HAGIN News Flash

AR Magazine: "Regulatory balance is key for functioning markets" by Patrick Morris

2011-12-21T07:56:00.000-08:00

Regulatory balance is key for functioning markets

01 Nov 2011

By Patrick Morris

Occupy Wall Street’s protesters are calling for more regulation of banks, derivatives and executive compensation to make the system more equitable; in other words, they are calling for Wall Street to clean up its mess.

Wall Street has responded by saying that regulation is an impediment to profitability and prevents job creation. So who is right?

Actually, it is not easy to say that deregulation creates a better business environment, nor is it possible to defend regulation as a quick-and-easy fix to corruption or economic displacement. The wide range between no regulation and hyperregulation ultimately leads to a functional regulatory equilibrium—or regulibrium.

The tragic history of regulation is written in blood and suffering. The Great Baltimore Fire of 1904 changed building codes, the sinking of the Titanic changed maritime safety codes, and the Triangle Shirtwaist Factory fire changed fire codes. Both the owners of the Titanic and the Triangle Shirtwaist Factory were found innocent of wrongdoing and even received significant insurance settlements because they were in compliance with the law of the day — even though more than 1,500 people drowned when the Titanic sank and 146 people were killed when the Triangle Shirtwaist Factory burned. All died brutally and needlessly.

At the time of the global economic collapse of 2008, bankers, traders, insurance executives, money managers and regulators were for the most part in compliance with the relevant laws and regulations. This is why there have been few indictments and prosecutions, and like the Titanic and Triangle executives, they got bailed out.

Compliant though they may have been, they should have seen the collapse coming as a multitude of voices warned of impending catastrophe. Unfortunately, most people don’t want to bite the bullet of a slight decrease in profits to protect the overall health and safety of the system.

The reluctance to enact regulatory changes in the U.S. is driven increasingly by the rapid globalization of commerce and fear that our laws will inhibit us from competing in this new global landscape. However, this assumes that regulation will take away our competitive edge. Before 2008, Canadian bank executives fought vigorously to amend the 1991 Canadian Bank Act, which prevented them from participating in the types of activities that got U.S. banks in so much trouble. Now, because of that insightful regulation, Canadian banks are some of the strongest and most competitive banks in the world.

Before the recession, the argument for global commerce was, “European banks have brokerage firms, insurance, and asset management — if they have it and we don’t, we lose.” The result was good-bye, Glass-Steagall Act, and hello, Gramm-Leach-Bliley.

The unintended consequences may have led directly or indirectly to the greatest economic downfall in U.S. history since the Great Depression. The middle ground, where banks are neither all-powerful nor rendered completely impotent, is the place we should be aiming for now.

Imagination leads to innovation, but the failure of imagination can lead to disaster. Car makers were slow to introduce seat belts and air bags since they felt that they made a car appear unsafe. Now that we know that seat belts and air bags save lives, we wouldn’t consider a car without them. Financial regulation needs to be a proactive, not reactive process: We need to imagine the accident. The treasury markets and corporate bond and equity markets are heavily regulated, but they also work. They have been tested in major shocks, but they have rebounded and, most importantly, have found price stability without significant intervention after decades of substantial regulatory changes, starting in the 1930s.

So how do you fix the problem? Accept that totally unregulated, underregulated or deregulated industries can create situations leading to catastrophic failures and needless human misery. As financial services professionals, we should be proactively searching for rules and restrictions we can live with and trying to maintain a sensible outlook when it comes to the possible long-term benefits of a few impediments caused by some regulation. It is our responsibility, not because we want regulations, but because we will lose our ability to self-regulate if we don’t get it right on our own.

Just like the Wall Street protesters in Zuccotti Park, Wall Street itself needs to clean up its mess before it gets out of hand or we get driven out entirely. Let’s get to regulibrium we can live with instead of regulation that is forced upon us.

Patrick Morris is the chief executive officer of Hagin Investment Management, a quantitative hedge fund firm in New York.

