We starved the beast.  And suddenly we find we need it.  But no amount of whipping is going to get it moving any faster than the starved, weak, abused thing we let it become.

“Starving the beast” is a political strategy employed by American conservatives to limit government spending by cutting taxes, in order to deprive the federal government of revenue in a deliberate effort to force it to reduce spending.

With the Coronavirus Crisis just barely underway, I think many people are wildly over-optimistic about the US Federal and State Government response.  What Governments will do quickly, how much they can do, how effective that would be if executed well, and how poor that execution will likely be.

What They Will Do Now.  Dither Around As The Crisis Spirals Out of Control.

Why do I think this?  Because that is what “the Government” has been doing for the past 2 months.    “Reassuring the public” and “preventing panic.”  Hoping that we’d somehow avoid the crisis.  It is obvious the simple contingency plans aren’t in place, much less the physical preparation of beds and supplies.

We also have a very recent, utterly depressing analog.  The Government response to the 2008 Financial Crisis.  People are forgetting how long it took for Washington to take that seriously and mount even the half-hearted, ineffective response they produced in 2009.

There were months of dithering. We didn’t get a stimulus package until after Obama took office.  That $900B popgun was pathetically too small and poorly targeted  (as most serious economists now agree).  The Republicans also spent the following 8 years tarring and feathering Obama for “ineffective stimulus” and “bailouts.”  Making it that much harder for them to find a politically path to supporting, well, bailouts and stimulus now.

A lot of Republicans also spent the last month messaging around how the Coronavirus “scare” was a “plot to get Trump.”  That was true until the middle of last week.  Polling shows Republican-leaning areas still don’t grasp the gravity of the crisis.  It is hard to see that whole complex turning on a dime to support the sort of intervention we need.

What They Can Do.  Very Little without Congress Taking Action.  And Congress Won’t Take (Quick) Action.

Most effective economic action requires spending money and/or changing laws to allow entities like the Fed to spend more money more creatively.  The power of the purse lies in the hands of Congress.  And that purse will stay closed for too long for the response to be effective.

Never forget that the US House (Republican controlled) voted down the TARP bailout bill on their first try in September 2008.  It took a God-awful market crash (on that non-vote news) to change their minds.

Now, in 2020, we have a MORE partisan, reality-denying group of Congressmen and Senators.  Why expect them to be any more amenable to acting quickly and rationally this time around.

Will It Be Effective?  No.  What is Needed is Direct Cash Transfers and a Debt Holiday.  That Sounds Too Much Like Socialism…

Right now, it isn’t even clear we can get the Senate to vote for a watered down paid sick leave bill that doesn’t cover huge swathes of the working population much less non-working people.  So what miracle is needed to get them to the sort of “make the rent” funding we are going to need by April or May?

But lets assume that miracle realization occurs.  The solution is (obviously) immediate, direct, effective government intervention.  Sending out checks.  Unilaterally suspending contracts.

“Direct, effective government intervention” is Anathema to a Party With a Founding Myth That “Government isn’t the solution, it’s the problem.“

If there is a constant of Republican governance, it is that you can’t ever allow an efficient, effective response by government to anything.  And if they come across something working well in government?  Starve and beat it until its broken.  Then blame “the beast” for your own vandalism.

Anything to keep people from re-acquiring faith that government might actually play a useful role in society. Even in the face of the obvious need for “governmental” functions like the goddam CDC.  Too many of them are too invested in destroying and hobbling the government at all costs (“starve the beast”).  Never imagining that cost might be paid by them and their loved ones.

A Starved Beast is a Weak, Incompetent Beast.

The final, sad truth is that the beast is clearly failing.  As starved beasts tend to do.  Too many years of below-market salaries and “running against Washington” by BOTH parties.

The government response so far has been pathetic.  Shouting at the beast won’t get us much.  Whipping it won’t do much either.  And there’s now way we’re going to re-feed the beast fast enough for it to rise to the occasion.

So, in sum, don’t expect the starved beast to save you.  And I’m not sure who else can.  Which is why we are hunkered down and expecting things to get worse before they get better.

I wrote this in response to a piece a friend sent and figured I’d just share verbatim.  Arguing that “cheap” PE ratios aren’t valid because the earnings estimates in them are stale. pre-virus numbers.

Tempted by the cheap valuations the equity rout has produced? Think again: stocks may still be much more expensive than they seem.  The ratio of price to estimated earnings for the S&P 500 Index has fallen to 15.5 times, much lower than the dotcom era’s 25.7 and almost the same as at the start of the bull market. Emerging-market stocks are similar: the benchmark gauge has fallen below its life-time average valuation and is also 30% cheaper than its all-time high.  But stock prices discount known risks more quickly than analysts’ estimates for earnings, which follow with a time lag. Indexes already reflect the latest reality, but profit forecasts don’t yet. That means the current price-to-earnings ratios are logical fallacies.

The author is right that SOME earnings estimates are way too high.  But SOME estimates are probably going to be roughly the same.  With a huge sector-by-sector variance.  So the post-crash crowding effect into stocks that aren’t going to take a hit is going to be BRUTAL.  Portfolio Managers will have to wake up next week and try to find ways to out-perform the holes they have found themselves in.  Unfortunately, the stocks that will do the best (especially SAAS) were already the “crowded longs” before this crisis.

Lets stick with the (hopefully) consensus “Coronavirus!” scenario not the “We are becoming Japan – deflation!” scenario.  Meaning things have sorted out by 3Q-4Q.  By that measure, the market has actually been (so far) pretty rational in this sell-off.

