Month: June 2016

Is Elon Musk a con man?

I was sceptical about Tesla’s business model in the past (here and here) and although there were a lot of red flags in plain sight (accounting, green business, PR etc.) I did not call it a fraud.

The only reason I have not voiced any accusations in this regard is because I have set myself the self-disciplining target to identify weaknesses in the potential fraudster’s business model, rather than hint at qualitative (nevertheless very important) indicators. This worked well for me in the past when I was offered to buy one of Madoff’s many feeder funds: there was simply no way the guy could have achieved his stated track record with the option strategy he claimed to use.

It also helps not to be called a pessimist and miser at cocktail parties (it is not that I don’t enjoy controversy)…

But Elon Musk and the liberal PR machine really make it difficult to stay disciplined.

Fortunately, more and more people are coming out (Jim Chanos recently called Musk ” a very good showman”) and pointing at Musks questionable business practices. The best write-up so far is by the streetwiseprofessor after Musk announced another dodgy transaction yesterday.

Enjoy the read here

(Disclosure: no position in the stock)

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Misallocation of capital: the shipping industry

Excellent Bloomberg piece on the madness that is the global shipping industry.

Shipping benefits from economies of scale, i.e. as ships get bigger the unit cost decreases. Indeed, that’s what happened over the last decades as global trade has been increasing. As with all economic phenomena, marginal benefits typically are declining. The shipping business is no exception,

(…)A study last year by the OECD found that economies of scale from today’s mega-boats are four to six times smaller than those in previous periods of upsizing. Around 60 percent of cost savings now comes from engine technologies. In other words: Building smaller boats with better engines would offer more savings than going bigger (…)

But it gets worse, according to the article there are good reasons to believe that marginal benefits from bigger vessels are not only declining, but actually negative,

(…)Then there’s risk. Today’s largest container vessels can cost $200 million and carry many thousands of containers — potentially creating $1 billion in concentrated, floating risk that can only dock at a handful of the world’s biggest ports. Such boats make prime targets for cyberattacks and terrorism, suffer from a dearth of qualified personnel to operate them, and are subject to huge insurance premiums (…)

And these are only the direct costs, the fixed costs of infrastructure increase as ships become gigantic,

(…)Yet the biggest costs associated with these floating behemoths are on land — at the ports that are scrambling to accommodate them. New cranes, taller bridges, environmentally perilous dredging, and even wholesale reconfiguration of container yards are just some of the costly disruptions (…)Even when taxpayers foot the bill for such upgrades, the costs can be passed on to vessel operators in the form of higher port fees (…)

(…) In recent years, mega-vessels have caused traffic jams in the water and on-shore as overwhelmed ports struggle to offload thousands of containers. The expense in worker overtime and cargo delays can be significant. Making matters worse, the bigger ships make fewer port visits, leaving operators wondering if they should invest in costly renovations for what would amount to infrequent stopovers(…)

Add to this the fact that global trade has not really increased much since 2008 and it is no wonder that 18 percent of shipping capacity is not in use (more than in 2009).

By now, everyone should have got the message: don’t’ build more and ever bigger container ships!

Not in our times of QE and negative interest rates. Instead, the article mentions that ship owners are still commissioning more and bigger vessels. In the last quarter, global shipping capacity increased by 7 percent (!) compared to demand growth of 1 percent. Predictably the price of shipping a container fell by nearly half.

What is fascinating is that, this goes beyond the simple misallocation of capital model described in Austrian economics. Remainder: In the classic misallocation model one analyses how entrepreneurs are misled by distorted prices caused by money growth leading them to assume an unrealistically bright and profitable future. The shale gas industry in the US would be a good example.

Here, however, the misallocation is ex ante evident, nobody is assuming a brighter future.

The arguments mentioned in the article against bigger vessels are independent of what expectation you have for the trajectory of world trade, i.e. they are to some extent objective. Further, contrary to overcapacity in some industry where global aggregate data might be misleading due to the local nature of the business, shipping capacity is “fungible”, i.e. an empty ship in the US is roughly equivalent to an empty ship in Hongkong. In other words, there is an objective glut of container capacity.

I am not enough of a shipping expert to know what is causing this odd behaviour, but I suspect it is due to the presence of large players who do not care about economic profitability but some otherworldy goals (“social stability”) like government entities. Helped by low interest rates, they can engage in financial repression on an unprecedented scale in order to preserve the status quo (and their status and privileges). Ordering giant ships is pretty cool from a political standpoint: it gives you headlines and improves job statistics in the short term.

Regardless of who or what is responsible, somebody is financing this folly. I wonder who it is. Whether it is banks or government entities, once the misallocation cannot be concealed, the write-offs will be gigantic as well.