HAGIN Article Featured in IMCA's "Investments & Wealth Monitor"

2011-06-27T07:01:00.000-07:00

HAGIN's lead portfolio manager, Nathan Lee, CFA, associate portfolio manager, Kyle Cox, and HAGIN's CEO, Patrick Morris together authored the article "Asset Allocation in a Crash Prone World." The article was peer-reviewed by the board of IMCA's "Investments & Wealth Monitor" and it was selected to be included in there March/April 2011 issue. Please visit this link to view the article in full: http://www.vertexcommunication.com/HAGIN/IWM11MarApr_AACrashProneWorld.pdf

1st Annual Investor Symposium Day Two

2010-06-29T08:35:00.000-07:00

HAGIN CEO, Patrick Morris contributes article to AR Magazine, June Issue

2010-06-14T10:34:00.000-07:00

"The flight to crap is on borrowed wings" - by Patrick R. Morris

http://www.absolutereturn-alpha.com/Article/2579145/Search/The-flight-to-crap-is-on-borrowed-wings.html?Keywords=Patrick+Morris

Why today feels like late 2007, but isn’t!

2010-05-04T13:26:00.000-07:00

Last week was not an orderly deterioration of quality but a sudden onslaught of what MIT professor Andrew Lo calls high serial correlation, which is his new measure for liquidity events. We got four outsized quality spread inversions in the span of one week! Today we are getting better than expected manufacturing numbers, but Nasdaq, which has the highest beta-to-growth among the broad indices is selling off the worst. These events imply that there are underlying issues which could be precursors to even larger displacements in the market.

Though it may feel like late 2007 today, we doubt we are headed for a repeat of a looming 2008. For one, the amount of leverage in the market is far less and two, far more companies are in much better shape today, with stronger balance sheets than they had back then. One concern may be a lack of liquidity. However, with a large amount of cash, in the form of treasuries, sitting on the sidelines throughout this rally I would hope that value buyers will flood into the market—limiting this to a 10% to 15% correction. A raising VIX and continued concerns about Greece will also likely inspire the quality rally that we have been looking for.

Despite the Snow Last Night's amfAR New York Gala was a Smashing Sucess!

2010-02-11T07:44:00.000-08:00

We applaud the work done by the amfAR AIDS Research foundation. They raised over a million dollars for AIDS research last night and put on one heck of a show! We loved the performances by Lady Gaga and Rufus Wainwright. But Meryl Streep stole the show when she sang the Irish song "The Parting Glass" for the late AIDS research champion, Natasha Richardson.

Patrick Morris Featured in Hedge Funds Review's Article: "Market Uncertainty and Volatility Influences Investor Risk Appetite"

2010-02-01T11:48:00.000-08:00

We must not forget that return is a function of risk. Heading into 2008, many lost sight of this basic truth. Now as we recover from 2008 and 2009, the mood heading into 2010 is radically different. Many of the largest investors in the US and Europe are liability-driven – pension funds, retirement plans, endowments, foundations. Although they may not use the classic liability-driven investing approach, they do have liabilities they must fund. These investors who are 100% funded will be very risk-averse, choosing equity market neutral, global macro, currency and commodity strategies targeting low volatility. The underfunded investor or plan will have to balance two discordant themes: the need to preserve capital and the need for high rates of return. These investors will be forced to allocate into low-volatility strategies to protect against declines in their fixed-income portfolios but are also likely to seek high returns in distressed debt, distressed real estate, commodities and emerging markets. Given the large number of underfunded investors, the general risk appetite will be surprisingly high in 2010.

Quote from Hedge Funds Review Article: "Market Uncertainty and Volatility Influences Investor Risk Appetite" January 2010 Issue

Patrick Morris Featured in Hedge Funds Review's Article: "Plethora of Strategy Choices for 2010"

2010-02-01T11:38:00.001-08:00

The 2009 rebound was driven mostly by steep declines in equity values in 2008 – a dead cat bounce that is not likely to extend into 2010 without company fundamentals improving. Fixed-income investors may be in real trouble heading into 2010. Interest rates are likely to rise as recovery in the US accelerates. What starts as a trickle could turn into a torrent of panic. Fixed-income investors may see the low volatility they have come to rely on fade to distant memory. Commodities, currency and distressed debt are likely to work in 2010. Demand from China and India will continue to drive crude oil prices and base metals higher. Concern over a collapse in the dollar will drive gold, platinum and silver prices. The commodity bubble will re-inflate to the rally cry of $200 crude and $2,000 gold. Global economy uncertainty will mean a field day for currency traders. The propensity for countries to defend their currency will create volatility, which nimble traders will be able to exploit. Increased availability of credit and a stabilizing economy will bolster the corporate balance sheet. Distressed debt investors will enjoy exceptional returns. If you are in the right place, 2010 will be the right time.