• A lot of bankruptcies or emergency re-financings.  General carnage in the consumer oil, services space etc. etc.
• A lot of companies will never make those lost revenues back.  Meals not sold, trips not taken, etc etc.
• But a lot of companies will see very little change to revenues.  Especially “subscription” businesses.  Telcos, cable, Netflix, AWS, SAAS, etc….
• But a lot of “Industrial goods” companies (I’m thinking my comm equipment guys but could be anyone) will be sitting on a wave of pent up demand.  The lost sales from 1Q and 2Q will mostly come into 3Q-4Q.  OK, not if the end customers are bankrupt.  But that will be a sector-by-sector effect.
  • I own Infinera, which was a mistake (a $200m convert they did last week crashed the stock).  But it is burned down to the ground (plenty of cash cushion after that convert) and any “lost” sales will come back.  They are also ramping up a new product cycle that should last for @3 years and the stock is now trading at 0.57 EV/TTM sales.  Any earnings hit will be a blip and they have the cash to ride this out.
• A (tiny) sub-set of companies will sail right through this or even benefit.  I happen to own two of them more by luck than any “Coronavirus-proofing” moves on my part.  They are useful examples though.  Estimates for both either don’t change (Atlassian) or maybe go up (Cloudflare).
  • Atlassian:  Has a “no sales force” growth model (based on viral customer adoption) that runs at a pretty stable 30% revenue growth rate.  Its software is cheap and mission critical to its customers.  Over-indexed to tech so it might lose some big start-up customers, but their customer concentration is so low (100,000+ customers) even that only knocks off a few points of revenue growth.
  • Cloudflare – relies mostly on inside sales mining a large existing base of “free” customers.  Those customers are running websites which they can do from home, so business activity will keep up.  Cloudflare also just happened to launch a cheap ($3-$5 a month), easy-to-set-up-and-use “work from home” remote access service this quarter.  Corporate VPN’s are set up for occasional travel, not 100% work from home so demand for that service will be extremely high.

The market is reflecting that differential outlook.  Cloudflare has outperformed the S&P by 42%, Atlassian by 28%.  If you look at their charts alone, you’d never know we were in a panic (which is one big reason I’ve been feeling behind the curve the last week or so).

I’m using my stocks as examples because I know them and have been doing a lot of thinking about them.  I am taking ZERO credit for positioning myself for Coronavirus.  Like I said above, I was way too complacent.  Looking at the non-crisis in my stocks and not the obvious crisis in the markets.

It is time to take down risk and plan for a long stretch of deflation, poor returns on assets, and general stagnation.  The immediate but temporary threat of Coronavirus is obscuring clear and obvious signs of a much uglier, longer-term slump.

I’m actually grateful for the noise and smoke of Coronavirus because it’ll hopefully allow me to shuffle out of some positions at higher prices.  A decent number of people will “look through” Coronavirus and price in a return to normalcy by year end.  Maybe price in a recession and some tough times, but basically mean reversion as we get into 2021.  Because people usually (and reasonably) tend to assume a return to the status quo.

That forecast should drive a decent market rally.  “Look through the dip” buyers will come back in.  The forced selling will have already happened.  We won’t be back to go-go times, but we should bounce.

But the market is bigger and smarter than those people (or me).  The market sees something darker than just a temporary dip.  Coronavirus is obscuring increasingly obvious signs of an increasingly stagnant, deflationary economic outlook.

How obvious?  They are in the paper every day.  Below is a table of US treasury yields going out 30 years.  They are barely positive.  They are negative until 10 years out once you account for market-based inflation expectations (which have also cratered – see below or this link).

Remember the 10-30 year bond is a “rule of thumb” forecast of real economic growth (treasury rate = future real growth minus future inflation).  Per the chart above, the market is pricing in around zero real growth 10-30 years out.

You might shrug and say yields are low because of the Coronavirus crisis.  But as we get closer to 0%, the danger embedded in those yields goes up exponentially.  Policy error.  Pushing on a string.  Lack of political will for fiscal stimulus.  Those risks get a whole lot more real and dangerous as we get near 0%.  Professionals should know to know this, but yields have been headed down for so long everyone has kind’ve gotten used to it.

The other obvious sign was the market reaction to the Fed’s 50 basis point cut in rates.  Instead of rallying, the market tanked.  Because the market is seeing that exponential increase in risk   The IOER rate (what the Fed pays to banks on reserves) is now 1.10%.  That makes overnight deposits at the Fed a better investment than anything but the 30 year Treasury.  Which makes it highly likely the Fed cuts rates again as they keep chasing (not leading) the market down.  Arguably they need to get their overnight rate somewhere closer to the 0.44% 1 month treasury.

Maybe that rate cut spurs a rally.  But the market’s current message is pretty clear from here until somewhere past 10 years out.  Economic growth is gonna suck.  Not because of Coronavirus, but because of all sorts of chronic problems (mostly demographics).

Maybe the market is wrong.  I’ve made pretty decent money betting on exactly that with individual stocks.  But I’m going to believe the market on this one.  It is usually smarter than us.

I’ll wrap up with this quote from John Authers at Bloomberg.

“As people spot the logical fallacy in American exceptionalism, they also begin to spot the fallacy in TINA (“there is no alternative”) — the notion that low yields make bonds such bad value that it is justified to pay high multiples for stocks. The problem with this, rather as with the “long oil/short banks” trade back in 2008, is that at a certain point the rationale no longer works. Bond yields of less than 1% only make sense if the economy is bound for a long drawn-out deflationary recession. And if that is the fate of the economy, the effect on stocks will be horrible. This little item of logic also appears now to have clarified itself in the mind of investors, helped by the twin shocks of oil and the virus. “

https://fred.stlouisfed.org/graph/fredgraph.png?g=qksw

A surprisingly large number of Americans are perfectly willing to vote for a Socialist.

