliminating them would save enough money not only to subsidize the farming of fruit, vegetables and other healthy foods, but also to sponsor education programs on how careful eating and exercise can reduce or prevent obesity. Acting now could help keep today’s cheap food and expanding waistlines from adding to tomorrow’s high health-care costs.

(Vikram Mansharamani, who teaches a seminar on financial booms and busts at Yale University, is the author of “Boombustology: Spotting Financial Bubbles Before They Burst.” The opinions expressed are his own.)

To contact the writer of this article: Vikram Mansharamani at vikram.mansharamani@aya.yale.edu (Twitter: @mansharamani)

To contact the editor responsible for this article: Mary Duenwald at mduenwald@bloomberg.net

(Originally published in Bloomberg View 2012.  Reprinted with permission.  The opinions expressed are those of the author)

Five Money Moves One China Bubble-Buster Is Making


5 money moves one China bubble-buster is making

Money Talks

Record art prices, empty shopping malls are clear warning signs

December 27, 2011|Laura Mandaro, MarketWatch

SAN FRANCISCO (MarketWatch) -- Investing’s holy grail, spotting a bubble before it busts, may be two parts science, one part art and a large dose of luck.

In the brew concocted by Vikram Mansharamani, a former private-equity investor and current Yale University lecturer who recently penned a book on the subject, a range of hard and soft indicators from ballooning credit to record art prices have been raising Chinese bubble flags for the past year.

But he has some ideas on where to find refuge if the Chinese growth engine slows from around 9% to 4% -- his projection for the country’s average growth rate over the next decade.

In sum, short the commodities producers and related assets These could include Brazilian stocks, the Australian dollar (US:AUDUSD)  and resource conglomerates such as BHP Billiton (US:BHP) (AU:BHP).

“I’m not optimistic on commodities, commodity countries, and anyone supporting the investment boom in China,” he said.

Yet a longer-term view that certain natural resources are facing tight conditions makes him favor a certain breed of commodities investments, namely those that promise payouts further in the future because of untapped reserves.

“Emerging markets will continue to grow. They may grow at slower rate than people think, but as they grow, demand for oil will rise and we will see signs of supply struggling to keep up,” he said.

Peaks and panicMansharamani, who is teaching a course at Yale on — what else — spotting the next market boom and bust, is first and foremost worried that China is on the same unsustainable run that took U.S. home prices, Internet stocks and Japanese equities to peaks and then panic.

As he wrote “Boombustology” in the summer of 2010, he looked at indicators from the number of empty shopping malls in China to record prices fetched at art auctions (some jacked up by wealthy Chinese buyers) and the building of new record-high skyscrapers. In past booms, he says, such gauges have signaled a coming bust.

“My single biggest fear is that China will be dramatically slowing, and with it will expose significant overcapacity in industrial commodities” and emerging markets, he said.

Since Mansharamani first spoke to MarketWatch for this article in October, plenty of indicators have shown the Chinese dragon is starting to look a little piqued. Related stocks and commodities prices have already fallen hard.

Chinese manufacturing surveys from November showed the sector slipped into contraction, the weakest readings since 2009. In late November, the People’s Bank of China appeared to respond to possible strains on its economy by cutting a requirement on bank reserves. Read more on sharp deterioration in business conditions and Read related item on China easing on the Tell blog.

Loosening of credit “is the biggest admission of a weakening economy that any country can give,” Mansharamani said in a mid-December interview. “I think my thesis is playing out.”

And the Shanghai Composite (CN:000001) has dropped to 2009 levels, setting off alarm bells among U.S. and European investment strategists who view it as a bellwether for Chinese growth. Read more on Shanghai Composite's drop.

1. Short global supply companiesIf these data points are only the start of a more profound retreat, global shipping companies are particularly vulnerable, Mansharamani said.

That’s because the industry is still adding new capacity as it fulfills orders made when global growth and shipping demand was on a tear.

A sharp cooling in Chinese growth could ripple across the global supply-chain industry, from banks that supply trade finance to port operators to logistics firms.

“Anyone involved in feeding the investment beast in China will be seen as having too much capacity,” he said.

