Jay Yarow is absolutely right when it comes to the Winklevoss twins: they’re arrogant, delusional hypocrites. According to this morning’s NYT piece, they want to relitigate their $65 million Facebook settlement because the $45 million in Facebook shares that they received are now worth only $120 million rather than somewhere north of $500 million.

They can easily afford to do this, of course, because they were always rich to begin with, and because they also got $20 million in cash as part of the deal. But the argument at the core of their case is bonkers:

According to court documents, the parties agreed to settle for a sum of $65 million. The Winklevosses then asked whether they could receive part of it in Facebook shares and agreed to a price of $35.90 for each share, based on an investment Microsoft made nearly five months earlier that pegged Facebook’s total value at $15 billion. Under that valuation, they received 1.25 million shares, putting the stock portion of the agreement at $45 million.

Yet days before the settlement, Facebook’s board signed off on an expert’s valuation that put a price of $8.88 on its shares. Facebook did not disclose that valuation, which would have given the shares a worth of $11 million. The ConnectU founders contend that Facebook’s omission was deceptive and amounted to securities fraud.

They refuse to say how much they would ask for in a new negotiation, but they said that based on the lower valuation, they should have received roughly four times the number of shares…

In its brief, the company says it was under no obligation to disclose the $8.88 valuation, which was available in public filings. Facebook describes it as one of many that it received…

“There was no chance that that one valuation would have affected the decision of these sophisticated investors and their entourage of advisers,” Facebook wrote in its brief.

The fundamental point here is that the two sides agreed to settle for $65 million, and the brothers decided they would rather have $20 million in cash and 1.25 million Facebook shares than $65 million in cash. That decision turns out to have been a very good one, since those 1.25 million shares are now worth somewhere north of $120 million.

When Facebook handed over the shares, it might have thought they were worth $11 million, or it might have thought they were worth $1 billion: it doesn’t matter what Facebook thought. The brothers clearly thought the shares were worth more than $45 million, or they would have accepted cash instead. And they were right.

With the benefit of hindsight, Microsoft managed to buy in to Facebook at an attractive price, and so did the twins. It was always in their interest to argue for the lowest possible valuation and to get as many shares as possible out of the deal. And if they got $45 million in Facebook shares today, they would never get a price remotely as attractive as the one they got in 2008. They were smart to settle when they did, rather than dragging negotiations on longer. And they’re being really stupid to keep on fighting a battle they’ve already won.

M Schuler of Colorado leaves a blistering comment on my post about Martin Erzinger, the Morgan Stanley broker who bought his way out of a felony charge. It’s required reading for anybody who is inclined to believe Erzinger’s defense, that he fell asleep at the wheel, drifted off the road, and never had a clue that he’d hit anybody.

It’s also required reading for anybody who still lets Martin Erzinger or Morgan Stanley manage their money. Erzinger’s behavior is unconscionable, and Stanley’s continued employment of him is a massive blot on the firm’s reputation.

In any case, here’s the meat of the comment: 18 questions for Martin Erzinger. I very much doubt he’ll ever attempt to answer them.

1. Is it reasonable to believe that less than 10 minutes after completing a workout at your club you would fall asleep in the middle of the afternoon while driving your car?

2. Is it reasonable to believe that you would be suffering from sleep deprivation caused by sleep apnea to such an extent that this deprivation would cause this mid-afternoon narcolepsy?

3. Is it believable that this malady was not “diagnosed” until a week after the accident?

4. Is it believable that the “diagnosis” itself says “the patient “may have developed sleep apnea around the time of the accident”?

5. Is it believable that a qualified doctor would allow the patient to continue driving (thus risking his own liability and medical license) after such a serious accident?

6. Is it believable that you would remain asleep after hitting a cyclist, leaving the road, driving over two hundred and sixty feet through terrain rough enough to tear the bumper off your brand new car?

7. Is it believable that you were (as you testified in court) aware that the car came to rest on a steep angle and yet still be “dazed or asleep”?

8. Is it believable that upon coming to rest your body would not be hyperaware due to the over whelming amount of adrenaline coursing through your veins?

9. Is it believable that upon becoming aware that you had driven off the road over rough terrain in a brand new $100,000 plus Mercedes Benz, you would not get out of the car to inspect it for damage prior to driving out of the ditch and onto the road?

10. Is it believable that you would try to reenter the highway without looking behind you for oncoming traffic?

11. Is it believable that such a glance over your shoulder would not reveal the cars stopped across the highway at the point of your departure from the road and the body of the cyclist you hit lying in the road less than 90 yards behind you?

12. Is it believable that “an honest man” would not have any concern for damage he might have caused while “asleep” while driving”?

13. Is it believable that if you were going to call for a tow for your disabled car, that you would not call while the car was in the ditch, but would drive it out of the ditch, risking further damage, and proceed to drive over three miles to hide behind an abandoned Pizza Hut before calling for a tow?

14. Is it believable that an “honest man” would say he had called police when there is no record of such a call in the police call log nor on his cell phone records?

15. Is it believable that an “honest man” would tell Onstar not to use the email address they had on file for him (which was correct) but to use his wife’s email address?

16. Is it believable that an “honest man” would have his company’s employment attorney contact the District Attorney in order to attempt to influence the entering of a felony “due to the effect on his job”?

17. Is it believable that, knowing you had severely injured the son-in-law of a friend, you never visited the injured cyclist, never admitting hitting him? (In court you said “I’m sorry this happened to you”.)

18. Is it believable that an “honest man” would not notify the Security and Exchange Commission, as required by law, that he was charged with a felony until ordered to do so by a judge over 180 days after the accident?