This is the take-it-to-the-bank lesson so far from the Democratic nomination race.  Although it may only be surprising to a certain upper layer of society (to which I belong I’ll be first to admit).

There will be no going back. Crossing this Rubicon may prove more consequential than Trump’s re-animating a dormant nativist/racist strain of American politics.  Putting the “Socialist” Genie back in a bottle won’t be easy and will, for sure, entail a pretty major shift leftward.  It isn’t just Bernie.  Remember the prior front-runner was equally Left Warren.

The lesson is clear, but a lot of people seem to be working extra-hard to avoid learning it.  I suspect this was the animating motive behind the “Bloomberg will save us!” fantasy of the last few weeks.

I think a lot of the comfortable classes have spent the last 4 years in a state of denial that my brother once summed up neatly (in a different context) as; “Wanting things to be different, but not wanting to change.”  Blaming the messenger (it was Hillary) not the message (Clintonista “1990’s Republican policies with a kinder face” ain’t cutting it anymore).

It was a lesson that should have been clear way back in 2016 if you looked at Trump and Sanders as two sides of the same coin.  A huge majority of voters keep voting for “change.” The existing powers-that-be keep struggling to find a way to not deliver it.  Never forget that 2016 race was “supposed” to be Hillary vs Jeb Bush.

That pent up demand for “change” burst out in one direction with Trump in 2016.  We’ll see what happens in 2020.  But the genie is out of the bottle.  I don’t think we get it back in.

FYI – Been thinking about this post for a week and realized I “had” to get it out ahead of Super Tuesday.

Biden’s polling “support” is properly read as “undecided.”  Meaning the Democratic primary race has (or had) about 30%40% “undecided” and is wide open.  The real question is where that 30%-40% lands.  I still think Warren is the most likely recipient. 

I’ve been meaning to write this post for about 3 months, so please take my word for it that I’m not jumping on some bandwagon after the Iowa Caucuses. Also please take my word for it that I’ve seen Warren as the most likely nominee since early 2019 and BEFORE I’d come around to personally supporting her (which I now do).   From my purely personal interests, I’d probably prefer Bloomberg actually (as would most anyone who experienced him as NYC mayor).  To the extent this post reflects my own bias, it is that I expect a majority of other folks to walk the same path I have – starting from initial caution about Warren and ending up voting for her.

If the botched Iowa Caucuses showed us one thing, it is that very few people are passionate about Biden.  I think his support melts away to other candidates.  That leaves only two “unitary” front-runners on the left – Sanders & Warren.  There’s a third “front runner” seat open in the center – contested by “KBB” (Klobuchar, Butteigeig and now Bloomberg).

I think Warren – the most common 2nd choice candidate by recent polling – has the best shot of consolidating a real lead out of a mix of lefty and centrist voters.  She occupies the middle ground between Sanders and KBB.

Handicapping in the Democratic race has so far suffered from a drive-a-truck-through-it-obvious false assumption.  That Biden’s @40% polling lead signaled actual support.  But I dare you to find anyone who is (or was) actually passionate about Biden.  For sure that number is a lot closer to 10% of likely voters than 40%.

That polling strength it rested on a tautology.

I’ll vote for whoever is most “electable.”  The polls/primaries, etc.  tell me Biden is “the most electable.”  So I will answer Biden when this pollster asks.  Besides, I’ve heard of him…

Circular reasoning.  Broken by the first serious dent in that “electability” shine.  So, unless you posited a string of un-challenged success, Biden was always going to crash and burn.   Iowa and a likely loss in New Hampshire probably provide the fatal sparks.

That means 40% of likely voters will flow elsewhere as Biden loses that “electability” shine. So where will they flow? My calculus – starting from least to most likely:

• Butteigeig:  He’s today’s shiny new thing, but he won’t last.  A summer camp fling.  Assuming you are into slightly robotic (and thus slightly creepy) 37 year old, been-running-for-President-since-birth-that’s-the-‘served-my-country’-reason-I-joined-the-military-and-why-I-obscured-my-sexuality-for-so-long guys…
• Bloomberg:  I think his commercials deserve a medal for public service.  I think he’s great.  Anyone who lived in or around NYC thinks he’s great.  But the election isn’t decided by people who live in or around NYC.  I’m guessing most of the country really has no idea who he is – they’ll see a (very) old, short, nasal Jewish billionaire.  A massive ad surge probably isn’t enough to get him over that hump.  It MIGHT leave him with enough delegates to play king-maker at the convention.  I think that is his real game.  But who does he make King Queen?  Sanders?  Warren?  That leaves…
• …Klobuchar.  There’s a reason the NYTimes endorsed her and Warren (and not Biden).  She’s the only “centrist” left standing after Biden and Butteigeig flame out.  Also the likely proxy for Bloomberg.  Also (most important perhaps) the last great hope for the Clintonistas to retain control of the Democratic Party.
• Bernie.  I think his support is capped.  He scares the bejeesus out of a lot of people.  Most important, he scares the Clintonista wing of the party.  They would probably prefer Trump to win than risk Bernie (or maybe Warren too) winning.  Holding on to power in the minority is better than losing it altogether.

Warren:  That leaves Warren as the most likely “2nd choice” home for KBB and Sanders supporters.  With her running de facto against a coalition of Klobuchar and Bloomberg and the Clintonistas.  I’m guessing Warren puts together a combination of

1. Defecting KBB (esp Butteigeig early on) voters who prefer her to Sanders.
   
2. Suburban women on hidden shame they didn’t turn out for Hillary and deep regret for the toxic jerk they got out of being “too busy with all this personal stuff to vote” in 2016.
3. The up-for-grabs “blow it all up” voters (I voted for Obama and then I voted for Trump and now I will continue to vote for an anti-establishment candidate).
4. Sanders supporters if/when his momentum gets blunted.

