But first . . .

How you can help the people of Ukraine.

And can we please allow Ukrainian families to enter the U.S. temporarily if they have people eager to put them up?  One of the happiest things I ever got to do was house a family in the wake of Hurricane Katrina.  A great many of us, I think, would like to do the same to help Ukrainians.



Yachts And War.  (“A fleet of the 20 largest Russian-owned luxury yachts is worth more than Ukraine’s defense budget.”  But Putin is in for a world of hurt.)



Aristides Capital’s Chris Brown has done wonders over the years managing an ever-larger chunk of my IRA.  From his latest letter:


The last time I bought a Russian stock was nearly a decade ago, when we bought a tiny position in a Russian energy company trading at something like 2 times earnings as its billionaire CEO (Mikhail Khodorkovsky) was in prison for political reasons, and rumors were swirling that he might be released. Putin eventually freed the oligarch, causing the stock to rally to 4 or 5 times earnings, at which point we dumped it immediately and celebrated our lucky win. I didn’t follow the story closely after that, but roughly what happened is the Russian state expropriated the company’s assets, the stock got delisted, and shareholders sued, winning a $50 billion judgment that they will almost certainly never collect.

I had the pleasure of visiting Russia in 1996—not quite five years after defenders of democracy in the country had thwarted a coup in 1991, followed by the Soviet Union wholly collapsing—when I went to Moscow as part of a US Agency for International Development sponsored project between four American universities and four Russian universities, helping the Russians to evaluate and deploy telemedicine. A surreal press conference offered a great early lesson in the vibe of the place: the Minister of Health for the Russian Federation spoke of a new website providing much-needed services for Russians. During the Q&A, one of the Russian doctors stood up and asked for the website address (URL). The Minister replied that it would be announced soon, and the doctor quipped “All of Russia is waiting for the URL.”

Russia was not a particularly high-trust sort of place even when Putin first became President in 2000. At the time, Russia’s Corruptions Perception Index ranking was 82nd in the world (a smaller number is better). In 1996, Boris Yeltsin had given oligarchs shares in lucrative companies in exchange for loans to the federal treasury. At first, Putin did not seem to be terrible for Russia; he established certain market reforms, and the Russian economy grew considerably during his first two terms. At the same time, Putin seized television networks in 2000 and 2001, and then, in 2003, arrested Russia’s wealthiest man (Khodorkovsky), a leading funder of opposition politicians. After a 4-year hiatus from the Presidency from 2008 to 2012 (before Putin had the Russian constitution amended, it limited Presidents to no more than two consecutive four-year terms), during which time Putin served as Prime Minister and his close ally Dmitri Medvedev served as President, Putin again became President in 2012, after campaigning on a message of conservative patriotism vs. “Western-funded traitors”. Putin then cracked down on the forces of open/civil society, passing legislation controlling Russians with dual citizenship, banning various NGOs, curtailing LGBTQ rights and symbols, and criminalizing peaceful assembly.2 Subsequently, Putin’s regime annexed Crimea in 2014, intervened in Syria on behalf of dictator Bashar al-Assad in 2015, poisoned leading opposition figure Alexei Navalny in 2020, and made nearly 10 million Russians ineligible for political office in 2021 (dropping Russia to 125th place in the Corruptions Perceptions Index rankings), before launching an all-out war against Europe’s 4th most-populous country, Ukraine, last month. In the run-up to war, which Putin branded “a peacekeeping special operation,” he made transparently ridiculous arguments to the Russian people, alleging that Ukraine was committing genocide against Russians in Eastern Ukraine, that the country was run by a cadre of “drug-addled Neo-Nazis” (despite President Zelensky being Jewish) . . .

From an investment perspective, the most shocking thing to me about Russian stocks is how expensive they were before this unjustified war. I looked last week at a Russian oil & gas stock, that, like all Russian stocks, had already fallen 80 or 90%-ish. I was stunned to see that even after crashing, it still yielded only about 17% free cash flow to enterprise value. Every Russian stock I browsed was the same story; they had all been priced, pre-crisis, at least double what people should have been willing to pay for them given the embedded risks. That is nuts. For many years after the 1998 crisis, Russian stocks traded at a massive discount to developed world markets. This made perfect sense to me, as when a nation has no rule of law, and investors’ attorneys can be jailed and murdered (e.g. Sergei Magnitsky, 2009), people are rightly a little spooked. Apparently, however, investors tend to have a short memory. This amnesia isn’t unique to Russia; it even has an official name, the “peso problem,” often attributed to Milton Friedman.

In the 1970s, the Mexican peso had been stably pegged to the dollar for more than two decades. For an observer with a knowledge of only this “short-term” history or “short-term” charts, it might seem anomalous that Mexican deposit interest rates were persistently higher than those available in the United States. The difference, of course, was due to the possibility of a large, sudden discontinuous move in prices, especially a sudden devaluation of the peso were the peg to break, which of course, it eventually did. As our firm’s favorite mathematician, Benoit Mandelbrot, pointed out rigorously: financial price series are not normally distributed, but rather have large tails (i.e. a higher-than-you’d-expect probability of huge moves), and for most financial price series, as you look at them over a longer and longer period, the standard deviation tends to expand. Many markets go to zero or near infinity (e.g. German equities in local currency during the Weimar hyperinflation), or both, when observed over a long enough time span.