Writes Schuler:

These are only a few of the questions that should have plagued the District Attorney prior to unfairly reducing a felony charge against Marty Erzinger to a couple of misdemeanors.

If you find the answers to these questions as unbelievable as I do, you must conclude that neither the District Attorney nor Mr. Erzinger could meet the reasonable standard of an honest man.

I, for one, would never want this man in charge of my money, nor any firm which happily continues to employ him.

You might be surprised by this: it’s counterintuitive, and acts as useful corrective to people who simply assume, when they buy an apartment, that the alternative is ever-increasing rent payments.

The median monthly rent for all luxury units in Manhattan, defined as the top 10 percent of the market by price, declined 18 percent to $6,950 in the third quarter from a year earlier, according to New York-based Miller Samuel. The median luxury sale price rose 13 percent to $4.39 million.

It’s conceivable that both of these moves could be partially explained in terms of falling mortgage rates, which help support prices and which also allow landlords to make money with lower rents. But in general, falling interest rates don’t cause falling rents, they just cause higher profits for landlords who refinance.

The stated reason for the divergence is that owners — both individuals and developers — think that prices are too low, right now, and would rather rent out their apartments for the time being, waiting for a more auspicious time to sell. Which implies that even in Manhattan there’s a significant “shadow inventory” of apartments at the top of the market which aren’t officially on the market but which the owners would still like to sell.

In any case, it’s hard to argue with the main thesis of the story, that this is a really good time to rent rather than buy, at least at the high end of the Manhattan market:

The gap between the cost of buying a luxury apartment and the annual cost of renting is at its widest since the first quarter of 2009, when the median purchase price peaked at $6.6 million. Buying cost 53 times renting in the third quarter, compared with 38 times a year earlier and 58 times in March 2009.

This isn’t an apples-to-apples comparison: the apartments at the top end of the rental market are still smaller and less desirable than their counterparts at the top end of the sales market. So the buy-to-rent ratio isn’t 53. But it’s clearly rising. And it’s high:

In the Manhattan market overall, the cost of buying an apartment was 25 times more than the annual expense of renting in the third quarter, up from 24 times a year earlier…

A 7,700-square-foot duplex penthouse at 610 Park Ave., with five bedrooms, a “walk-in butler’s pantry” and a private terrace, is listed for sale at $25.8 million… The monthly cost of renting that same apartment is $75,000.

On the Upper West Side, a 4,300-square-foot “trophy penthouse” at the Grand Millennium, with “two massive terraces” and Hudson River views, is listed for sale at $15 million, according to StreetEasy… It could also be rented for $45,000 a month.

These two apartments have buy-to-rent ratios of 28.7 and 27.8, respectively; that’s very high. As David Leonhardt says,

A good rule of thumb is that you should often buy when the ratio is below 15 and rent when the ratio is above 20. If it’s between 15 and 20, lean toward renting — unless you find a home you really like and expect to stay there for many years.

To put this in perspective, the rent vs buy calculations I did on Nouriel Roubini’s new pad came out in favor of renting; the buy-to-rent ratio there was 18.3.

My suspicion is that the rental prices are a good indication of where a rational property market should clear, and that the sale prices are therefore overinflated. Why that way around? Because people have no idea what to buy, these days: nothing looks safe. Bonds, stocks, gold — all of it looks pretty bubblicious. And cash yields nothing, while carrying the risk of being eroded by future inflation.

So people overpay for housing, because it’s a consumer good as much as it is an investment: even if it falls in value, at least they still have a nice home. In times of chaos, that kind of investment is as good a hedge against tail events as any. Which might explain why there’s excess demand for it right now.

I love Damien Cave’s dispatch from Mexico City (elevation: 7,350 feet), which gets very cold in the winter, inside and out:

In expensive restaurants, in grocery stores and museums, in the homes of the poor, middle-class and even the wealthy, a small space heater is often the only thing breathing warm air.

Why is this? Cave has two theories. The first is cultural:

Deep in this country’s Aztec roots, there is admiration for submitting to the elements, and it seems to re-emerge every winter with force.

The second is economic:

Mexican builders and homeowners have simply grown accustomed to construction without central heating, and with single-pane windows that are especially porous to heat and cold. As a result, insulation materials are profoundly expensive here.

Sadly, Cave doesn’t put numbers on the cost of insulation materials or central-heating systems in Mexico, compared to elsewhere in the world, so it’s hard to tell what he means by “profoundly expensive.” But I suspect that it’s not that expensive:

Fernando Sandoval, an architect who used to work for Anderson Windows, the American chain, said that given such prices, double-pane glass and central heating could eat up a sixth of the total cost of construction. Few seem to bother. Even the most modern apartments here, with stainless-steel appliances and granite countertops, are often devoid of radiators or thermostats.

“They all say, ‘I’d rather have hardwood floors,’ ” Mr. Sandoval said. “Or, ‘It’s only going to be cold for a month or a month and a half, I’d rather buy a really nice Italian cashmere sweater.’ ”

In most countries, I suspect that people would consider central heating a much higher priority than hardwood floors. Especially, as Cave notes, since the Mexico City winter is not only a few weeks long: it lasts from November to February.

There are three things going on here, I think, which might explain what’s going on.

First is good old-fashioned path-dependency: it’s pretty clear that the overwhelming reason why any given Mexico City dwelling doesn’t have central heating is that other Mexico City dwellings don’t have central heating. It doesn’t really matter why or how it got this way, or whether there’s a reason at all: once it’s gotten there, it’s very hard to change.