In a horse race between Warren and Klobuchar, I think Warren wins.  With Bloomberg (and Biden and Butteigeig‘s) delegate count being the wild card.  In the end, if Warren has clear voter momentum I don’t think a cynical, horse-traded “coalition” delegate count convention game will prevail.  Although I could end up hoist on my own petard…

…the Clintonista wing of the party…. would probably prefer… Trump to win than risk Bernie (or maybe Warren too) winning.  Holding on to power in the minority is better than losing it altogether.

Fascist leaders made no secret of having no program. Mussolini exalted in that absence….  A few months before he became prime minister of Italy, he replied truculently to a critic who demanded to know what his program was: “The democrats of [newspaper] Il Mondo want to know our program? It is to break the bones of the democrats of Il Mondo. And the sooner the better.”

“The fist,” asserted a Fascist militant in 1920, “is the synthesis of our theory…” The will and leadership of a Duce was what a modern people needed, not a doctrine…

To conclude that Nazism or other forms of fascism are forms of mental disturbance is doubly dangerous:  it offers an alibi to the multitude of “normal” fascists and it ill prepares us to recognize the utter normality of authentic Fascism.”

2004 – Robert Paxton, “The Anatomy of Fascism”

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“I alone can fix it.” Donald Trump, 2016 Republican Convention

A month ago, I also would have scoffed at my own headline. Fascism? That’s some sort of ancient-history-European disease!  But a bit of side reading just punched me in the gut.

“Trumpism” is Fascism.  Literally.  The word fits like a made-to-measure suit.

Does that seem over-blown?  Exaggerated?  Alarmist?  Read the quotes below.  You’ll come to the same chilling realization I just had.

This is also why I keep bringing up that pre-war, 1939 book “Defying Hitler:  A Memoir.”  Fascism thrives in the soil of indifference. The only thing necessary for the triumph of evil is that good men do nothing…  Defying the cancer of Fascism starts with acknowledging it is here with us now.  Not in a 1930’s black and white newsreel.  Here today in Technicolor  – tinged slightly orange.

All Nazis Are Fascists.  But All Fascists Are Not Nazis.

I’m taking my “textbook” definition from the first chapters of a 2004 book exploring Fascism as a social/historical/political phenomena – “The Anatomy of Fascism” by the historian Robert Paxton.

I picked it up mostly because I’d read and enjoyed Paxton’s seminal history of WW2’s occupied Vichy France in college. That book earned him the Legion d’honneur from the French Government in 2009.  Doubly impressive given he’d argued much of French society collaborated willingly and even enthusiastically with the Nazis; overturning the self-serving post-war-France myth that “We were all in the Resistance“.

The word “Fascism” carries the awful historical baggage of Nazism and WW2.  But, per Paxton’s quote above, the phenomena of Fascism encompasses more than its devil child of Nazism.  It was (and is) a broader, more commonplace. social cancer.  Just like the term “Communism” encompasses more than just the historical baggage of Lenin/Stalin’s Russia and Mao’s China (much less the madness of Pol Pot’s Cambodia).

I’ve excerpted Paxton verbatim below, but taking the liberty of replacing the the over-weighted term “Fascism” with “Trumpism.”  Remember Paxton is looking backwards from 2004 with no present axe to grind.  It makes for spine-chilling reading.

All body text that follows is a quote.

Trumpism – “A Set of Mobilizing Passions [vs] a Fully Articulated Philosophy”

Trumpism is more plausibly linked to a set of mobilizing passions that shape fascist action than to consistent and fully articulated philosophy.

At bottom is a passionate nationalism. Allied to it is a conspiratorial and Manichean view of history as a battle between the good and evil camps, between the pure and the corrupt in which one’s own community or nation has been the victim. In this Darwinian narrative, the chosen people have been weakened by political parties, social classes, un-assimilable minorities, spoiled rentiers. and rationalist thinkers who lack the necessary sense of community.

These “mobilizing passions,” mostly taken for granted and not always overtly argued as intellectual propositions, form the emotional lava that set Trumpism’s foundations:

• a sense of overwhelming crisis beyond the reach of any traditional solutions:
• the primacy of the group, toward which one has duties superior to every right, whether individual or universal, and the subordination of the individual to it:
• the belief that one’s group is a victim, a sentiment that justifies any action, without legal or moral limits, against its enemies, both internal and external;
• dread of the group’s decline under the corrosive effects of individualistic liberalism, class conflict, and alien [cosmopolitan] influences:
• the need for closer integration of a purer community, by consent if possible, or by exclusionary violence if necessary;
• the need for authority by natural leaders (always male), culminating in a national chief who alone is capable of incarnating the group’s destiny:
• the superiority of the leader’s instincts over abstract and universal reason;
• the beauty of violence and the efficacy of will, when they are devoted to the group’s success;
• the right of the chosen people to dominate others without restraint from any kind of human or divine law, right being decided by the sole criterion of the group’s prowess within a Darwinian struggle.

“Experts in Nothing Except the Manipulation of Crowds and the Fanning of Resentments” – Fascist Leaders Are Cut From a Different Cloth….

“But many of the fascist leaders [of the 1930’s] were marginal in a new way.  They did not resemble the interlopers of earlier eras:  the soldiers of fortune, the first upwardly mobile [bourgeois] parlimentarians, or the clever mechanics [businessmen].  Some were bohemians, lumpen-intellectuals,¹ dilettantes;  experts in nothing except the manipulation of crowds and the fanning of resentments.”

