Picking Correct Hard Asset Benchmarks

Hard assets deserve more attention than they get. Commodities, real estate, and perhaps even infrastructure are often lumped together into a very broad asset class. Picking them apart into sensible components requires identifying benchmarks for apples-to-apples comparisons.

Commodities are a very broad subject. Base metals, precious metals, energy sources, foodstuffs, and other materials have radically different uses. The Bloomberg Commodity Index Family is both broad enough and specialized enough to track the sector. The Commodity Research Bureau Indexes represent a less flexible allocation but is nevertheless included in other commercial index products. Picking a broad proxy like the CRB matters for fund managers who run portfolios large enough to include all of the benchmarks components. A fund managing that only hedges with energy futures or metal futures needs more specialized benchmarks tracking just that one thing.

Timberland and farmland are not the same thing in real estate. The end products, final markets, and supply chain inputs (fertilizer, climatology, etc.) are all different. Comparing timber REITs and farmland REITs means using their separate benchmarks. The real estate sector makes it easy. The NCREIF Timberland Index and NCREIF Farmland Index are as different from each other as corn stalks and black walnut trees.

Infrastructure may or may not deserve consideration as a separate asset class. It shares many risk characteristics with equity yet is often funded like a fixed income fund. The problem with benchmarks like the S+P Global Infrastructure Index is their tendency to track actively traded equities that build or maintain infrastructure. It is difficult for infrastructure-related investment products to make pure-play claims if they cannot hold ownership in the infrastructure projects themselves. Muni bond issuance remains the primary funding method for publicly-owned infrastructure. It makes no sense for an investment manager to benchmark a muni bond portfolio against an equity infrastructure index.

Institutional investment managers are often the dumbest people in finance, aside from financial advisers in retail wealth management. They led the charge into alternative assets decades ago with the Swensen Yale model. Some of them probably rode the recent commodities bear market all the way down. Herd mentalities drive smaller endowments and pension funds to mimic the poor portfolio models of the largest universities. Many things can go wrong with an asset allocation leaning heavily on illiquid hard assets. Doing right by any fund's beneficiaries involves picking the correct benchmarks and understanding which hard assets they track.

Alfidi Capital Checks Out Mineta Transportation Institute National Policy Summit 2014

I attended the Mineta National Policy Summit for 2014 at the Commonwealth Club a few days ago.  More policymakers should follow the Mineta Transportation Institute's work on funding transit infrastructure.  Lobbying organizations for the transportation industry certainly pay attention, and that's why lobbyists' legislative agendas are enacted into federal appropriations.  I never turn down a free breakfast and the Mineta people paid for enough banana nut bread and coffee cake to incentivize my attendance.

The head of DOT's Federal Transit Administration spoke on federal policy and the status of the Highway Trust Fund.  I've read plenty of commentary about the Fund's stresses from lapses in funding, and the transportation sector is very willing to accept higher fuel taxes.  Trucking operators know the federal highway system's disrepair better than anyone.  The FTA adapted its MAP-21 program to incorporate the New Start / Small Start Capital Grant Investment Program.  Making a long story short means there's federal money available for municipalities to upgrade transit infrastructure.  My only concern about such spending is that the federal government should not fund transit projects that do not connect to national infrastructure.  I can understand a new light rail line that connects an urban core to a major airport, because that airport connects to the rest of the US.  I do not agree with federal funding for a local line from one end of a waterfront to another, or to a ballpark.  That's an issue for local voters to decide.  There's too much room for local boondoggles and politicking in those projects that is impenetrable to federal review.  She mentioned that the Grow America Act is supposed to fix a long backlog of infrastructure and workforce development projects.  It's good to know that this Administration is getting serious about fixing the failing grades in the ASCE Report Card for America's Infrastructure.

Mineta analysts published the results of their MTI Project 1328 survey linking tax options to transit funding.  Americans are more likely to cough up dough for safety and maintenance than for global warming.  The climate change alternative religion IMHO hasn't convinced everyone just yet.  The Mineta panelists noted that Americans' views of transportation funding have remained consistent throughout changing economic cycles, which is no surprise for a topic typically off the low-information voter's radar.  I support the Obama Administration's proposed repeal of the ban on interstate tolling, because travelers who use our national infrastructure should pay for it as they go in addition to paying fuel taxes.  The panelists mentioned the recent APTA 2014 International Practicum on Innovative Transit Funding & Financing in Montreal, where experts presented case studies on how transit enhances property values.  That is the kind of data-driven analysis that urban planners need when municipal finance offices assemble bond issues for projects.

The various presenters made good points that lead me to ponder some untouched issues.  The sharing economy is just taking off and it will eliminate demand for parking garages and lots at airports and other nodes.  Those lots will become excess infrastructure we don't have to repair or expand.  I predict major public policy moves in favor of infill development of unused parking lots.  There is still unresolved tension between car advocates who think reduced metering increases retail commerce and transit advocates who think smart metering (changing fares by hour, congestion, and vehicle emission standards) enhances commerce.  Let's put the data from each side up for comparison, for crying out loud.  I would also like to see transit advocates address the GAO's reviews of DOT's recent results.  The GAO-14-628R report from May 2014 found that DOT's documentation and internal controls for TIGER grants were inadequate.  It is very disturbing to think that billions of dollars in grant money have been wasted on unneeded projects for expedient reasons.  I have already revealed my bias against federal funding of transportation projects that have only local impacts.  Such projects contribute to overbuilt suburbs and unsustainable communities.  The last thing the federal government needs in an innovative transportation funding program is a repeat of the DOE's politically connected solar loan program debacle.  The US still needs a National Infrastructure Reinvestment Bank to help vet these projects, because more transparency and review from the financial markets will help reduce the influence of political cronyism in infrastructure funding.