Secondly there’s the question of relative, as opposed to absolute, cost: it’s not that central heating systems and double-glazed windows are expensive, so much as that everything else, when it comes to Mexico City house prices, is cheap. A $10,000 central heating system seems much more expensive when your house costs $50,000 to build than it does if you’re spending $250,000 on it. This works the other way, too: when I closed on my New York apartment in 2005, I went out and bought a ludicrously expensive keyring to put my hard-won keys onto. I’d never normally drop that kind of money on a keyring, but in the context of the sums I was spending on the apartment, it felt like nothing.

Finally, there’s mortgages—or the absence thereof. Mortgages, or any kind of long-term local-currency debt instruments, are relatively new animals in Mexico, which means that historically homes were paid for in cash, and often took years to build. In that situation, keeping construction costs as low as possible becomes very important: adding a central heating system could mean delaying moving in for an extra year.

Put the three together, and you don’t need ludicrously expensive heating systems or romantic notions about what might be lurking “deep in this country’s Aztec roots” to explain why we all start shivering when we visit Mexico City in the winter.

For the time being, extra demand for housing in Mexico City is being met by extra supply. At some point, however, that’s going to stop, supply won’t be able to meet demand, and prices will start to rise. And that will be the point, I suspect, at which we’ll see people starting to install central heating.

Update: Paul Krugman sees parallels with English food. And Derrida, in the comments, sees Jevon’s Paradox at work:

Maybe it is true that the best way to reduce energy consumption is to make devices like heating and air conditioning less efficient, instead of more. Not having cheap double panes, etc. seems to make central heating less appealing in the DF, resulting in a great deal less energy use than efficient but wide-spread central heat.

NYC should have declared, but didn’t declare, a snow emergency: “if they said we were getting a blizzard, it was a no-brainer.” — NYT

Not often you see companies moving away from Delaware — NYT

Delaney and Grim on the erosion of the social safety net — HuffPo

FT Tilt is live, and it even has a manifesto of sorts — Tilt

Paul Allen isn’t giving up with his patent-trolling — Seattle Times

Rob Beschizza has a very good post on the dynamics of the spat between Wired.com and Glenn Greenwald. For an excellent overview of the fight and what it’s about, I recommend Blake Hounshell. But Rob picks up on something else:

The AP-style story format now prevalent at Wired.com makes it less bloggy than readers think it is. This establishes a distance between readers and reporters and restores a traditional tone of objectivity to its newswriting. As it is, Wired’s commenters rarely emerge from a state of inchoate, slavering rage, so there’s no incentive for its writers to enter the peanut gallery. And the blog river itself is polished to such a high standard that casual, chatty posts don’t really belong. Without a local venue where writers and readers can engage readers in non-confrontational discussion, it all ends up as bitching on Twitter.

The point here is that the fight is not like the blogwars of old, despite the fact that both sides are publishing on blogs. We haven’t seen a lot of back-and-forth on the blogs, and the blog entries that we have seen have been clearly worked at considerable length. Instead, the debate has been raging on Twitter, where it’s much harder for an outsider coming to the subject afresh to follow what’s going on and who’s saying what.

The biggest development in the story today comes from Sean Bonner, who seems to have managed to elicit over Twitter the very information that Wired’s critics have been calling for all along. Wired’s Kevin Poulsen told Bonner in a tweet that “The published logs include the reference to a secure FTP server Lamo discussed with the Times”; when Bonner asked Poulsen for clarification that the reference in question was the only reference in the chat logs, Poulsen said yes.

On top of that, Wired.com editor Evan Hansen told Glenn Greenwald in a public tweet that he had reviewed all of the chat logs and that everything pertaining to Julian Assange or Wikileaks was already public.

Obviously, that single tweet is not going to satisfy Greenwald. But in many ways it does more to address the demands of Wired’s critics than the long and carefully-worded blog post that Hansen and Poulsen put up last night. And Greenwald too has noted — on Twitter, natch — that “it’s amazing how central of a role Twitter now plays in these disputes/debates”.

What we’re seeing here is the professionalization of the blogosphere — Greenwald and Poulsen both get paid to blog, as do I — and the way in which that has led to the less journalistic parts of blogging moving over to the informal and freewheeling venue of Twitter. I was happy to take a small part in this debate over Twitter this morning, for instance, but I’m concentrating on meta-issues here, partly because I’m clearly conflicted: I have a big story in the latest Wired magazine, and might well be appearing on Wired.com’s blogs in future, too. On Twitter, such conflicts don’t seem to matter, or need to be addressed, in the way that they do on a professional blog.

This development is not, in my mind, a good thing. It robs from the blogosphere much of its naturally conversational element, which has largely moved to Twitter. Back in 2004 or so, it was easy to follow debates back and forth between blogs just by clicking on links; now, it’s much harder, and professional blogs are much more likely to link to straight news stories or just break news themselves than they are to link to other bloggers. Discussions and debates on Twitter aren’t archived in the way that they were on blogs, and they’re functionally impossible to search for if you’re more than a few months away from the event.

This particular debate is big and loud enough that bloggers are following it, archiving it, and linking to important tweets. But most Twitter discussions never reach that level, and therefore will disappear in a way that blog discussions never did. At some point, I hope that Twitter will roll out easily navigable and searchable archives of all public Twitter streams. But for the time being, Twitter is a stubbornly evanescent medium, for all its increasing importance.