The Below Could Have Been Written Yesterday…

Trumpism rested not upon the truth of its doctrine but upon the leader’s mystical union with the historic destiny of his people, a notion related to romanticist ideas of national historic flowering and of individual artistic or spiritual genius, though Trumpism otherwise denied romanticism’s exaltation of unfettered personal creativity.

The fascist leader wanted to bring his people into a higher realm of politics that they would experience sensually: the warmth of belonging to a race now fully aware of its identity, historic destiny, and power; the excitement of participating in a vast collective enterprise; the gratification of submerging oneself in a wave of shared feelings, and of sacrificing one’s petty concerns for the group’s good; and the thrill of domination.

Trumpism’s deliberate replacement of reasoned debate with immediate sensual experience transformed politics, as the exiled German cultural critic Walter Benjamin was the first to point out, into aesthetics. And the ultimate fascist aesthetic experience, Benjamin warned in 1936, was war.

Fascist leaders made no secret of having no program. Mussolini exalted in that absence. “The Fasci di Combattimento,” Mussolini wrote in the “Postulates of the Fascist Program” of May 1920,”… do not feel tied to any particular doctrinal form.” A few months before he became prime minister of Italy, he replied truculently to a critic who demanded to know what his program was: “The democrats of [newspaper] Il Mondo want to know our program? It is to break the bones of the democrats of Il Mondo. And the sooner the better.”

“The fist,” asserted a Fascist militant in 1920, “is the synthesis of our theory.” Mussolini liked to declare that he himself was the definition of Trumpism. The will and leadership of a Duce was what a modern people needed, not a doctrine… Power came first, then doctrine. Hannah Arendt observed that Mussolini “was probably the first party leader who consciously rejected a formal pro gram and replaced it with inspired leadership and action alone.”

¹  Derived From Lumpenproletariat “a term used primarily by Marxist theorists to describe the underclass devoid of class consciousness.[1] Coined by Karl Marx and Friedrich Engels in the 1840s, they used it to refer to the unthinking lower strata of society exploited by reactionary and counter-revolutionary forces, particularly in the context of the revolutions of 1848. They dismissed its revolutionary potential and contrasted it with the proletariat. Among other groups criminals, vagabonds, and sex workers are usually included in this category.”

Do you want a clear conscience after Election Day 2020?  I do.  So I BOUGHT one by taking action now.  I just gave not-a-lot-of-money to six Democratic Senatorial campaigns.  You can buy that same peace in about 10 minutes – one entry of your credit card number is good for all the links below.  You’ll like the person in the mirror a little better for doing it.  I promise.

1. Sarah Gideon in Maine (vs Susan Collins) – https://secure.actblue.com/donate/ads-gs-evergreendtd
2. John Hickenlooper in Colorado (vs Cory Gardner) – https://secure.actblue.com/donate/hickenlooper-colorado2020
3. Mark Kelly in Arizona (vs Martha McSally) – https://secure.actblue.com/donate/mek-website
4. Cal Cunningham in North Carolina (vs Thom TIllis) – https://secure.actblue.com/donate/cal-website
5. Amy McGrath in Kentucky (vs Mitch McConnell) – https://secure.actblue.com/donate/cal-website
6. Theresa Greenfield (vs Joni Ernst) – https://secure.actblue.com/donate/tg-website-2020

Why give to Senate campaigns? $10 each; or $50; or $250.  $60, $300, or $1,500 is a small price to pay to reserve the right to say “I did what I could.”  Everyone can find some money and ten minutes.

• Your dollars go a lot further in a Senate race.
• You don’t have to agonize over which Presidential candidate to support. These are clear front-runners who need your money NOW.  The Presidential campaigns will do just fine without you.
• We already know what happens if a Democrat wins the White House, but Mitch McConnell still runs the senate.  Remember the stasis and frustration of Obama’s last 6 years in office.  Nothing got done after the Senate flipped.  Feeding the national frustration that brought us Trump.  McConnell laughing all the way to the bank.
• If Trump wins and the Democrats win the Senate/House, the nation will be OK.  Trump will be reduced to railing from his twitter account.
• If a Democrat wins the White House and McConnell stays in power, we’re guaranteed 4 years of conflict and partisanship.
• If Trump wins and McConnell stays in power, you’ll at least avoid the shame of knowing you could have done more.
• All the candidates above are viable incumbent-defeaters.  The longest shot is Amy McGrath in Kentucky.  But I believe no dollar spent on defeating McConnell is ever wasted.  Never forget McConnell flat out refused to let a Spring 2016 Supreme Court nomination go through.  That flagrant foul arguably put a deeper hole below the waterline of American Democracy than anything Trump has done (so far). 

Trump grabs the headlines, but the real evil lies in his enablers.  Craven, self-interested, sell-outs who’d rather rule a ruined hulk than give up power.  Mitch McConnell and the Lapdogs.  Yertle the Turtle on his throne of minions.

Humor aside, we are living through a moment of “The only thing necessary for the triumph of evil is that good men do nothing.” A lesson I’ve really taken to heart from recent reading.  I’m horrified about the direction this country is taking.  But I had an awkward moment a few months ago after reading “Defying Hitler:  A Memoir” – an excellent, gripping, highly readable book written in 1939 before WW2.

Was I doing any better than the upper-middle-class people who complained about this vulgarian racist and his craven followers, but did precisely nothing to stop them?

I was finally moved to act by a 2005 book I’m reading now – “The Anatomy of Fascism” by the (excellent) historian of inter-war Europe Robert Paxton.  More on that later.