I attended the Mineta summit in 2013.  Compare my analysis at that link from last year to the article you're reading now.  The question I posed last year about whether California can sustain muni bond issuance in a difficult economic environment may soon find its answer in the markets.  I have recently noted the exit fees bond fund investors will likely face before the bond market collapses.  Muni bond fund investors will not escape their positions in advance of a bond market crisis.  Infrastructure awaiting funding will have to wait even longer while the bond market returns to historically normal conditions.  I think both the DOT and Mineta analysts should plan for transportation funding mechanisms that will survive a prolonged hyperinflationary depression.  Maybe user fees and gas taxes will have to adjust by the hour to keep up with inflation in a crisis.  I'll look for their solutions at next year's summit.  

Bad Infrastructure Grades Include Pipelines And Electricity Transmission Lines

It is very depressing to read the poor grades the ASCE gives to America's infrastructure.  The organization's Infrastructure Report Card for 2013 shows that most of this country's public facilities earn D's.  That is embarrassing.  It's also a serious disconnect from the World Bank's LPI, which rates America's transportation infrastructure as having the 9th best infrastructure worldwide in 2012.

The LPI ranking is a more comprehensive score that includes human competencies in processing and tracking movements.  The ASCE's report card addresses only the physical quality of infrastructure, but this does not explain its mismatch with the World Bank's data.  Adjusting the LPI rankings so that the "Infrastructure" column achieves primacy elevates the US to the fourth-highest overall score just for that category.  That is an even more severe divergence from the ASCE's opinions.  This disconnect's underlying cause becomes apparent once we delve into the World Bank's "Domestic LPI" data.  Clicking the "Infrastructure" link there shows that the LPI scores are based on self-reported assessments from respondents.  Compare this with the ASCE's more scientific assessment of physical deficiencies.  The ASCE's report card assesses investment need while the World Bank's surveys assess operating capacity.  The Alfidi Capital conclusion is that the US economy can continue to perform at the high proficiency that the LPI scores indicate, right up to the point everything falls apart if the US does not correct the glaring deficiencies the ASCE noted.

The ASCE report card thankfully addresses energy infrastructure.  Pipelines and electricity transmission lines are significant infrastructure categories, and many of these assets are privately owned.  USDOE's EIA tracks the natural gas pipeline grid but regulatory oversight for new investment is distributed among several federal agencies.  USDOT maintains the National Pipeline Mapping System for the most complete picture of the network's physical layout.  FERC has the most regulatory control over the pipeline operating companies when they address markets.  The AOPL's industry facts and policy issues do not address the overall physical condition of the nation's network.  Assessing the sectors' investment needs means examining the annual reports of the major pipeline operators.

FERC completed a comprehensive study of the electricity transmission grid in 2002.  The most important takeaway from any study of the nation's electric grid is that there is little connectivity between the east and west halves of the country.  The next most important takeaway is that there is little connectivity to the most promising undeveloped sites for wind farms in the north-central US.  The Edison Electric Institute tracks investments in the electric transmission grid.  The US Bureau of Land Management has a plan to accelerate permitting on land designated as corridors for transmission lines.  The need for additional investment is as obvious as the need for multi-jurisdictional regulatory coordination.

The US clearly needs to upgrade its physical infrastructure.  The ASCE's estimated bill for $3.6T could probably have been paid with the cost of our wars in Iraq and Afghanistan plus the Wall Street TARP bailout.  America instead chose to delay urgent investments in its public commons.  This huge bill for infrastructure must now compete with middle class entitlements that the Bowles-Simpson NCFRR report determined to be unsustainable.  America is in for a hard core wake-up.  The bill for infrastructure is due now.  

Pricing and Exporting North American Natural Gas For Asia

The investor relations community works hard to convince analysts like Yours Truly that junior exploration companies in North America have good prospects.  One premise for making this case is the Asian energy market's willingness to pay for cheap North American natural gas.  The IEA's 2013 report "Developing a Natural Gas Trading Hub in Asia" notes that the Asian gas market is not fully responsive to supply and demand fundamentals.  That will change as more producers move to meet demand.  The USDOE's EIA natural gas page shows how the price of gas has recovered nicely from its drop two years ago, and that demand from exports is projected to remain strong.

Gas exports from the US and Canada must travel via liquified natural gas (LNG) ocean carriers.  There are no gas or oil pipelines under the Pacific Ocean; subsea transport of petrochemicals via pipeline over anything other than short distances presents insurmountable technical obstacles.  Canada has taken an aggressive approach to building LNG infrastructure that can serve Pacific Ocean carriers.  The US lags behind, with fuss over the Keystone XL oil pipeline demonstrating the anti-infrastructure mentality of very ignorant pressure groups.  The National Energy Board of Canada still requires export approval but I fully expect that to be reduced to a formality once more Pacific coast LNG infrastructure is complete.   The "pick and shovel" plays for pipeline operators and construction firms operating in Western Canada will be compelling for years.