It’s Housing Day over at Business Insider today, which is running duelling slideshows from Bill Ackman and Gary Shilling in the wake of yesterday’s dreadful home-price numbers. Both of them are a little dated—Ackman’s is from November 3, while Shilling’s seems to be from October, although it’s not entirely clear. Since then, prices have fallen, which would do little to change either of the analyses, but also interest rates have risen significantly, which puts a substantial dent in Ackman’s math.

Ackman’s logic is pretty simple: you can get a lot of leverage in the housing market, and if you make a highly-leveraged bet and prices rise, then you can get enormous returns. At the heart of his thesis is the idea that valuations are low and will rise in future—but to my eyes at least, there are problems with both legs of that argument.

The “valuation” section of the slideshow is a relatively small part of the whole. It says that home prices are 28% off their peak; that houses are more affordable now than they have been in a long time; and that buy-vs-rent calculations work out in favor of buying with relatively low home-price appreciation rates between 4% and 6%.

The first one seems meaningless to me: why should home prices be low at 28% off the peak, as opposed to say 18% off or 38% off? In fact, a glance at the Case Shiller graph shows that prices are still roughly double what they were for most of the 1990s.* And more generally, when the first part of a valuation argument is percentage-off-highs, I always get suspicious, because that’s always a really stupid metric on which to base a buying decision.

The affordability calculations, too, are a temporary phenomenon related to artificially low mortgage rates and the fact that the US government is currently providing substantially all housing finance. What I’m not seeing is any analysis by Ackman showing that houses will remain affordable in a future of higher rates and private-sector financing—the future when, I assume, he’s looking to exit his residential-property position.

Finally, required appreciation rates of 4% to 6% seem high to me, not low: they say to me that buying is still more expensive than renting unless you assume capital gains on your purchase. Ackman, here, comes close to assuming the very thing he’s trying to demonstrate.

As for the reasons for future gains in house prices, there’s a bit of basic demographics, in that the number of households in the US is going to rise over time, and is going to outpace the amount of new homebuilding. That’s reasonable.

Ackman’s other main argument is based on the assumption that homeownership is going to bottom out at 66% and stay there, rather than continuing on the long cyclical decline which started in 2004. If he’s wrong by just a single percentage point, a lot of his mathematics starts looking very shaky. I suspect that as America moves out of the suburbs and exurbs and into denser forms of living, we’ll see a steady decline in homeownership, which in any case is now seen as being more of a liability than an asset. It’s no longer a road to riches: it’s a road to possible foreclosure, bankruptcy, and an inability to move to where the employment opportunities might be.

Ackman is a speculator, and he’s forecasting a return of his speculative mindset among the population at large—where people buy homes because they’re confident in the future and think that those homes will rise in value, and also because they fear not being able to afford a house in future. That mindset fuels housing bubbles, not sustainable home-price appreciation. And investing in bubbles is always very dangerous, and generally ends in tears. Maybe Ackman can make money doing it—but that certainly doesn’t mean that homes are a good buy right now for the rest of us.

Ackman does have one intriguing idea about what might drive house-price appreciation: institutional investment in single-family home rental properties. He’s right that such things barely exist as a financial asset class, and that even a small global allocation to them could change the demand dynamics substantially. But being a landlord is hard work, especially in suburban and exurban neighborhoods, and I’m not convinced that it scales well: my guess is that the cost of hiring a good rental agent is always going to wipe out returns, and that the only way to make money by renting out single-family homes is for the owner and the rental agent to be the same entity.

If you then turn to Shilling’s presentation, things start looking positively depressing: he brings up reasons for pessimism that many of us never even consider, along with the much more obvious ones. At the top of the list, of course, is unemployment, which poisons everything. No one wants to buy a house if they don’t feel secure in their job, and people don’t feel secure in their jobs if unemployment is over 9%, where it’s likely to stay for the foreseeable future. And these graphs just speak for themselves:

This last one is the most powerful, to me: for all the wheel-spinning that we’ve seen of late in the mortgage-refinance market, the number of people shopping for new homes has been declining steadily for the past five years. I’m sure that Bill Ackman would look at that chart and extrapolate all manner of fabulous mean-reversion, but I can’t see where the new demand is going to come from. Buying a home is no longer the American Dream; people are much more interested in being free of debt. And while Ackman might look at the enormous leverage in the housing market and see opportunity, most Americans I think are now much more aware of the downside risk.

No matter what happens in the housing market, Bill Ackman is always going to have more wealth than he can ever spend in his lifetime. But for those of us without his ability to make large speculative bets, housing is a very scary asset class, while renting is cheaper and much more flexible. I wouldn’t be at all surprised to see the US homeownership rate fall a lot in coming years, back down below even its long-term mean around 64%. And if that happens, prices—both to rent and to buy—are almost certain to fall from current levels.

*Update: Thanks to ckbryant, in the comments, who points out that this is true only in nominal terms, not in real terms.

Evan Hansen and Kevin Poulsen respond to Glenn Greenwald — Wired

Pork bellies are going the way of onions — Points and Figures

Wherein Nouriel Roubini, proud owner of a new $5.5M apartment, says that ‘Housing Prices Can Only Move Down’ — CNBC

Excellent Globe investigation of the military-industrial complex — Boston

Please wait outside rice-flour noodle — Atlantic

Highway 330 Collapses En Route To Big Bear, but the guardrail is still there — HuffPo

IBM announces solid-state memory breakthrough — Linux for Devices

Denis Dutton, author, philosopher, and founder of Arts & Letters Daily, dies at 66 — TVNZ

H&R Block Blocked from Refund Anticipation Loans — Credit Slips

Today’s WSJ features the sad, sad story of retired churchman Fred Osborn, who might have to sell his family home. It only has single-pane windows, making it expensive to heat in the winter. And even after renting it out in the summer, Osborn ends up losing money on the old place. On top of that, his son has moved in, along with his four kids. If it got sold, three generations of Osborns would be kicked out at once.

