Stranded Fossil Fuel Assets and the Carbon Bubble

In following the topic of economic bubbles, it’s worthwhile looking into what’s called the “Carbon Bubble.” The idea behind the Carbon Bubble has to do with stranded assets — assets that are on the books of a company but that can never be exploited for profit. This is potentially the case with companies that are in the business of extracting and exploiting fossil fuels — coal, oil, and gas. The problem is that such fuels are causing climate change and are thus becoming increasingly subject to regulation. It’s possible that a significant volume of fossil fuels now on the books of coal and oil companies will never come to the surface and will eventually have to be written off at massive loss.

This problem was well explained recently by Joel Makower at GreenBiz.com — see “Exxon, stranded assets and the new math.” Makower’s piece was prompted by an announcement that ExxonMobil, the U.S.’s largest energy company, will be releasing the first Carbon Asset Risk report by any such company. A press release from Arjuna Capital says that the forthcoming report “will provide investors with greater transparency into how ExxonMobil plans for a future where market forces and climate regulation makes at least some portion of its carbon reserves unburnable.”

ARB — 25 March 2014

 

Warren Buffett: What’s So Great About Gold?

Gold coins and ingotsWarren Buffett, in a recent article in Fortune (“Warren Buffett: Why stocks beat gold and bonds,” 9 Feb 2012), identifies three major categories of investments — currency-based investments, sterile assets, and productive assets.

In his article, Buffett makes some comments about gold that are sure to be controversial. He classifies gold under the category of sterile assets — “assets that will never produce anything, but that are purchased in the buyer’s hope that someone else — who also knows that the assets will be forever unproductive — will pay more for them in the future.” (Photo: Linked from Buy Silver Gold)

Then he goes on to write,

What motivates most gold purchasers is their belief that the ranks of the fearful will grow. During the past decade that belief has proved correct. Beyond that, the rising price has on its own generated additional buying enthusiasm, attracting purchasers who see the rise as validating an investment thesis. As “bandwagon” investors join any party, they create their own truth — for a while.

He then goes on to draw a contrast between the investment value of today’s $9.6 trillion of gold and an equivalent amount of truly productive assets. With that same $9.6 trillion, he says, “we could buy all U.S. cropland (400 million acres with output of about $200 billion annually), plus 16 Exxon Mobils (the world’s most profitable company, one earning more than $40 billion annually). After these purchases, we would have about $1 trillion left over for walking-around money (no sense feeling strapped after this buying binge)” — a set of investments much more likely to produce value in the future than that big block of gold.

I’m certain there are good arguments against it, but I find his reasoning sensible and interesting. He also refers to the 17th-century tulip bubble, which I have written about previously — see “The ‘Tulip Mania’ Economic Bubble: Source of a Myth?

AB — 10 February 2012

Speculative Bubbles: Good for Innovation?

In a 2009 presentation, IT pioneer Bob Metcalfe argues that

Speculative bubbles accelerate technological innovation.

So he argues that we should “try not to outlaw bubbles,” but adds the warning that one should

Just be sure to have a chair when the music stops.

(See Metcalfe’s presentation “Enernet: Internet Lessons for Solving Energy.”

I would be hard-pressed to argue that the real-estate bubble was a good thing, except that it revealed the extreme perversity of the financial services industry. But I have long felt that the so-called “Internet Bubble” of the 1990s was a great thing in many ways, except possibly for investors swept along in the exuberance. The money and effort that were funneled into developing Internet startups helped to fuel an important surge of technology innovation and an intensive training period for new technologists and innovators, and we are still benefiting from that surge today.

In the notes from his presentation, Metcalfe adds some notes that are right on-point:

We saw from the many Internet Era bubbles that investment, speculation, inflation, competition, and collapse are tools of innovators against the status quo. Bubbles accelerate technological innovation. DC’s reflex (the reflex of the status quo) with each bursting of a bubble is to outlaw bubbles. This is counterproductive.