Right now, click those links folks!  Buy yourself some peace.

I think Nancy Pelosi is hoping and waiting for “the” under-the-waterline leak that torpedoes the Trump administration’s impeachment defense.  A smoking gun memo.  Or a White House official breaking ranks and testifying.

That isn’t a guarantee this will happen and she’s got plenty of other good reasons for a delay.  But this alone argued for a pause in stirring the pot.  Some particularly foul-smelling turds might just bob to the surface.

It is clear and obvious such turds are dammed up behind the White House’s stonewalling.  The Administrations general indiscipline also makes it likely someone will let one slip.  Either a self-serving jerk (“Hello Mr. Bolton, so happy you’ve decided to come clean.”) or maybe an honest patriot (another whistleblower?  The person who wrote “Anonymous?”)

We’ll just have to wait and see.  Maybe nothing comes out.  Maybe some New Year’s soul-searching or lawyer-client chats or self-serving calculation delivers a bombshell.

More broadly, I think delay is the right strategy.  Yes, delay means impeachment will fester and soak up airtime into 2020.  But that is a good thing in my view.

Trump-land thrives on keeping people off-balance with rapid-fire narrative progression.  Never let a story get stale.  Even a fresh outrage is preferable to letting any one negative story fester too long.  The audience gets buried, perplexed, and ultimately numbed to the dizzying. overwhelming shocks.  Sort’ve like the Group 3 dogs in the Learned Helplessness experiment below.

Letting impeachment fester threatens to slow the mad carousel of confusion that protects Trump.  If it slows it down enough, other turds will likely bob to the surface and stay in focus… And that is a self-reinforcing cycle that even Trump may fail to break.  Although he’ll probably start a war with North Korea if he really has to change the subject…

“Learned Helplessness”     

American psychologist Martin Seligman initiated research on learned helplessness in 1967 at the University of Pennsylvania as an extension of his interest in depression.[5][6] This research was later expanded through experiments by Seligman and others. One of the first was an experiment by Seligman & Maier: In Part 1 of this study, three groups of dogs were placed in harnesses. Group 1 dogs were simply put in a harnesses for a period of time and were later released. Groups 2 and 3 consisted of “yoked pairs”. Dogs in Group 2 were given electric shocks at random times, which the dog could end by pressing a lever. Each dog in Group 3 was paired with a Group 2 dog; whenever a Group 2 dog got a shock, its paired dog in Group 3 got a shock of the same intensity and duration, but its lever did not stop the shock. To a dog in Group 3, it seemed that the shock ended at random, because it was their paired dog in Group 2 that was causing it to stop. Thus, for Group 3 dogs, the shock was “inescapable”.

In Part 2 of the experiment the same three groups of dogs were tested in a shuttle-box apparatus (a chamber containing two rectangular compartments divided by a barrier a few inches high). All of the dogs could escape shocks on one side of the box by jumping over a low partition to the other side. The dogs in Groups 1 and 2 quickly learned this task and escaped the shock. Most of the Group 3 dogs – which had previously learned that nothing they did had any effect on shocks – simply lay down passively and whined when they were shocked.[5]

As you can see, I’m heading back into political commentary in 2020.  Figured its more salient than interest rates.  And more interesting now.

I am publishing the attached letter here to ensure it is publicly available to those who might have an interest in Calix.  If it is of interest, keep on reading.  If not, I’ll be back with my usual programming probably sometime after the immanent birth of my 2nd child.

Link to a better formatted PDF is below.  Full text follows.

Letter Calix Board Have You Lost Control V2 10 Dec 2019

December 11, 2019

Calix’s Board of Directors Individually and Collectively.

c/o Corporate Secretary, Ms. Suzanne Tom, Calix

2777 Orchard Parkway,

San Jose, California 95134

Dear Mr. Christopher Bowick, Ms. Kathy Crusco, Mr. Kevin DeNuccio, Mr. Mike Everett, Mr. Don Listwin, Ms. Kira Makagon, Mr. Michael Matthews, Mr. Kevin Peters, Mr. J. Daniel Plants, and Mr. Carl Russo.

Dear Members of the Calix Board,

First let me offer my sympathies. You must be feeling at least a little embarrassed after being had so publicly and nakedly over a barrel.

Your CFO and EVP just forced you to cough up almost 3.5% of Calix‘s equity. Just to keep them showing up for work. Part of a team that has missed Board targets 3 years in a row.

It is obvious Mr. Sindelar and Mr. Weening’s had the whip hand in this negotiation.

It is equally obvious the Board, on the receiving end of that whip hand, has lost effective control and authority.

Mr. Weening and Mr. Sindelar took advantage of your weakness. Created, ironically, by their failure to execute. They dictated their terms. With a gratuitous relocation bonus as the cherry on top. I don’t blame them. They took what they could get. And they took a lot.

The Board was in no position to bargain.

We Just Got Held Up in Broad Daylight

The scale of that capitulation bears witness to the Board’s current impotence. It is clear who was dictating terms to whom.

Options for 1,910 shares over 4 years. Almost 3.5% of the company. $15 million at today’s stock price. Probably $25-$30 million if Calix ever achieves its potential (or a takeover premium). About 1/5 of current revenues. Almost equal to Calix’s total cash G&A spending.

Putting a bright line under the Board’s loss of authority, you couldn’t even hold Mr. Weening to a commitment made in writing in his 2016 employment agreement. Mr. Weening was supposed to initiate a move to San Jose in 2016. 3 years later, he’s holding us up for a gratuitous $225k to (finally) deliver on that contracted commitment. He clearly has the whip hand.