“I want to enjoy retirement now, but I really can’t afford to do that,” Osborn tells the WSJ’s Anne Miller. “It’s a very conflicting, emotional thing.”

But here’s the rub: the story is in the WSJ’s real estate section. It’s basically about a home for sale. The price is $200,000, plus $1,000 a year in taxes. Will you help poor Mr Osborn out?

Hang on, I might have missed out a zero. Actually, the price is $2,000,000, plus $10,000 a year in taxes. A little bit less sympathetic now, I guess.

Wait, I’ve just found another order of magnitude down the back of the sofa. Osborn, it turns out, “will entertain offers above $20 million”, while taxes are “about $100,000 a year”.

Oh, and he’s the great-great-great-great-grandson of Cornelius Vanderbilt, which I guess makes his gambolling grandhildren Vanderbilt’s great-great-great-great-great-great-gran dchildren. But who’s counting.

Not Miller, whose math doesn’t make much sense at all:

Heating the 14-bedroom stone mansion can run $200 a day in the winter—too expensive for year-round living…

Mr. Osborn IV, a former Columbia University crew coach, rents out the castle for weddings between June and September. Day rates start at $55,000.

But it’s barely enough. The Osborns estimate the property consumes at least $500,000 a year, including taxes.

If the Osborns pay $200 a day every day for six months, that comes to about $36,500 a year to heat the old pile. A lot of money, to be sure, and a lot of carbon emissions too, but still a tiny fraction of those total running costs, which themselves can be covered by renting out the castle for nine days over the course of the summer. Beyond the heating and the taxes, there’s no indication of what makes up the lion’s share of those half-a-mil-per-year running costs, but it hardly seems as though $200 a day for heating would tip the scales enough to force the family to move out of the mansion.

All the same, there’s a hint of possible good news at the end of the story.

Over Thanksgiving, Mr. Osborn III learned that some younger cousins have done well in online ventures and banking. Maybe they will have the funds—and interest—to move in, he said, even if the property doesn’t stay in his direct lineage.

“I’m an equal-opportunity family patron,” he said.

Those younger cousins might not be named Frederick Henry Osborn IV. But their blood is still blue. And that’s what counts, surely.

I’m a longstanding fan of American Homeowner Preservation, which has found a clever way of keeping underwater homeowners in their homes while minimizing the loss to their lenders. Even the red-in-tooth-and-claw capitalists at Goldman Sachs can understand that. But not, it seems, the idiots at ING Direct:

ING Direct, the Dutch bank and internet-based mortgage lender, has objected to American Homeowner Preservation’s program to keep families in their homes, and ING will no longer consider AHP short sales. “ING DIRECT will also be adding your company to our exclusionary list as your company strictly finds investors to keep sellers in their home, while the bank takes a significant loss. This is against ING DIRECT’s short sale policies and guidelines, and as such you will no longer be able to work on this short sale file or any future ING DIRECT accounts,” Adam Agostinelli of ING Direct Retail Asset Management advised in an email to AHP.

If you cut out the excess verbiage, this basically boils down to “you try to keep homeowners in their homes, so we’re not going to deal with you”. Most companies would recognize this, and determine that if their short-sale policies barred sales to AHP, then they should change those policies as fast as possible. Not ING, which has come to the inhumane and self-defeating conclusion that the policies must always come first, even if they make no sense.

ING does allow short sales, of course, where the house is sold, often to an investor, in satisfaction of the loan. If ING were rational, it would want to get as much money as possible out of such a short sale, and therefore make the house as attractive as possible to as many potential buyers as possible. Instead, it is going out of its way to exclude the one set of buyers which actively wants to buy houses in short-sale situations: AHP-backed investors who intend to lease the home back to the current owners.

This is vindictiveness, plain and simple. ING might get more money if it played ball with AHP, but the homeowner wouldn’t suffer as much. Clearly, if ING is going to take “a significant loss”, then it needs an element of suffering on the part of the borrower — it’s a modern-day Shylock, demanding a pound of flesh which can do it no good whatsoever. ING gets no extra money if the homeowner is evicted as part of the short-sale proceedings. To the contrary, it will probably get less, since AHP makes its offers at full market price and doesn’t need to worry about the owners trashing the place when they’re forced out of their home.

Theoretically, AHP could try to do an end-run around ING’s absurd policies. It could give the family in question a place to camp out for a few weeks after being evicted, buy the house out of foreclosure for less than it was offering as a short sale, and then reinstate the family under its original terms. ING would get less money for the house, and on top of that pay large amounts of money to foreclose on the house, evict the family, and then sell the house. It’s a highly unattractive option for all concerned, especially the family which would have to move all of their stuff twice, and suffer the uncertainty of knowing whether they would be able to get their home back or not. In comparison, the AHP solution is a clear improvement for everybody, which leaves the inescapable conclusion that Adam Agostinelli and his paymasters are stupid, sadistic, or some combination of the two.

It’s worth mentioning the moral-hazard response only to dismiss it. I haven’t actually heard this argument made in any seriousness, but theoretically it could be made: if ING Direct allows short sales where the borrower stays in their home, then that reduces the cost of default, makes default more attractive, and therefore is liable to increase the default rate across the rest of ING’s portfolio. But if bankers think like that, they’re doomed.