Quote from Hedge Funds Review's Article: "Plethora of Strategy Choices for 2010" December 2009 Issue

Happy Holidays!

2009-12-21T12:04:00.000-08:00

We wish all of our readers a happy holiday and wonderful 2010!

Dubai: A Sign of the Times or a Sign of Things to Come?

2009-11-30T14:01:00.001-08:00

Dubai and Abu Dhabi, the UAE’s most prominent neighbors, share a historically complicated and famously competitive relationship. However, Abu Dhabi is unlikely to risk tarnishing its global banking relationships and will ultimately provide a resolution to the $60 billion Dubai World debt. But the question still begs, is the news from Dubai nothing more than another blip on the radar screen or does it point to a much larger issue?

Dubai, whose landscape is marked by construction cranes, is almost exclusively a real estate and lodging driven economy. Its $60 billion dollars of debt represents a frightening 90% of its GDP (primarily real estate-related), but only 20% of the UAE’s overall GDP. The total value of outstanding debt backed by office buildings, shopping malls and other commercial real estate is $3.4 trillion according to the Wall Street Journal. However, it is unlikely that bankers or politicians will find it a convenient time to start turning over this rock. The last thing that either party needs is a second leg down caused by a commercial real estate panic.

The reaction to Dubai’s news in global equity markets suggests this event was largely unexpected and left many wondering―are enough investors talking about commercial mortgage-backed securities (CMBS) risks? For example, reports came out that the September 2009, 3.9% CMBS delinquency rate was many times higher than the .54% rate from September 2008. Over the same time period, CMBS Special Servicing exposure also rose from less than 1% to over 6.5% and CMBS Special Servicing Unpaid Balances grew significantly higher from less than $10 billion to over $50 billion.

Logically, Dubai, as the real estate-based economy could serve as a barometer for the global real estate market. If the situation in Dubai is only the beginning of things to come, than investors should be increasingly wary of equity and bond markets coming into the new year.

Flight to Low Quality

2009-11-11T08:04:00.000-08:00

By all accounts, the recovery in the US equity markets has been pretty remarkable over the past 7 months—however, I hesitate to take a breath of relief. Why? Because over the past quarter we have witnessed a phenomenon that often occurs late in recoveries…a flight to low quality stocks. During the bleakest months of the recent bear market, many companies teetered on the edge of collapse as credit facilities froze. The energy sector, particularly smaller, highly leveraged Exploration and Production companies have been beneficiaries of this process. E&Ps are not alone, manufacturing, industrial and materials have also seen big rebounds in equity prices.

What is troublesome is that factor perversity is not a sustainable trend. Companies in distress will at times present very attractive investment opportunities, but not without risks. This has given rise to a large number of high frequency and distressed funds that have opened in the past year. While I cannot argue with the principal of “go where the money is,” I can reasonably predict that when the music ends there will not be enough chairs. In effect, a small number of investors will reap the lions share of profit from this flight to low quality.

Furthermore, if the bear market is over, then the tendency will be toward an inflationary environment. As rates rise, the cost of borrowed money will increase and the financial pressure will be back on the capital intensive companies. If the bear market is still in place and the magnitude of the ‘dead cat bounce,’ is amplified by the magnitude of the 2007-2008 decline, low quality, highly leveraged companies will also underperform. We may be at a tipping point in the markets, which is why it is important to securitize balance sheets and income statements before the music stops.

Send your comments to Patrick Morris at pmorris@haginim.com

The opinions herein are those of Patrick Morris and do not necessarily reflect those of HAGIN Investment Management. This is not a solicitation to buy or sell securities.