In the Internet Era, we had many bubbles, including generations of bubbles in memory, storage, LANs, wireless, PCs, spreadsheets, Internet browsers, databases, operating systems, VOIP, telecom equipment, optical technologies, programming languages, e-commerce, …

They all kept the Internet coming, against the vicious rearguard resistance of the status quo.

They go hand in hand with Christensen Disruption. The status quo declares innovations insufficient, non-standard, unsafe, and just plain HYPE!

During the mid-90s, some marketing professionals I respected then and still respect now dismissed Internet communication and marketing in just those kinds of terms. Nowadays, hardly anyone would deny the importance of the Internet as a component of a sound marketing program.

So I think I would have to agree that not all bubbles are all bad all of the time.

AB — 23 May 2011

‘American Dream’ Film: Communicating Economic Ideas Dramatically

I’m interested as much in the way ideas get communicated as the ideas themselves. What brings this to mind is the animated film I saw today called The American Dream. This is the most creative expression I’ve seen of the more non-mainstream view of economics — the idea that the Federal Reserve is an evil conspiracy against America.

Some of the film’s explanations are less controversial — how banks manipulate the economy and create what amounts to a house of cards that is supposedly too big to fail. But the film does move into some uncomfortable areas, almost advocating violent revolution — patriotic language and images are used to whip up sentiments. Still, as I said, the most interesting thing to me is the innovative presentation of the creators’ arguments.

By the way, I also like Chris Martenson’s “Crash Course in Economics” — kind of a ‘chalk-talk’ approach — as another example of creative presentation of economics ideas.

The American Dream is a half-hour film available in two parts on YouTube.

AB — 25 January 2011

The Astonishing $600 Trillion Interest-Rate Derivatives Market

A post from April 21, 2010 on Washington’s Blog calls derivatives “the world’s largest market, dwarfing the size of the bond market and world’s real economy” and says that the derivatives market “is currently at around $600 trillion or so (in gross nominal value).” — See “Are Interest Rate Derivatives a Ticking Time Bomb?

In contrast, Washington says that the worldwide bond market in 2009 was $82.2 trillion and the world economy was $58.07 trillion.

The most popular derivative, he says, are interest rate derivatives, in which “the underlying asset is the right to pay or receive a notional amount of money at a given interest rate,” according to the Wikipedia definition of interest rate derivative.

Washington quotes various economists to demonstrate why such derivatives have the potential to seriously destabilize the world economy (which we all know is so solid right now). He includes a long quote from portfolio manager Doug Noland, who compares interest rate derivatives with the so-called “portfolio insurance” that played a role in the stock-market crash of 1987.

One proponent of portfolio insurance is cited as making this breathtaking statement in 1985:

[I]t doesn’t matter that formal insurance policies are not available. The mathematics of finance provide the answer…The bottom line is that financial catastrophes can be avoided at a relatively insignificant cost.

About interest rate derivatives,Washington believes:

[N]o one – even the people that design, sell or write about the various interest rate derivatives – really knows how much of a danger they do or don’t pose to the overall economy. In addition to all of the other complexities of the instruments, the very size of the market is unprecedented.

AB — 22 April 2010

Defining Asset Bubbles

Here is an interesting interview with Jeremy Grantham of investment firm GMO, discussing asset bubbles, what they are, and how they should affect investment decisions.

Economist Edward Harrison at Naked Capitalism adds some analysis and explanation in his post “Jeremy Grantham on Bubbles.” Harrison’s “informal working definition of a bubble is “a price rise that is at least two standard deviations above trend.” He says that

Above two-standard deviations the psychology of prior price movements starts to dominate price activity and a bubble forms in which power law characteristics come into play.

In “power law” relationships, a quantity varies more than you should expect. It kind of refers to the “tall head” part of a distribution graph, the opposite of the “long tail.”

AB — 21 April 2010

The annoying thing about The Big Oligarchy

The annoying thing about The Big Oligarchy …

the banks

the insurance companies

the government

the giant firms

and their privileged controllers

… is that you pay into It all your life through premiums, taxes, and the money It makes from the float on your cash …

but then when you ask for the promised (or implied) benefits, It begrudges paying you and does Its best to stonewall.

AB — 26 March 2010