AHP deals only with houses which are deep underwater, and where there is no way that the borrower can or even should attempt to pay off their mortgage in full. Maybe taking out the original loan was a bad idea, but that’s no crime, and doesn’t deserve gratuitous extra punishment. In all of AHP’s cases, the bank will end up selling the home at a loss. If it wants to minimize that loss, it should work with AHP. If it wants to maximize that loss, it should ignore AHP. In either case, its decision will make no difference whatsoever to other underwater borrowers and their propensity to default.

There’s one other possibility here. Maybe ING Direct is the servicer of the loan but not the beneficial owner of the loan, which has been securitized. In that case, it’s not ING which would get the benefit of a higher sale price, it’s the owners. On the other hand, if ING goes through elaborate foreclosure and eviction proceedings, it can charge those owners fees all the way along the process. Of course, the servicer is meant to be operating on behalf of the owners, but as we’ve seen many times, bondholders have no real ability to monitor what servicers do in their name, and have no control over what the servicers do even if they do find out. If foreclosure proceedings are a profit center for ING rather than a cost center, then suddenly its decision makes a lot more sense. If you can’t make money off the borrowers, make money off the lenders instead!

A couple of months ago, I bought this drawing from New York artist William Powhida. It’s called “A Guide to the Market Oligopoly System”, and it’s lots of fun, as well as being very astute.

It’s dominated by a big pyramid, with “the yearning masses” at the bottom — “submerged artists”, “deep in debt”, with enthusiasm rather than money. There’s a little dot over on the left, saying “you are probably here”. Powhida explains the economic condition that most artists find themselves in: There are always more people who like to earn their income as an artist than there is demand for them: there is a structural excess supply of labor. So, why do they persist? It’s a labor of love, or willful ignorance of the odds.

At these levels, art-making is simply not an economic activity, and as such it might be the purest art of all. There’s something quite noble about a labor of love, and indeed most artists, galleries, and museums at much higher levels of the pyramid are happy to continue to pretend that the art they’re showing is still a labor of love, even as it sells for millions of dollars. Art is getting bigger and glossier because that’s where the money is, but few artists (Takashi Murakami, perhaps?) will unabashedly admit that they make art for the money.

For the most part, then, as you rise up the pyramid, you encounter a steady increase in hypocrisy and artspeak, with the latter largely designed to obfuscate the former.

At the same time, however, it’s easy to sneer at the labor-of-love types: the art world has internalized the idea that labors of love are only worthwhile so long as they fetch a goodly number of dollars, or at the very least have a veneer of art-school sophistication — a veneer which becomes even more important if your art is popular or decorative or minimally functional. (Elsewhere, Powhida notes that “fashion isn’t considered art. Sorry!”)

The next level of the pyramid is what Powhida calls “the broad primary market”, which includes “tons of commercial galleries everywhere” as well as non-profits, pop-ups, co-ops, and the like. This is the point at which art starts being traded for money — the artists in question typically make a three-figure sum selling smallish works, with larger pieces at more respectable galleries going for a few thousand.

At this point, both artists and collectors start thinking in terms of what any given piece might be “worth.” Everybody in the system — artist, collector, gallery — has a natural desire to want to believe that an artwork is “worth” more than the collector paid for it, and that the trajectory of the artist’s future career will mean that in years to come, the collector will be able to sell it at a profit.

This is where the collector hypocrisy comes in: collectors love to say that they buy art just because they love it, and that they will never sell it. For them, just as for the artist, it’s important to keep up the pretense that what they’re doing is a labor of love; when collectors are caught flipping artworks to auction houses and making a profit on the deal, they’re sneered at, especially if they don’t immediately reinvest the proceeds in even more art. But the fact is that beyond a relatively modest initial level, no collectors will buy anything unless they think that it has real monetary value now, or will have it in the future.

This is why galleries are so important: they’re the mechanism through which an artist’s career can be tracked and reduced to a handy dollar figure. Everybody knows that there’s much more art than science to setting the dollar amount, and that’s why they always keep an eye on the auction houses, which are considered more objective. There’s an interesting tension here: galleries and artists love to see new records being set at auction, even as they hate the collectors who take their work to an auction house in the first place.

The auction houses are actually two full notches higher up on the pyramid, above the blue-chip galleries in London, LA, and New York and the major art fairs such as Art Basel and Frieze. At these levels, art becomes more explicitly a commodity: virtually everything bought here has some kind of immediate resale value, and you’ll probably be able to borrow cash money against it if you put it up as collateral. Galleries will nearly always buy back the work they sold you, if not at the price they sold it to you for, and much of the work will happily be accepted by the big auction houses.

The barriers to entry, at this level, are high: in the primary market, individual artworks start in the five-figure range and go right up into seven figures or even eight for massive works by megastars. Meanwhile, the same dealers operate a highly-exclusive secondary market where works can occasionally break the $100 million mark.

As its position on the pyramid suggests, the auction market is even more exclusive. It’s actually smaller, even as a secondary market, than the behind-the-scenes dealings of gallerists, and it’s also much more brutal in its assessments of an artist’s career trajectory. Auction houses are happy to sell relatively cheap works by up-and-coming artists, but they are much warier of more expensive works by artists seen as being on the decline. There’s still a market, for instance, for 80s superstars like Julian Schnabel or Eric Fischl, but you’re very unlikely to find their work at auction: they’ve been kicked out of the auction world, back down to the primary dealers.