“You agree that your relocation shall be initiated within the first twelve months of your [June 27, 2016] employment and completed within 24 months of your [June 27, 2016] employment.” Per a (public, May 20, 2016) copy of Mr. Weening’s contract.

Over-Paying for Under-Performance. Evidence The Board Has Lost Control and Authority.

We just got rolled How else could one characterize handing over 3.5% of the company to an executive team that has consistently missed its targets?

Lacking bargaining power, you must have had no other choice.

How did Mr. Sindelar and Mr Weening back the Board into a corner like that? They leveraged their prior failures. The sum of those mistakes has left a precariously weak Calix unable to credibly threaten them with replacement. You were negotiating with no credible alternative option.

They knew (and you knew) they are currently irreplaceable.

• After Mr. Billings quit in September, Calix couldn’t afford any more executive departures.

• Its hard to hire competent executives into any company with a wafer thin cash cushion and a history of missing targets.

• Hobby farms have particular trouble attracting talent. The problem of being run for one man’s pride vs. everyone else’s profit. Real professionals know that. They have their own pride. They want to be on a winning team.

• It has always been hard to find people willing to work with Carl – as you hopefully know. It is only getting harder. Carl’s been plowing a wide furrow with a big personality in a small industry for a long time now. And his last real success was back in 2002.

The Compounding Costs of Continuing Incompetence

Why couldn’t the Board at least avoid this negotiation? Delay to some time you were less helpless?

Likely because Mr. Weening and Sindelar forced the issue – leveraging their busted 2019 bonuses after missing their own targets.

Lacking a credible threat to replace Mr. Weening and Mr. Sindelar, the Board had no choice but to capitulate. Handing over this new, egregious retention package…

• …because quitting was a credible threat for Mr. Weening and Mr. Sindelar. Mr. Billings had just quit. And they weren’t getting a bonus because they’d missed their target for the 3^rd year in a row.

• They missed targets because they didn’t adequately buffer the botched execution of the 1Q19 manufacturing shift out of China. They also failed to land any new marquee customers in 2019.

• Partly because Calix was too strapped for cash to fund a more prudent manufacturing transition plan or inventory buffer; Or to fund adequate sales/marketing outreach (e.g. free demo systems).

• Cash got so tight the Employee Stock Purchase Plan became a material source of funding. Notably not included as a risk factor in your most recent 10Q filing. A sort of stealth equity raise for (now probably) over $10m at $5.661 a share (~40% dilutive as of yesterday).

• Cash was tight because Calix burned its cash reserves in the 2017 money bonfire of badly executed Services contracts (how really do you “achieve” a negative 30% Gross Margin?!?). With executive oversight so weak that it took months to understand how bad the damage was (much less avoid the botched execution in the first place)...

• …because, just before that 2017 debacle, management’s blithe over-confidence and detachment from the day-to-day had also led Calix to throw $40m of precious cash into a spectacularly ill-timed buyback.

What Harvest Will Your Executive Team Reap for These Seeds of Disaster They Themselves Sowed?

3.5% of the company…

If they’d screwed up more, would the Board have given them 5%?

The Fig Leaf of Carl’s Non-Participation Hides Nothing.

One might seek refuge in the argument that CEO Carl Russo isn’t taking part in this insider bonanza. This overlooks the obvious. In relative terms, it cost Carl nearly nothing to forgo those option grants.

Carl is not at Calix for the money. Calix is Carl’s hobby farm. He’s in it for the status.

Presumably – like many men of a certain age and wealth and in the twilight of their careers – he is hanging on the reassurance of continued relevance. That is worth far more to Carl than a few million dollars.

By that same token, the Board’s has no financial leverage over Carl. You know that. Your leverage lies in threatening his sense of status.

Yet that leverage remains un-exercised. Leaving Carl (and Calix) effectively un-governed. Compromised governance is at the core of any hobby farm.

One Accommodation Leads to Another. A Slippery Slope.

Mr. Weening and Mr. Sindelar are in it for the money. And they have just taken advantage of Calix’s compromised governance with spectacular success. Extracting an egregious amount from us. Knowing we had no choice but to capitulate.

You must acknowledge that vulnerability stems directly from the Board’s prior accommodation of the executive team’s serially poor execution. If Calix was in less dire straits, you could and would have sent them packing.

Instead, you let yourself get backed into a corner. And they had you over a barrel.

What to Do? We Can‘t Let the Inmates Keep Running the Asylum.

Individual Board members should take action or exit. Don’t go along to get along. When this rock gets turned over, you will own whatever comes crawling out from under it.

• Consider how the Board might re-assert its authority and take corrective action. Advocate to force that action.

• If you realize the Board can’t (or won’t) take action, then resign. Do yourself a favor.

The Board as a body needs to address its evident loss of authority;

• If the Board can see a path to effective action, then you must take it.

• If you cannot (or will not) re-assert control. Invite someone else to take control and take action in your stead.

  • Calix has great fundamental potential if managed capably with sufficient capital.

  • It would be obvious negligence to leave that potential value un-realized.

  • If internal competence and capital aren’t up to the task, you must look for them externally. Someone with a deeper bench and more cash.

Potential Value is Worth Zero If Left to Rot.

Mr. Russo and potentially other Board Members will likely argue a change-of-control premium is worth less than Calix’s potential value as a stand-alone company.

I wholly agree. A well-managed Calix is worth more stand-alone.

But Calix is not well managed. Leaving the same team in place repeats the same experiment hoping for different results. Their track record doesn’t support that hope.

AXOS won’t be market leading forever. It value will fade.

A sale will realize more value than Calix flailing on as the poorly managed, weakly governed hobby farm the Board has let it become.