Forecasting the future price of natural gas is more difficult than forecasting either demand or supply.  Demand can be derived from population growth and energy use per capita.  Supply is a function of capex spent to counter decline rates in well-known geology.  Pricing is different due to all sorts of random factors, including political news, accidents, and weather conditions.  I do not typically pay attention to price forecasts from private firms like PIRA or IHS CERA.  They are valuable in the market because preppie investment bankers hire them to do work they are not smart enough to do themselves.  A more intellectually honest approach would use the NG market price and figure its probability of mean reversion.  This admits the ambiguity of commodity prices, and justifies the hedging strategies all producers use.  EIA reports the NYMEX prices and CME Group prices Henry Hub natural gas futures with this reality in mind.

I do not know the specifics of import requirements that Asian governments set for natural gas.  The US federal coordinator for Alaska natural gas states that Asian market favor wet gas, with more ethane and other liquids to raise the gas' heat content.  A Google search of other Asian content requirements reveals a preference for "sweet" gas with a lower hydrogen sulfide content.  The booming Bakken shale fields are notorious for producers who flare off NG because they have no pipelines or storage tanks to capture it.  That will change as Asian demand moves the NG price far enough to drive such investment.

There's big demand in Asia for natural gas.  The US and Canada have big supply.  Together the twain shall meet.  It's only a question of transport cost, terminal liquefaction (and regasification) services, and content regulation.  Actually, that's several questions, with multiple sub-questions in each one.  The shale drilling boom in North America marches on.  

Business Opportunities In California Water Problems

I recently wrote a Third Eye OSINT study of potential water supply impacts on global stability.  California is not immune from water supply problems.  The state Department of Water Resources (DWR) reports that California is currently experiencing one of the worst droughts in its recorded history.  Every problem presents opportunities for business solutions.  Studying policy trends will point the way to opportunities.

The state government has made the California Water Action Plan an interagency effort.  The undated draft makes it clear that water supplies are stressed and California must manage demand more carefully.  The plan states that over seven million Californians live in a floodplain, and later states that large amounts of floodplains and other natural habitats have been lost in modern history.  The connection is obvious to me.  Development in floodplains puts humans and habitats in danger.  IMHO the state government is in dire need of a UN Agenda 21 smart development plan that will prohibit further residential development in floodplains and gradually unbuild legacy development.

The Bay Delta Conservation Plan is a comprehensive attempt to preserve an ecosystem that sustains California's agricultural might.  Without this plan, I believe there will not be enough water available in Northern California to support both agriculture and the need for eventual oil and gas drilling in the Monterey Shale Formation.  Southern California developers and residential property owners are probably going to be very disappointed that their fantasies of comfortable life in the desert can longer be sustained by intrastate water transfers.  Metering and rationing mean the California golden age of lush front lawns and leisurely car washes is closing for good.

Note that California's credit ratings are still in the basement.  California voters won't tolerate any more bond issues for much of anything, including needed infrastructure.  The Governor's plan to build huge tunnels through the Delta gets more expensive every time someone turns over a rock.  This means that privately funded infrastructure has a golden opportunity to capture revenue from future projects derived from managed hydrology.  There is simply no constituency outside of inland SoCal for further incarnations of intrastate projects on the scale of the long-proposed Peripheral Canal.

It's really funny to hear SoCal politicians talk up the fairness of charging ratepayers for new water development.  Any further infrastructure development that diverts freshwater to SoCal will move the saltwater gradient so far inland as to make much of California's agribusiness nonviable.  It makes zero economic sense to invest in infrastructure projects that benefit agriculturally poor land at the expense of agriculturally rich land.  SoCal ratepayers would eventually face a death spiral of higher water rates to sustain more expensive crops, while those crops are gradually priced out of world markets.  Adding water infrastructure in Kern County will be wasteful investment as more farms in that region become untenable and cease operations.

I see the following business opportunities based on this emerging regulatory framework.

Hydroelectric development.  Any policy planning guidance that calls for more groundwater storage and flood control inevitably means more dams on rivers.  More dams mean more hydroelectric installations and electric transmission lines.  This opens investment opportunities in undeveloped real estate that could serve as rights of way for transmission lines.  HydroWorld notes that the California drought is reducing the amount of hydropower available from larger dams, forcing more reliance on other energy sources.  Always remember the water-energy-food security nexus.  I think the potential for smaller-scale hydroelectric installations deserves study.

Water utilities.  I have never been impressed with the financial performance of US publicly traded water stocks.  I may have to reconsider this stance, at least for companies that serve the California market.

Disruptive water technologies.  Cleantech entrepreneurs can make a difference with new solutions in water delivery, recycling, and decontamination.  SoCal's soil and climate may not be suited for water-intensive agriculture.  This is one reason why drip irrigation will address a much larger market than flood systems.  Oh BTW, water rationing implies that flooded crops like rice will play less of a role in California's economy.  GMO crops may have a future if more independent research helps paranoid people get over their hysteria.