It’s worth noting that this mechanism creates a very strong survivorship bias in the official art-market returns, quoted by Powhida at being 0.55% per year. Those returns are calculated by looking at pieces which have come up for auction more than once, but the fact is that in the big auction houses will often simply refuse to accept pieces which are no longer in favor, with the result that those works end up being sold in the opaque secondary market of galleries, and never get incorporated into official statistics. Auction sales are emphatically not a representative sample of secondary-market art sales more generally. What’s more, most art collections are built up in the primary market rather than the secondary market, and art indices give no indication of the rate of return on primary-market purchases, again because those numbers are so opaque.

Most people who buy art will, to a first approximation, “lose” all their money: like most other consumer products, it won’t or can’t be resold after being bought. Many of those people kid themselves that their work is “worth” roughly what it would cost them to replace it; they’re only disillusioned when they actually try to sell the thing and find no willing buyers. And even the clear-eyed often think of their art as a lottery ticket: it might be worthless today, but maybe, in the future, if the artist becomes hugely successful, it could be worth a fortune.

Art only really becomes an asset class at the very top of the pyramid: the auction houses, the museums, and the stars (a/k/a Damien Murakoons). Artists are constantly if slowly being inducted into this world, and museums are constantly receiving donations of art and buying it themselves, thereby taking it off the market. As a result, the total size of the market remains roughly constant, even the art which makes up the asset class is constantly changing. Right now, you’ll find Richard Prince and Francis Bacon in high demand; in ten years’ time it’ll be someone else.

One of the things I like the most about Powhida’s piece is the various different ways that he characterizes what you might think of as the y-axis: the thing that changes as you go higher up the pyramid. One sequence looks at the artists, who go from “submerged” to “emerging” to “established” to “stars.” Another looks at the artists’ net worth, which goes from “deep in debt” to “loaded.” Then of course there’s the price of art: “hundred$” to “thousand$” to “million$.” There’s a line characterizing the art from the collector’s point of view, from “speculation” to “investment.” There’s an upside-down pyramid, showing the art world in terms of effect rather than mass. And then there’s this:

You can argue the toss on some of these, but the main thrust is clear: the value of a work of art is to a very large degree a function of the city where it’s being sold. New York’s at the top of the heap (or, to be precise, Manhattan); Berlin punches well above its weight; Paris, the erstwhile center of the art world, is conspicuous by its absence.

Art schools, too, are ranked: Yale’s at the top, followed by Columbia, RISD, the Art Institute of Chicago, MICA, Cal Arts, UCLA, Bard, and Pratt. No foreign art schools are on the list, which is a shame, but Powhida is a very American artist.

In any case, I love this particular piece — I’m geeky enough to think that there should be much more art with footnotes — and I’m glad to own it. Naturally, I’ll never sell it. But I can still dream of a day when Powhida is famous and it’s worth a fortune.

Wherein Ken Griffin praises an executive for saying that the story of Amaranth’s portfolio platform integration was one she could tell her grandchildren — ZH

You thought Dodd-Frank had been passed? The GOP has other plans — NYT

In 2007, RIM Thought The iPhone Was “Impossible” — Macstories

Wall Street Bull Crocheted! — Animal NY

“Unlike the Washington Post, which obviously has nothing to do with journalism, I actually expect better of Wired” — Salon

Jon Stokes and I wrote this article on algorithmic and high-frequency trading — Wired

Isn’t there something a little unseemly about a business doing $5m/yr in revenue still having a tip jar? — NYT

walk,drive — Ngrams

“This is Deepak Sheti. In a city with over 13,000 taxis, Deepak has picked me up 5 times in the last 3 weeks” — Mr Murray

Car restrictions backfire in Beijing — Guardian

Spain’s finance ministry now has an English-language website — The Spanish Economy

Wherein Bono pulls Spider-Man and replaces it with “Bloody Bloody Sunday Andrew Jackson” — NMATV

When it comes to overindebted countries which can’t stop spending, it’s pretty hard to compete with Japan. The fact that everybody picks up on when reporting on the 2011 budget is that debt issuance is going to exceed tax revenues for the second year running — or, to put it another way, that more than half the budget is being paid for by borrowing rather than taxes. For me, however, the scarier fact is that more than half of government tax revenue is going to go straight back out the door in debt-service payments.

If you’re at all interested in Japan’s budget, the Yomiuri Shimbun editorial on the subject is excellent; for a shorter version, James Simms has a good overview in the WSJ. The problem is a familiar one: politicians are happy spending money and incapable of implementing budget cuts, and the result is a slow-moving fiscal trainwreck.

The situation in Japan is particularly depressing because the country has no major ethnic or political rifts. Sure, there’s political jostling, both within and between the parties. But it’s nothing compared to the vitriol and mistrust that we see in the US, and somehow I can’t imagine Greece-style riots in Japan either. But still the technocrats can’t make any headway.

The lesson here, I think, is that it’s very, very hard for a government to enact a serious fiscal adjustment unless and until the bond market forces its hand. The Brits are trying, of course — and we’ll see whether or not the coalition government can succeed. But as we saw with George W Bush, the fiscal rectitude of one administration can be more than wiped out during the course of the next.

Even now, with the attention of the world more concentrated on sovereign fiscal issues than ever, the Japanese government can still contrive to raise agricultural subsidies by 40% and send child-care payments soaring, including payments to families who don’t need the money. It’s even getting rid of highway tolls. Oh, and it’s cutting the corporate tax rate.

From a bond-market perspective, this basically just means an ever-greater supply of JGBs: we’re still a very long way from any real credit risk, given the political power of the owners of those bonds. But as a lesson in fiscal political economy, Japan is much more worrisome. Everybody agrees that the budget must be cut and the country put onto a sustainable fiscal course. But no one is capable of doing that, and instead they go in the opposite direction entirely. It’s the see-no-evil easy choice to make. And I suspect that we’ll see continue to see similar choices being made in other highly-indebted countries around the world. Including the US.

