|
"At
particular times a great deal of stupid people have a great deal of stupid
money... At intervals, from causes which are not to be the present purpose,
the money of these people – the blind capital, as we call it, of the
country – is particularly large and craving; it seeks for someone to
devour it, and there is a 'plethora'; it finds someone and there is
'speculation'; it is devoured and there is 'panic'."
– Walter
Bagehot, 1826-1877, editor-in-chief of The Economist
What
to make of the mini-debacle now unfolding in Dubai? Is it a tempest in a
teapot (and thus to be ignored), or the start of something more?
There
was once a time, many moons ago, when $60 billion was a lot of money.
(That’s how much Dubai World, a government-owned entity, holds in
liabilities with no sure promise of bailout.)
In
terms of giant, smoking credit craters, Lehman Brothers was a heck of a lot
bigger. So was AIG.
And
yet, while Dubai “may not be the next Lehman or AIG,” The Wall Street Journal
opines, “it could offer up some nasty surprises for the world’s
banking system.”
An
analyst at Deutsche Bank – where they are masters of spotting the
obvious – further notes, “The situation in Dubai may be a
controllable event, but it reminds us how much governments are potentially on
the hook for all over the world.”
Bubble
City
Weep
not for Dubai World’s angry creditors. The authorities certainly
aren’t.
In
response to the budding crisis, Sultan Nasser al-Suweidi, the central bank
governor of the United Arab Emirates, reportedly offered this little gem:
"I
have an advice for foreign investors. They should study available investment
opportunities and conduct realistic feasibility studies to make sure they are
real opportunities with no risk.”
Your
humble editor laughed out loud on reading that. The Sultan might as well have
said, “You pays your money and you takes your chances.” Or, a bit
more succinctly, “Caveat Emptor.”
Dubai,
you see, was a “Bubble City.” Not just figuratively, but
literally – at least as far as the planners and schemers were
concerned.
“A
few years ago,” the FT
reports, “[advertising] said that the emirate would build a
‘bubble city’... a development of restaurants and museums suspended
above ground by helium balloons [ed. note: !!] and surrounded by a
transparent enclosure.”
Transparently
speaking, anyone willing to invest in a vision of that sort – a literal
pie-in-the-sky scheme, assuming the restaurants serve pie in Dubai –
just had to
be an idiot. (Or perhaps a hedge fund manager...)
Thank
the Economists
The Dubai
foolishness begs a question. To channel Bagehot, why are investors so stupid
at times? Seriously... what on Earth possesses people to pour non-trivial
amounts of capital into such harebrained schemes?
On at
least one level, one can blame the economists and efficient market theorists.
These academic types are like bartenders who deny the existence of
alcoholics.
“Rational
economic man” is always and everywhere sober, these pointy-headed
idiots say. And thus, if all market participants are sober, public
drunkenness cannot exist in the marketplace... and thus all prices put forth
by the market are rationally and soberly justified.
This
moronic assertion, bolstered by layers of Ivy League credibility, encourages
investors to ignore signs of mania (just as the barfly waves off friendly
hints that perhaps he should call it a night). As the evening wears on, the
drink becomes more and more intoxicating... but no one admits to being tipsy,
let alone drunk as a skunk. Total inebriation ensues.
Pretending
that bubbles do not exist, in other words, makes it far easier to grow and
sustain the bubbles that do actually appear – with the
government’s helping hand in most cases.
Questions
and Contagion
As
with the increasingly bizarre Tiger Woods affair, there are plenty of juicy
details left to the Dubai story.
An
undercurrent of political tension buzzes between Dubai and its rich big
brother, Abu Dhabi. (Both countries are part of the U.A.E., or United Arab
Emirates, but not as tightly linked as one might imagine.) Questions abound
as to how well creditor’s rights will hold up if Dubai World
implodes... and what M.E. investment flows will look like in the aftermath.
There
is also question as to whether Dubai’s troubles will prove contagious.
A handful of other countries – notably Greece – are looking very
shaky. Will creditors with exposure to heavily leveraged schemes and flimsy
asset structures in other locales take a hint?
In
your editor’s view, those who view the Dubai trouble as
“contained” are whistling past the graveyard. (Come to think of
it, didn’t Treasury Secretary Hank Paulson describe the subprime crisis
as “largely contained” back in 2007?)
Whether
Dubai is the first domino in a chain or more of a one-off type event,
investors have been rudely reminded of just how flimsy the whole rotten
structure still is. When one ponders the embedded risks and mounting
government liabilities, it becomes clear that stimulus-addicted Western
economies aren’t that much better off than Dubai.
Then,
too, there is the “when to sell” question. As we head into
December – historically the strongest month of the year for equities
– mutual fund managers are faced with a dilemma. Should they go for one
last ramp into the holidays to cap off an über-bullish year... or let
discretion be the better part of valor and book gains before they evaporate?
With increasing risk of someone yelling “fire!” in a crowded
theater, Dubai argues for the latter.
The
True Nature of Bubbles
But
getting back to bubbles... as a tutorial on the true nature of bubbles, Dubai
is exquisite. (If Edward Chancellor ever updates Devil Take the Hindmost, his excellent
history of manias throughout the centuries, the Bubble City will surely get a
chapter.)
The
thing to remember about a bubble – and the thing Dubai shows so clearly
– is that it
always starts with a good story. You can’t have a bubble
without a story. And not just any story, but a damn compelling story. One
that gets people excited... motivated... convinced on the merits of rock-solid
evidence to first tiptoe in, then wade in, then dive in with abandon.
Then,
too, you need a certain amount of glitz and glamour. Dubai had both in
spades. The tiny outpost of just 1.2 million people (per 2006 estimates,
including expats and migrant construction workers) boasted a glittering array
of the most over-the-top real estate projects on the planet, including
man-made, palm-shaped islands and a $650 million six-star hotel (the second
tallest in the world).
Dubai
was to be a financial oasis in the desert – a modern mecca of global
capitalism. The Middle East needed such a place... global capital flows could
easily support it... and big brother Abu Dhabi offered a psychic backstop in
the form of hundreds of billions’ worth of oil money right next door.
Investors
considered all these things and effectively decided that, given the
opportunity, no price was too high to pay. And that is exactly how bubbles
form. The compelling nature of the story, combined with the age-old influence
of human nature (and investors’ love of a good thrill ride), leads to
the taking of a good thing and blowing it all out of proportion.
This
is why, when it comes to investing, valuation is critical (as my friend Kent said yesterday).
When it comes to riding along for the long term, it is not just the power of
the story, but the price
one pays that makes the difference.
Will
bubbles ever stop blowing? Probably not. After all, the psychology of the
Dubai fiasco would be instantly recognizable to Walter Bagehot, and he died
back in 1877 (note opening quote). When it comes to flights of fancy and
full-on departures from reality, the Dubai fiasco was far from the first...
and it will certainly be far from the last.
Justice
Litle
Taipan Publishing Group
Justice
Litle is the Editorial Director of Taipan Publishing Group
|