The industry is already suffering. Some fear many companies could be forced into bankruptcy if China growth slows abruptly.

In November, oil-tanker operator General Maritime Corp. (US:GMRRQ) filed for Chapter 11 bankruptcy protection, citing a drop in tanker rates. Shares of shipping operator Frontline Ltd. (US:FRO) have sunk 84% this year. DryShips Inc. shares (US:DRYS) have fallen 60%. Read WSJ story on General Maritime.

2. Short industrial metals and their producersChina this year accounted for more than 50% of world demand growth for aluminum, copper, lead, nickel and zinc, according to Bank of America Merrill Lynch. Not surprisingly, a halving of its growth rate would also further depress prices for these metals — and their producers.

Already, copper’s   24% drop since July has been flashing red flags about the global economy.

Shares of big metals producers such as Freeport McMoRan Copper & Gold (US:FCX) , U.S. Steel Corp. (US:X) , Rio Tinto (US:RIO) (AU:RIO) and Vale (US:VALE)  have lost about a third or more of their market value this year — compared to a near-flat showing for large U.S. stocks.

“I’d be cautious on industrial commodities for which supply constraints don’t seem as tight,” he said.

What’s made Mansharamani so worried about China?

In addition to some basic economic measures, such as how plentiful credit is, Mansharamani also looked at indicators that suggest extreme overconfidence.

The art market is a great prism for clusters of wealth among certain groups, such as Russian oligarchs in the last decade and U.S. Internet investors in the 1990s or Japanese business executives in the 1980s. Auction house Sotheby’s (US:BID)  stock price has risen and fallen with each of these trends, he notes. In April, shares topped $55, a stunning nine times above its March 2009 lows.

In March, Asian art week in New York brought in a record sum, stoked by competitive Chinese buyers.

“When you hear a lot about world record art prices, beware, that’s unsustainable,” Mansharamani said. Read feature on China’s art-market boom. While Chinese are still flocking to art and wine auctions, prices aren’t hitting new records. Read WSJ wine blog article .

3. Avoid Brazil, South Africa and AustraliaBrazil, South Africa, Australia and Canada are all closely linked to China’s growth because of the huge role natural-resource exports play in their economy. Some have already started to shudder on global growth concerns. And if a Chinese pullback turns into a stampede, they’ll suffer, Mansharamani said.

Brazil in the third quarter shocked some investors when economic growth braked. An iShares exchange-traded fund that tracks the Brazilian market (US:EWZ) has slid 25% this year. The real (US:USDBRL) has dropped 12%.

Australia’s economy looks particularly vulnerable because a China-spurred natural resource boom has had a spillover effect into the jobs, housing and banking markets, Mansharamani said.

“If China slows, mining companies slow down the need for people; what happens to the housing market and the banks that hold the mortgages?” he asks. Read related feature on dangers facing Australia housing market.

4. Go long oil Mansharamani’s got a view that oil and food, over the long-term, will face tight supplies conducive to higher prices.

With that in mind, companies that are sitting on a large resource portfolio rather than already producing -- or getting ready to tap reserves -- at a rapid clip are best positioned.

“The market overestimates the value of high-production companies in both fertilizer inputs and oil,” he said. “I believe you want to own companies with high reserves that look cheap on a reserve basis.”

Anadarko Petroleum Corp. (US:APC) , for instance, has a exploration portfolio whose resource size, relative to the size of the company, rivals that of oil majors like Exxon Mobil Corp. (US:XOM), according to oil-stocks analyst Michael McAllister at Sterne Agee & Co.

Noble Energy Inc. (US:NE) also has a comparatively large resource portfolio, McAllister said; he has buy ratings on both.

5. Buy agricultural stocksA long-term bullish view on global demand for basic commodities also makes Mansharamani positive on agricultural investments, such as fertilizer stocks and food producers.

Key factors that government food supply — such as water and fertilizer ingredients — risk severe constraints.

“In the next 40 years we may see peak potash,” he notes.

Plus, even if China slows to an average 4% growth a year, that moderate increase in wealth means a growing number of families are able to spend more on food.

“With a little bit of growth, you can put meat on top of your rice.”


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