Swiss Re reinsures a lot of life insurance. As a result, it could lose billions of dollars if a lot of insured people die young, due to pandemics, terrorism, or the like. To hedge that risk, it has sold about $1.8 billion in mortality bonds to date. Such bonds earn a healthy yield, so long as there’s no big rise in mortality. If there is, then the bondholders lose some or all of their principal, and it’s used instead to make those unexpected life-insurance payouts.

Mortality bonds are an expensive hedge, though — one last year had a yield of 617bp over benchmark lending rates. Swiss Re would much rather hedge its mortality risk in a profit-making manner, by writing longevity risk. That’s what it did last year with the UK’s Royal County of Berkshire Pension Fund: in return for a steady stream of insurance premiums, Swiss Re contracted to pay out Berkshire’s pension obligations. The risk in that kind of deal is that the pensioners live too long, and that Swiss Re’s total payouts will be much bigger than the total insurance premiums.

Insuring longevity risk, then, is a great deal for Swiss Re: not only should it be profitable, if it’s priced correctly, but it also helps to naturally offset the company’s mortality risk. If people live longer, then pension payouts will be higher, but life-insurance payouts will be lower. And vice versa.

As a result, you’re unlikely to see a market in longevity bonds developing alongside the market in mortality bonds. Insurers’ longevity risk is already hedged, by their larger mortality risk, so they don’t need to go to capital markets to buy expensive hedge there.

Still, the hedge is not perfect, and so now we’re beginning to see Swiss Re come to the market hedging its basis risk: the risk that its longevity portfolio won’t act as a hedge for its mortality portfolio.

“We are hedging against the risk that life duration patterns between older, retired British males and younger US males diverge significantly,” said Alison McKie, head of life and health risk transformation at Swiss Re.

Swiss Re transferred $50 million of longevity trend risk to investors through an off-balance sheet investment vehicle called Kortis. “The bond is triggered by how the risks diverge,” McKie said.

This bond is small, at just $50 million, but the way it works is interesting. Swiss Re is essentially short the life of UK pensioners, and long the life of US workers. So the worst case scenario for the reinsurer is that UK pensioners start living longer even as US workers start dying early. And if that happens, the people who bought this bond, which pays a coupon of 4.72% per year through 2017, will lose some or all of their principal.

It’s an interesting concept, but it seems to me that basis risk is a very difficult thing to hedge, just because the sums involved when the two legs of your trade both move against you are so enormous. I suspect that basis bonds like this—the term of art seems to be “longevity trend bond”—are going to be a bit like catastrophe bonds: a good idea in theory, which has difficulty taking off in practice, and which never really reaches the critical mass needed to make a difference. Especially since there’s no natural buyer of this risk.

Update: Be sure to see the great comment from David Merkel below.

Maybe it’s because I’m European, but I simply cannot get my head around a developed nation where people with lifelong service in the police or the fire brigade can find themselves with no pension at all. Zero. But if you’re unlucky enough to have served in Prichard, Alabama, that’s the situation you’ve found yourself in for the past 14 months

The NYT had a heart-rending story on the city’s finances last week: it seems that if a city has unfavorable demographics and an incompetent government, then there’s no one—not the state, not the federal government, not any kind of pensions guarantee agency—willing to step in and make things right.

Nettie Banks, 68, a retired Prichard police and fire dispatcher, has filed for bankruptcy. Alfred Arnold, a 66-year-old retired fire captain, has gone back to work as a shopping mall security guard to try to keep his house. Eddie Ragland, 59, a retired police captain, accepted help from colleagues, bake sales and collection jars after he was shot by a robber, leaving him badly wounded and unable to get to his new job as a police officer at the regional airport.

Far worse was the retired fire marshal who died in June. Like many of the others, he was too young to collect Social Security. “When they found him, he had no electricity and no running water in his house,” said David Anders, 58, a retired district fire chief. “He was a proud enough man that he wouldn’t accept help.”

Back in March, Prichard was given two months to work out how it was going to pay its pensioners—and that was after they’d already gone without pay for half a year. Today, we’re told, “a mediation effort is expected to begin soon.” And according to Michael Corkery, the city has proposed capping benefits to current retirees at about $200 a month.

The problem here isn’t gold-plated pensions—Prichard was paying out only $1,000 a month on its average pension when it defaulted back in October 2009. Neither is it, as Mish would have it, the Alabama legislature, which passed various bills amending city pension plans over the years. And it’s not greedy bondholders, either, asserting their seniority over pensioners: Prichard doesn’t have any outstanding bonds, and even bank loans don’t seem to be an issue.

Ultimately, the problem here is a confluence of two factors. On the one hand you have the nationwide—and indeed global—issue of unfunded public pension liabilities. On the other hand you have the statistical inevitability that in a country with thousands of municipal pension plans, some of them are going to run out of money.

One thing I’m pretty sure about: if and when a city with bonded debt arrives at the same place as Prichard, all the covenants in the world won’t be enough to protect bondholders from default. It’s politically impossible to pay creditors on Wall Street while short-changing people who worked for the city for decades and who have no other income to fall back on.

And more generally, the problem of municipal pensions is shaping up to be a Gordian nightmare. Cities which have diligently funded their own pension plans won’t ever want to bail out those who haven’t, or see federal funds used for such purposes. But on the other hand, situations like Prichard’s are clearly unacceptable, which means that there has to be some kind of bailout. Public pensions, I fear, could turn out to be the biggest moral-hazard play ever.