Smart metering.  This one's a no-brainer.  Any unmetered residential parts of California - aside from those suburbs that will eventually become uninhabitable and marked for deconstruction - will soon be metered.  Any vendor of smart meters for water delivery can expect large orders from California utilities.

Desalination.  Making fresh water from seawater along the California coast has long been a policy pipe dream.  The state DWR has a desalination plan for grants and small experiments.  Desalination plants on a scale to meet SoCal's needs will require a huge investment.  The opportunity exists for visionaries with deep pockets and giant visions.  The market for water in SoCal is huge and water from the Delta won't supply its needs forever.  Use your imagination.  If you build it, they will come.

I foresee more regulatory control and microeconomic changes in the future, regardless of whether the private sector steps up to the water opportunity.  Here are my predictions for California.  New residential developments will minimize or prohibit front lawns and private swimming pools.  Existing homeowners will remove lawns and replace them with local native plants or drip irrigation gardens.  Some suburbs will cease to exist and be unbuilt, either because their municipalities are bankrupt (Bell, Stockton, Vallejo) or because they are environmentally untenable.  Many golf courses, especially in SoCal, will cease operations.  Those courses occupy space that will be more valuable as farmland or watersheds.  I don't like making bad investments.  Much of suburban California is malinvestment that will come undone in prolonged periods of water austerity.

One thing will not change in California's future hydrology cycles.  I will find a way to make money from the state economy's transition to more strictly controlled water use.  That is why Alfidi Capital exists.  Water and money both seek the path of least resistance.  

Water-Energy Nexus Can Drive Infrastructure Investment

I heard an oblique mention of the water-energy nexus at one of the many public events I attend.  These two resources are indispensable to civilization and we can't obtain one without using the other.  There's money to be made in the green infrastructure that countries must build to get access to both.  

The IEA incorporates the water-energy nexus into its World Energy Outlook.  One simple lesson is the effect of climate change on energy availability.  Delayed monsoons and droughts decrease the amount of runoff available to hydropower production.  Other energy sources must then substitute for lost hydropower, including fossil fuel power plants.

Sandia National Labs studies this nexus.  Their multi-lab committee published a final report in early 2007 but I'm not clear on whether the US has made progress developing the technologies the report says we need.  The NSTC's CENRS Subcommittee on Water Availability and Quality (SWAQ) was supposed to pick up where this report left off.  Those of us familiar with Uncle Sam's interagency process know how hard it is to make progress with something this broad.  State government coordination isn't much better; the NCSL hasn't updated its water-energy nexus legislation tracker since 2009.  America can't wait for a government-directed solution.  I see pain points that entrepreneurs can disrupt.

Pain Point 1:  Advanced cooling systems in power plants.  The report is clear on the tradeoff between wet cooling and other systems.  Wet cooling uses more water but is more efficient for energy production.  Dry cooling is less efficient but saves water.  There is obviously room for disruption with hybrid systems that improve the efficiency of water management in power plants.  I believe energy utilities would pay for tech that reduces water consumption while maintaining a plan't efficiency.  

Pain Point 2:  Water use in shale and biofuel energy production.  I've blogged before about how water wars over shale oil and gas formations will probably crowd out the concerns of agribusiness and environmentalists.  Energy companies have the money to win any water war but legal delays will be costly.  Alternatives to the high water requirement in shale injection would be very lucrative if energy companies can avoid the legal and regulatory delays of fighting water wars.  The US government subsidizes biofuel at extremely high cost.  Ethanol production on land that is irrigated and fertilized exacerbates the waste of water and energy but this is politically popular in Corn Belt states.  Water innovation will thus need to start somewhere other than the Midwest.  The GAO has prepared several reports on water management in both shale and biofuel production.  

Pain Point 3:  Urban development.  New technologies can alleviate waste of energy and water in urban areas.  I do not know whether the ARRA stimulus building program took this into account before it dumped billions of dollars into shovel-ready projects.  Building materials for roads and sidewalks can now return more rainwater to soil, thus capturing more freshwater locally and reducing stress on urban wastewater systems.  Federal and state governments aren't expected to vet the materials in every infrastructure project but they can specify energy and water impacts in the environmental impact statements (EIS) they must approve.  It follows that builders using green materials will fulfill EIS criteria and stand a better chance of winning those project bids.  

I do not know the market opportunities for these pain points because they each intersect more than one vertical.  Multiple technologies can apply to solutions and projects will differ in size, capability, and geography within the US.  I'm optimistic that the convergence of Big Data with utilities' smart grids will reveal inefficiencies in water and energy use that demand optimization.  Black and Veatch's 2013 Water Utility Report shows huge demand among water utilities for energy efficient solutions.  The US EPA knows that green infrastructure is a big opportunity and it will not disappear.  California's CPUC has a very detailed approach to the nexus that utilities can use.  Like I said up at the top, there's money to be made.  