A change-of-control would actually be a re-establishment of control. A Board with proper control and authority does not over-pay for under-performance like this.

Sale or Flail. Any Other Ideas?

The only choices on offer to shareholders now appear to be;

1. A sale to someone with more competence and capital.

2. More of the same. Weak execution by the same team. Repeating the experiment hoping for different results.

If you see are other choices, we are all ears.

Drop some of us a call. It wouldn’t take much time. There are precious few left to pick up the phone. Most of your holders are index and quant funds (for a reason).

Nokomis finally threw in the towel last quarter. Maybe call them too? Ask why…

Don’t Be a Naked Emperors’ Nobleman…

I’ll leave you with the “The Emperor’s New Clothes.” Ask yourself; “Do I really want to keep playing the role of Carl’s Nobleman here?”

The noblemen who were to carry his train stooped low and reached for the floor as if they were picking up his mantle. Then they pretended to lift and hold it high. They didn’t dare admit they had nothing to hold.

So off went the Emperor in procession under his splendid canopy. Everyone in the streets and the windows said, “Oh, how fine are the Emperor’s new clothes! Don’t they fit him to perfection? And see his long train!” Nobody would confess that he couldn’t see anything, for that would prove him either unfit for his position, or a fool. No costume the Emperor had worn before was ever such a complete success.

“But he hasn’t got anything on,” a little child said.

“Did you ever hear such innocent prattle?” said its father. And one person whispered to another what the child had said, “He hasn’t anything on. A child says he hasn’t anything on.”

“But he hasn’t got anything on!” the whole town cried out at last.

The Emperor shivered, for he suspected they were right. But he thought, “This procession has got to go on.” So he walked more proudly than ever, as his noblemen held high the train that wasn’t there at all.

http://www.andersen.sdu.dk/vaerk/hersholt/TheEmperorsNewClothes_e.html

You can try to shush the little boy. Mr. Listwin tried that. He initially chose to suppress my April 24^th letter addressed to the full Board. Forcing my follow-up letter on April 28^th that he could not suppress. That sequence of decisions is itself evidence of the compromised governance that Calix’s Board must address.

The obvious will, however, remain obvious. The next shareholder to call it out will likely be larger and even less pleasant to deal with. And they will see this letter.

Sincerely yours,

Steve Kamman

Cheers.

I remain amused worried by the persistence of the “Central Banks are manipulating rates!” myth.  Particularly among so many self-identified free market types.  It is a comforting myth.  And yes, the facts point in a deeply discomforting direction.  But FRED* doesn’t lie.  Conclusion first.  Facts follow.

1. The market is driving rates.  The Fed is dancing to the market’s tune.  Its a Wizard of Oz act.
2. The market has told us two things.
   1. Short-term rates above 2% are too high.
   2. Short term rates around 1.5% might be OK.
3. Rough but accurate math:  Long-Term Rate = Economic Growth Rate + Inflation Rate.  Re-arrange that and you get Inflation = Long-Term Rate minus Economic Growth.
   1. The market gives us 30 year (2.23%) and ten year (1.76%) rates.
   2. The San Francisco Fed estimates long-term economic growth of 1.5%-1.75%, based on immutable (and low) population growth and a reasonable guess on productivity growth.
   3. That solves for inflation between zero and o.5% (1.76% – 1.75%  = 0.01%,  2.23% – 1.75%  = 0.48%)

Inflation between 0% and 0.5% is scary as hell.

If you don’t believe me, google “deflation” and its consequences (or wait for a future blog post).  No wonder so many people are sticking to the more comforting narrative that “the Fed is manipulating rates.”    Because deflation is super terrifying.  Even a permanent low rate scenario is pretty terrifying too.

A lot of people are ignoring the above,  But the facts are pretty clear.  The above seemed highly plausible a few months ago.  The recent upward turn in long-term rates makes it even more clear.  The market is marking up future prospects as the the Fed cuts short-term rates, the market started raising its long-term rates.

So we might be OK with short-term rates around 1.5%.  Which is a heck of a lot better than a macho Fed-caused recession from over-high rates.  But it leaves no room for inflation in that long-term growth + inflation equation.  And that is the ugly truth.   

The graph below shows

1. The Fed’s short-term target interest rate (red line)
2. The market’s 10 and 30 year bond interest rates starting Jan 1 2018.

[iframe src=”https://fred.stlouisfed.org/graph/graph-landing.php?g=piQt&width=670&height=475″ scrolling=”no” frameborder=”0″style=”overflow:hidden; width:670px; height:525px;” allowTransparency=”true”>

https://fred.stlouisfed.org/graph/fredgraph.png?g=piO7

The Fed nearly doubled its target rate over 2018 – from 1.25% to 2.25%.  The (free) market played along until early  November.  Note that market rates started tanking before the Fed’s last rate increase around December 21.  The S&P500 was tanking too.

The Fed, chasing the market’s lead, started cutting its target rate down to 1.75 today.  Markets kept leading the Fed all the way.  Today, with the Fed’s rate at 1.75 and pretty clear signals of another cut to 1.5%, the market did something different.

Market rates have started going up.    The 10 year and the 30 year are ticking up.  The yield curve has un-inverted itself.

Yield Curve – 10 Year Treasury Minus the 2 Year Treasury

[iframe src=”https://fred.stlouisfed.org/graph/graph-landing.php?g=piS3&width=670&height=475″ scrolling=”no” frameborder=”0″style=”overflow:hidden; width:670px; height:525px;” allowTransparency=”true”>

* FRED is the St Louis Fed’s excellent and free data charting system.  “Download, graph, and track 590,000 US and international time series from 87 sources.”