The peso problem makes an appearance in Nassim Taleb’s Fooled by Randomness (2001): “Long periods of stability draw hordes of bank currency traders and hedge fund operators to the calm waters of the Mexican peso; they enjoy owning the currency because of the high interest rate it commands. Then they ‘unexpectedly’ blow up, lose money for investors, lose their jobs, and switch careers. Then a new period of stability sets in. New currency traders come in with no memory of the bad event. They are drawn to the Mexican peso, and the story repeats itself… In the spring of 1998, I spent two hours explaining to a then-important hedge fund operator the notion of the peso problem. I went to great lengths to explain to him that the concept was generalized to every form of investment that was based on a naïve interpretation of the volatility of past time series. The reply was: ‘You are perfectly right. We do not touch the Mexican peso. We only invest in the Russian ruble.’ He blew up a few months later. Until then, the Russian ruble carried attractive interest rates, which invited yield hogs of all types to get involved. He and other holders of investments denominated in rubles lost close to 97% of their investment during the summer of 1998.”

The 23 years of relative prosperity (sans the 2008-2009 global financial crisis) in Russian equity markets, followed by sudden collapse, shows that you can let the institutions of civil society gradually degrade in your country and, at least from a market valuation perspective, get away with it for a surprisingly long time. Eventually, however, core institutions and the rule of law matter. Ukrainians are dying, Russians are dying, millions of lives are being torn apart, and investors are losing a ton of money. The last phrase there is the least important in the grand scheme of things, but it is part of the reason why even hedge fund managers qua hedge fund managers should care about politics. I am long-term greedy. (Also, I have four kids.) In the long run, politics affect corporate profits, equity valuations, life, and death. I cannot “shut up and dribble.” The quality of our policy is the quality of our markets, especially for Americans, who tend to have massive home country bias in our investment allocations and whose currency is the reserve currency of the world.

So where does the United States fall in the Corruptions Perceptions Index? Are we first? Second? Fifth? In 2000, when Putin was elected President of Russia, we were 14th. In 2016, when Trump was elected to lead the United States, we were 18th . By the end of his term, we were 25th. As of 2021, we are now tied with Chile in 27th place. Putin’s ridiculous war speech reminded me immensely of 2003, when I was wearing an Air Force uniform and thinking “surely Americans will turn out to protest this, surely we won’t go to war on such an obvious, flimsy pretense” (i.e. non-existent “weapons of mass destruction” in Iraq). Of course, you know what happened next. More than 4,000 U.S. soldiers killed, approximately 600,000 excess deaths in Iraq (more than 100,000 of which have been attributed directly to coalition forces), and trillions of dollars spent. And for what? What did we get? Limbs blown off, PTSD, a weakened moral standing in the world, great cable news ratings, and happy defense contractors.

Meanwhile, [what do most popular cable TV news programs] serve up every day? A constant helping of the anecdotes meant to present one particular worldview, annotated with invective, and frequently liberated not only from context, but from veracity or reality itself. Literally nobody, except perhaps a researcher doing a PhD thesis on torture or propaganda, should watch these shows. Yet this is a steady diet for many Americans, telling us how much we are under threat, both from dark outside forces and from one another. The formula is so effective and popular that it can be found to some extent in every aspect of American media. Certainly social media is an ideal hotbed for marinating, and helping others to marinate, in the most extreme partisan stories. But even traditional local TV news, and local and national newspapers, have become much more conflict-oriented and sensationalistic in order to survive.

Consumers of this shock and fear diet predictably lose further faith in our country’s institutions and one another. This breeds a willingness to turn towards authoritarianism. Humans likely have a long evolutionary history of turning towards strongmen in times of resource scarcity, so our minds see authoritarianism as reasonable when we view other Americans as “the enemy,” and we see our own noble values and good intentions “under threat.” Putin has managed to manifest a personal/collective-Russian nightmare scenario into actual physical reality—Europe is more tightly allying with the United States, Germany is suddenly committed to expanding its military budget, neutral nations are now standing against Russia, and the Russian economy is falling apart. Similarly, Americans can manifest our nightmares into reality simply by seeing the worst in one another and destroying our nation together. The last two years have seen a rash of state legislation which would diminish rights to assembly, threaten basic rights of LGBTQ children & adults, reduce the teaching of history in public schools and even some universities, make it harder to vote, and more fully enshrine one party or another in permanent power through gerrymanders.  We are at each other’s throats, and authoritarianism and corruption are the beneficiaries.

The United States controls the world reserve currency and has the most expensive major equity market in the world, by far. We trade at a premium because we have the world’s best military, the world’s most trusted central bank, excellent rule of law, the world’s best university system, and the world’s best health care technology. In the Russian state media editorial that briefly leaked on February 26, prematurely praising Russia’s anticipated easy victory in Ukraine (“Vladimir Putin has assumed, without a drop of exaggeration, a historic responsibility by deciding not to leave the solution of the Ukrainian question to future generations…”), the authors made certain to highlight American internal political strife, a strife the Russians themselves have helped foment using social media trolls and disinformation: “Europe needs autonomy for another reason as well — in case the States go into self-isolation (as a result of growing internal conflicts and contradictions) or focus on the Pacific region, where the geopolitical center of gravity is moving.”

One good thing to emerge from the very dark war in Ukraine is that Europe and the United States have been reminded of the values we mutually profess to hold dear, and of the work required to uphold them. Peace and prosperity do not build themselves; they come from justice, strong education, industriousness, natural resources, defense, allies, supply chains, and most of all, from the hearts and the will of people. As the President said in his State of the Union Address this week, “Let’s stop seeing each other as enemies, and start seeing each other for who we really are: fellow Americans.” Sound advice if we want to survive as a peaceful, prosperous nation, especially one with a high price-to-earnings multiple.




And now . . .

KLTR went public at $10 this past July, touched $14 — and I got to buy a bunch last week around $2.  (Only, of course, with money I could truly afford to lose.)

 

 

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