Infrastructure as a Separate Asset Class

Infrastructure is gaining acceptance as an investment style.  Some observers even recognize it as a separate asset class.  I'm a financial purist wedded to the traditional breakdown of three asset classes - equity, fixed income, and cash - with everything else falling into some subset of those three.  Even the hard asset things I've inspected recently like REITs are a form of equity ownership despite the similarity of their cash flows to a debt instrument.  I want to determine whether infrastructure really does belong in its own asset category.

Fitting infrastructure into a financial taxonomy begs the question of how ownership in such an asset is structured.  Equity is outright ownership, albeit with a residual claim after creditors in the event of liquidation. Ownership of bridges, airports, prisons, inland waterway locks, and other infrastructure assets that support management of "the commons" typically resides with government entities.  Privately owned assets used for public purposes are rare exceptions to this state, but there are such things as private toll roads in Texas.  Infrastructure plays are thus rarely subject to outright ownership interests that are tradable in the capital markets.

Investors already have exposure to infrastructure investments through fixed income instruments that municipalities issue to finance development.  Anyone who wants a piece of this action can buy airport bonds, Tennessee Valley Authority power bonds, and securities from state development authorities that build roads and bridges.  I'm not fond of bonds at all right now due to the strong likelihood that the US will experience sudden hyperinflation in the near future.  Infrastructure investors who select bonds may get burned even if government agencies raise usage fees to maintain the physical assets.  Bonds pay a coupon fixed as a percentage of their face value.  Hyperinflation reduces that fixed value to nothing, with a similar reduction in the real purchasing power of that coupon payment.  Increases in usage fees to keep up with hyperinflation may cover little more than physical maintenance of infrastructure; bond investors will get a pittance in real terms. Covenants in those bonds may allow issuers to call them at par, enabling them to stick it to bondholders during inflation and retire enormous debt piles at minimal cost.

On the other hand, private equity investors in toll roads, airports, bridges, and other infrastructure assets need not bother with bond covenants.  They can raise usage fees at will because control of infrastructure gives them pricing power over consumers who have little alternative but to use the asset.  I suspect that private equity ownership of infrastructure is the only form of ownership that fully utilizes an inflation hedge.

The emergence of special treatment for infrastructure owes much to the never-ending quest among professional investors for something new and exciting.  Every investment bank wants to stand out from the pack to keep deal flow coming.  The OECD recognizes infrastructure as a special case for the largest institutional investors.  I just don't think it's a special enough style to merit its own asset class.  

Mineta Transportation Institute Holds Forth on Transportation Funding in 2013

The Mineta Transportation Institute held its annual policy summit last week at the Commonwealth Club.  I have a background in both transportation and finance so I couldn't miss a chance to connect the two over a free breakfast.  I got there so early I actually walked in right behind former Secretary Norman Mineta himself.  I didn't speak with him because I'm just another commoner and there's no way he can do me any favors unless I write a big check to his institute.  I'd rather hear what his invited policy wonks have to say, free of charge.

The first agenda item was an address from USDOT's acting General Counsel Kathryn B. Thomson.  She briefly mentioned ARRA's $48B commitment to critical infrastructure but I'm concerned about whether it's being used effectively.  She also mentioned a couple of programs that I think should be excellent candidates for consolidation into a national infrastructure bank.  The first is the TIFIA program of loans and other credit instruments specifically for surface transportation.  The other is the TIGER grant program for multiple transportation modes.  If USDOT's approach to favoring public-private partnerships is correct, then an infrastructure bank that issues bonds linked to these programs is the way to go.  I do see a potential hurdle in that federal highway improvements are funded by the Highway Trust Fund's revenue from the federal gasoline tax.  Moving all federal infrastructure projects into a national infrastructure bank's inventory means revising the enabling legislation for every federal tax on transportation modes.

Ms. Thomson made us aware that federal gas taxes can no longer be the single funding source for our transportation needs.  Hybrid cars use little gas and pure EVs use none, but their battery packs make them heavier than gasoline-powered cars.  That's simple physics, folks, because the energy storage capacity of liquid hydrocarbons is denser than that of lead-acid or lithium-ion batteries.  Heavy hybrids and EVs will wear out our roads faster.  Here's my idea.  Instead of a knee-jerk funding commitment to every meter of highway in the federal inventory, why not "red-line" those segments that are seldom used?  Cities like Detroit and Stockton will have to downsize and unwind much of their development, allowing USDOT planners to declare some roads too costly to maintain.  This is why ARRA's blanket approach to funding unmet "needs" has given me pause for some time.  A planner may mark a road for the "need" column even if it leads into an urban area that deserves to be torn up and unbuilt.

The Q&A for Ms. Thomson was revealing.  The USDOT favors California's high-speed rail program.  IMHO federal planners are blind to that program's cost overruns, unneeded stops in rural towns, and pork payoffs.  My ideal high-speed rail system for the Golden State would link no more than six cities:  Sacramento, Oakland, San Francisco, San Jose, Los Angeles, and maybe San Diego.  Anything more adds transit delays and costs.  Nobody asked me to contribute, so of course we're getting a more expensive system than we need.  Federal matching funds for high-speed rail make it too easy for state planners to add unneeded segments.  Smart leaders in Ohio, Wisconsin, and Florida have turned down federal matching funds for high-speed rail since 2010.  This unfortunately makes it easier for California to gorge at the federal trough instead of scaling down its own high-speed rail plans.

One comment gave me hope that there is room for disruption in the transportation sector.  Positive Train Control (PTC) is an expensive mandate but the railroad industry is making progress to meet the 2015 deadline specified in the Rail Safety Improvement Act of 2008.  The thousands of wireless devices and monitoring systems needed for PTC represent a great opportunity for entrepreneurs.

The next panel had experts from several different entities.  I think they could have benefited from having a member of the National Research Council's Transportation Research Board (TRB) on the panel.  I've been receiving the TRB's emails for years ever since I expressed an interest in joining the board.  TRB puts out tons of white papers that should inform both the private developers who build near transportation infrastructure and the public policy planners who take development into account.  The panel believed that public infrastructure and private development attract each other but they did little to enlighten us on the nuts and bolts of project finance.  They spent little time addressing how projects could be funded but gave detailed coverage to MTI's latest study on how tax options can be sold to the public.  Come on, folks, even USDOT just admitted there's more to transportation finance than gas tax increases.

It's time for me to go out on a limb, as I am wont to do.  A public that lacks understanding of how its transportation priorities are determined will eventually get as riled up over transit tax increases as Brazil's current protesters.  Fare increases set off the Brazil protests but they have a long list of other grievances.  The American public needs to see benefits that impact them personally and emotionally if they're going to buy into a sales pitch.  Only developers will be convinced by a transportation project's ROI, although that's important to demonstrate.  That MTI survey shows that the gax tax appeal rests on resolving users' pain points.

The panel noted that the MAP-21 legislation will not be sufficient to fully fund the nation's needs for public transit.  The full commitment for a public transit system that meets the nation's needs is a one-time cost of $70B.  Even this doesn't account for pay-as-you-go funding of long-term sustainment.  The panel acknowledged that federal funding will shift to favor those state projects that can demonstrate self-funding, which to me implies user fees.  Some combination of a state gas tax, usage fees, general fund revenue, sales taxes, vehicle registration fees, naming rights, development fees, tolling, and other public/private hybrid solutions are inevitable in California.  This combined funding mechanism needs to be in place far in advance of any further work on high-speed rail.  Private investment committed too early to a public project, as the panel noted, will discount the project's completion too heavily and make it nonviable if future private funding is unavailable.

I did not hear one single comment during this entire forum on inland water transportation or port infrastructure.  California has two of America's busiest ports - Oakland and Long Beach - and many ports in the country need regular dredging to remove buildups of silt that degrade their deepwater shipping channels.  Port cargo throughput ability will be a serious national security enabler in the event of any major mobilization.   NDTA keeps me updated on the lack of progress addressing this potential bottleneck at critical ports.  America's inland waterways need serious upgrades to their locks and dams so barge traffic that supports the petrochemical and agricultural sectors can proceed unimpeded.  The members of the American Waterways Operators know just how much they depend on the US Army Corps of Engineers to keep their traffic flowing.  If you don't believe me, review the USDA's Agricultural Marketing Service data on barge rates for agricultural transportation.  Take a guess at how much higher those rates would be if inland waterways are degraded or congested for lack of infrastructure repair.

I should not have been surprised that the panelists did not answer the question I submitted on transportation finance.  I wanted to know whether California agencies could sustain municipal bond issuance in the face of either rising interest rates or high inflation.  I can't blame them for not wanting to touch that in light of their revelations above about the difficulty of attracting long-term finance (from bonds that fund initial capital outlays) without mechanisms for sustaining annual finance in place (from user fees and other sources).  Today's ZIRP environment is ideal for raising muni bond proceeds and states will never get a break like this again in my lifetime.  Rising real interest rates will soon make the cost of new capital projects astronomically high.  My ideal answer to my own question would rely on state agencies issuing inflation-indexed munis.  They could get really creative and issue equity in publicly financed corporations modeled after Fannie Mae and Freddie Mac, provided the State of California does not provide unlimited guarantees for those corporations' liabilities.

California needs more than just money to complete its transportation dreams.  It needs creative leadership.  Gov. Brown, give me a call.  I'll be happy to put your state agencies on sound financial footing if you pay me for my genius.

US-Bangladesh Tech Investment Summit at TiE

I'm really glad I attended part of yesterday's US-Bangladesh Tech Investment Summit down at TiE Silicon Valley.  I didn't do any networking because I don't do business in Bangladesh, but a bunch of other people do and they need to know what's going on.  I must say that Bangladeshis need to work on the editing of printed materials and Web content they distribute to an English-speaking audience.  The website for this summit had a few grammar and punctuation errors, as did the program booklet they handed out at the summit.

Sajeeb Wazed, the IT advisor to the Prime Minister of Bangladesh, spoke first during the evening session.  I also need to say that Bangladeshis need to polish their PowerPoint pitches.  This guy said he had a Master's degree from Harvard's Kennedy School but his slides were all text in small type.  He could benefit from watching a few Silicon Valley startup pitches.  He also didn't mention that he's the Prime Minister's son!  Westerners need to know things like that before they sign contracts to do business with Bangladeshi officials.  Some Asian countries have hereditary political aristocracies.  There's some Internet buzz about his potential for entering politics.  No wonder he admitted spending much of his time in Washington, DC.  He must be learning the ropes.  There's also some buzz about his personal history if you do a Web search of his name.  Reading some of the comments in other news articles is informative, with Bangladeshis complaining about his background.

Mr. Wazed made a pitch for foreign investment in Bangladesh as a turnaround story.  The latest fad in the investment world is the concept of "frontier markets."  These are the least-liquid of the emerging markets that are touted by investment banks as high-yield long-term bets.  They also come with a ton of risk.  My readers know that when I write about resource sector companies operating in emerging markets, I cite reliable international assessments of those markets' political and economic conditions.  Let's do that for Bangladesh.  Transparency International rates Bangladesh as 144 out of 174 in its Corruption Perceptions Index.  It's tied with the Central African Republic and Syria.  You're known by the company you keep.  The Heritage Foundation rates Bangladesh as 132 on its Economic Freedom Index.  Their score of 52.6 is below the world average score and the regional average score, but hey, at least they beat Cameroon.  One data element that should concern foreign investors is the very low score for financial freedom.  Note that the World Bank reports Bangladesh's debt/GDP ratio has dropped for 20 years and was 24.2% in 2011.  That's good news.

Mr. Wazed claimed that Bangladesh's sovereign debt ratings are second only to India's in the region.  The S&P rating is currently BB-.  Moody's rates it as Ba3.  That's nothing to crow about.  His point is that until recently Bangladesh had no sovereign debt rating at all because it was heavily dependent on donor aid, so getting established in the international bond market with a such a poor rating is better than no rating at all.  Bangladeshi sovereign debt with such medium to low ratings does pay investors a higher yield to compensate for perilous credit.  The country also wants to issue dollar bonds whose greater liquidity will make the country's sovereign debt more attractive to foreign investors.

He said Bangladesh has cellular coverage for 100% of its land mass, which is cool.  The government also funded information centers at the municipal level that function as cyber cafes for people who don't own computers.  That's cool too.  Bangladeshi expats remit money via cell phone transfers.  He also mentioned that energy shortages have precluded the establishment of data centers and that the government's desire to save money on its fuel subsidies have prompted regular blackouts.  He promised us that new power plants were almost ready to come online.  One blackout he did not mention was a Bengali blog blackout in protest of the government's crackdown on blog content that radical Muslims wanted to suppress.  That is not cool at all.

Speaking of energy, Mr. Wazed said that arbitration with Bangladesh's neighbors over UNCLOS demarcations would give his country block rights to prospective offshore drilling zones.  The competitive advantages he mentioned for Bangladesh include no restrictions on repatriation of invested capital and a cost arbitrage of 40% in overall business costs versus India or the Philippines.  My caveat is to read the Heritage Foundation's specific assessments of Bangladesh's economic conditions.  The country still has a lot of regulation for FDI projects despite the government's claims of liberalization.

The next speaker was Dr. Atiur Rahman, the Governor of the Bangladesh Bank.  In other words, he's their equivalent of Ben Bernanke but without the fixation on printing press technology.  I once aspired to be a central banker but eventually figured out that pursuing a PhD in economics would be a waste of time and money.  Dr. Rahman mentioned that Bangladeshi inflation closely follows Indian inflation due their long and porous border, which is why his central bank coordinates monetary policy with India's central bank.  I'll give you one guess as to which bank is the bigger kid on the block.

Dr. Rahman said the country's currency reserves had risen to $15B.  I wonder about the composition.  Their interest in issuing dollar bonds means they'll hold more US dollars, not a good move given the US's untenable monetary stimulus.  He also said the taka is a strong currency because of their current account surplus but the bank intends to keep it strong by managing the exchange rate.  Uh-oh, central bank intervention is not good at all.  He did add something to the World Bank figure of debt/GDP I mentioned above; including domestic debt brings the ratio up to 37%.  That's still pretty healthy.

He likes the country's liberal FDI policy and claimed simple registration with some government board is all you need to get started.  Uh, doc, read what the Heritage Foundation says about your country's simple process to see it through foreign eyes.  He mentioned that foreign companies like to reinvest their earnings in Bangladeshi government securities.  I can't blame them given the high interest rates but caution is warranted; Bangladesh has used capital controls during part of its modern history.  The country is serious about building out its IT infrastructure especially for the last mile of connectivity.  This is why they've exempted IT services from corporate taxes and do not impose import duties on servers.

The audience at TiE was very concerned about the Bangladeshi government's response to the collapse of a garment factory that killed hundreds of people.  The garment sector is still Bangladesh's biggest driver of GDP and export revenue despite the country's high-tech aspirations.  This accident is clearly the result of many years of lax safety standards, inadequate building codes, and a business culture of noncompliance with standards.  The panelists seemed to downplay the government's responsibility for requiring tougher construction standards.  The businessmen in the audience were particularly unimpressed with the Bangladeshi government's PR response, noting that Western media continues to excoriate the country.  The Hoover Institution suggests a way forward.  Bangladesh needs a comprehensive solution to a culture of greed that enables compliance shortcuts.

No one mentioned religious tension in the country.  Investors must note the paralyzing riots that have shut down the capital city of Dhaka in recent days.  A radical Islamic movement is agitating for the implementation of Sharia law.  Well, that's just great.

Oh BTW, one more tip from yours truly.  If you want to do business in South Asia, get familiar with that region's unique numbering system for large digits.  The origin of those figures is fascinating.  Some of these ancient Vedic number names like "ogho" for octodecillion are found in the Valmiki Ramayana.  Why would ancient writers need to work with numbers so large?  Does this mean there's some substance to the theory that ancient Indians had advanced technologies and even fought a prehistoric nuclear war?  Maybe I should go to South Asia and find out.  I just won't be visiting Bangladesh while its garment factories are collapsing and its radical imams are protesting.

The Haiku of Finance for 02/15/13

Create the green bank
Sell green bonds for green projects
Watch out for green fraud

The Haiku of Finance for 12/15/12

Low water levels
Hurting riverborne commerce
Where is stimulus?

China Bullishness Slips Into Too Many Yahoo Stories

I'm going to start weaning myself from a reliance on Yahoo! Finance for information.  I'm increasingly disappointed with the selectively bad macroeconomic reporting they republish from the newswires and the editorializing that often slips in from Yahoo!'s amateur contributors.  Case in point is this puff piece restating the now-exhausted China bullish growth story.  I'm a former China bull myself and I now hate to admit that the story has run out of steam.

Rising wages and land prices in China are forcing distributors to move inland for cheaper options.  China's U.S. trade counterparties have logistics difficulties of their own.  Overinvestment in U.S. port infrastructure now looks bad as China's growth problems have ripple effects here.  Please tell stimulus fans that building infrastructure for its own sake turns lots of piers and cranes into white elephants when trade gets costly.

Anyway, I need more intelligent sources.  Yahoo! has disappointed me several times this year with stories hailing "job creation" in the U.S. even with millions of people dropping out of labor statistics in frustration over not finding employment.  I'm going to try configuring Google's custom settings to see if that will give me the news feeds I need.

Full disclosure:  Long FXI with covered calls.  

Occupy Movement Clueless About Infrastructure

The Occupy movement's local offshoots are alienating their local neighbors with incoherent tactics.  A case in point is the DC movement's seemingly spontaneous decision to march on the Francis Scott Key Bridge in a call to fix America's infrastructure.  The only optics this march can generate are sights of angry commuters fuming at Occupy protesters who won't let them go home.  Occupy protesters like shutting down valuable infrastructure just to annoy productive people who have to make a living.  They set a precedent when Occupy Oakland symbolically shut down the Port of Oakland, sending an unfriendly message to businesses that need to ship goods through the port. 

I'd like to know how the Occupiers plan to pay for infrastructure upgrades once they transform America into a socialist workers' paradise.  They need to check out Soviet-made bridges for examples of workmanship.  Okay, maybe that's a bit unfair. 

The main structural deficiency here isn't the Key Bridge; it's the inability of the leaderless Occupy movement to differentiate between the original targets of their anger (Wall Street cronies) and the physical infrastructure a capitalist economy provides for the public commons.  I believe this new emphasis on infrastructure signifies the support of a living system that now provides the bulk of the Occupy movement's support.  That living system is the labor union movement.  Unions stand to benefit from federal spending on construction and stand to gain in potential negotiations with port employers if they can muster outside support for a work stoppage. 

Occupy is morphing into a dozen different things, none of which will pose any threat to corruption on Wall Street. 

America's Third-World Transportation Infrastructure

The U.S. is going to have serious problems generating wealth for its citizens for the remainder of this century if it can't effectively deliver goods to markets.  The public infrastructure of America's transportation system is degrading without remediation.  The BRIC bloc will soon have so many shiny new airports and railways between them that exporters just won't be able to stay away.  Multinational firms will have no difficulty avoiding the U.S. if we make the choice easy for them by not investing in transportation here at home.

This bad news cries out for a remedy.  The administration wasted a golden opportunity to fund a new golden age of mass transit funding.  Instead of promoting compact urban cores that favor trains over cars, we blew stimulus dough on median strips and traffic controls. 

The rest of the world might laugh at us for our national shortsightedness, but they're too busy building infrastructure to notice our foibles.  We can do better than this as a nation.  All we have to do is spend the $2T on infrastructure instead of on middle class entitlements, Wall Street bailouts, and open-ended occupations. 

U.S. Infrastructure Deals In Brazil

America's commercial infrastructure is in a sorry state.  This nation's bridges, railway overpasses, dams, locks, ports, and various other skeletal appendages are in dire need of repair and retrofit.  This is a legitimate place for governments at all levels to spend stimulus money because it supports aggregate use of a public commons that benefits everyone.  Just when we have a great reason to spend money here at home, we find a way to spend it abroad:

U.S. President Barack Obama plans to offer new financing for joint infrastructure projects between U.S. and Brazilian companies when he visits Brazil next month, sources with knowledge of the situation told Reuters.

The Administration has a stated goal of doubling U.S. exports in five years (really closer to four now as this idea was launched last year).  Washington can do the right thing if it follows through on a plan to spend half a trillion dollars on infrastructure here at home.  Promoting trade is ususally worthwhile, but goods will never get from here to there if we spend money on foreign infrastructure before rebuilding our own first.