The Top 10 Things We Learned on Odd Lots in 2023

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1:27Hello and welcome to another episode of the Odd Lots podcast. I'm Jill Weisenthal. And I'm Tracy Alloway. Tracy, obviously one of the best things of doing Odd Lots is just all the random fun things that we learn. I mean, that, you know, that we learn over the course of the year or that we learn in any given episode. Yeah, I don't know of many other jobs where you can just kind of look into anything that you think might be interesting. But this is one of them. And on Odd Lots, I suppose we do have a reputation nowadays for covering a wide variety of topics. So things that are going on right now, things that may have happened in the past.

2:04And it means that we learn a lot about a wide variety of subjects. And some of them, of course, are, you know, we learn about them in, you know, what we learned is interesting, but also sort of straightforward. So, for example, you know, I'm not surprised that an increase in steel costs, although that's interesting, makes it harder to build offshore wind. But I was surprised to learn, for example, that the Jones Act perpetual odd lots topic was also an impediment, also interesting, also very surprising in a way I was definitely not anticipating. Yes, it all comes back to the Jones Act. This is sort of a classic odd lots thing where we discover one aspect of the world or the economy and then we keep discovering it in other conversations.

2:50It keeps coming up. But it is the end of the year and we are both in a reflective mood. And so we've gone over all the conversations that we had in 2023, and we've picked out our top 10 most interesting and most surprising things that we have learned this year. Yep. So let's kick it straight off with an episode with Josh Younger on the origin of euro dollars. So the first, the definition of euro dollar being deployed offshore is fairly specific. And the question is, when did that start? And we don't really know. We know roughly in the late 40s, it's declassified CIA documents. After the war ended, the Russians were moving money around because they were worried about a subsequent land war in Europe and they didn't want their funds to be frozen.

3:34Never mind the weirdness of like a Soviet invasion where they need dollars. I'm not sure why that would be necessary, but they were uncomfortable leaving money in New York. And so there were a handful. I think the title of this episode should be The Communist Origins of Eurodollars. There you go. Yeah. And so they're worried about sanctions, which connects somewhat to today. Yes. And they moved their money from New York banks to a handful of banks, specifically in France, London, and Belgium, because the local regulations allowed those banks to issue non-local currency deposits. Your local regulator has to allow this in the first instance.

4:05And in Paris in particular, there was a bank called basically the Commercial Bank of Northern Europe. I'm not going to try to pronounce it in French, but it was called B-CEN. B-CEN was run by a notorious communist sympathizer who had relationships in Moscow. And so they were comfortable with that particular bank, and they grew its assets from$7 million to$200 million over a few years. The first recorded use of those euro dollars was possibly, although it's hard to say, replacing the salaries of striking French coal miners in 1948. So there's some evidence of that. But that's not really a euro dollar in the definition that I just described because it doesn't really have a use because I didn't say anything about the asset side of the equation.

4:45So where did the asset side come from? This is just going to be one of those episodes where we ask you, like, how did this happen? What's next? And then what? So it was tied basically to trade because trade was denominated in dollars. But when it's all communist dollars, it has to be east-west trade. So trade crossing the Iron Curtain, which was small because both the Russians and the Americans were not terribly comfortable with a large volume of trade. And the Russians in particular had a policy of self-reliance. So they said, we don't want to need imports from the west to, like, run our economy or our society.

5:17We don't know how big that was. It was actually, as of 1947, illegal to talk about economic data in the Soviet Union. There was a law passed that said this is punishable by some extreme measure. Oh, wow. So we don't actually know the volume of this trade, but there's some evidence that it was there, that it was funded in part by trade finance was facilitated by BSEN to some extent. It's unclear when it started, but it's a very small market. The surprising communist origins of euro dollars. That's sort of not only a classic odd lots topic, but a sort of classic line from one of our favorite guests, Josh Younger.

5:52Now that I think about it, remember we learned that there was Eurodollars gum? Oh, yeah. Yeah, I went looking for a foot. Well, I went on eBay to see if anyone was selling gum from the 1970s with this packaging. I could not find it. But that was a great episode for many new and surprising things. Yes. Now, speaking of new and surprising things, another thing we learned had to do with the sort of hidden connections within economies and how economies evolve. And we spoke to Ricardo Hausman of the Center for International Development's Growth Lab at Harvard University, and we talked to him about how economies actually develop their complexity.

6:34He gave us a really unexpected example of how that works. Take a listen. A lot of the increase in complexity in Japan and Korea did not happen because new companies were created to do more things, but because established companies, these chai balls in Korea, these Keiretsus in Japan, diversified internally into more things. So a company like Samsung started in sugar trading. And, you know, now they are the largest producer of semiconductors and S-grams and TV screens and smartphones. That process of transformation happened inside the company. And it happened by adding capabilities to their capabilities.

7:17So, for example, you'd say Finland is a country that had a lot of trees and traditional development economists would have said, cut those trees and sell wood. And then they would say, no, don't sell wood. Make furniture with that wood or make paper with that wood. Add value to your raw materials. But that's not where the story really went. It's sort of like Finland had a lot of trees, so they had to cut the trees. But to cut the trees, you need tools to cut trees. You need machines to cut trees. So they became good at tools and machines that cut wood. And from there, they moved to tools and machines that cut because not everything is made out of wood.

7:54And from there, they went to automated machines that cut because cutting everything by hand can be either boring or imprecise. And then they said, you know, from automated machines that cut, they went to just automated machines. Why do we need to cut? There's more to life than just cutting. Right. And then from automated machines, they ended up in Nokia. So the process is a process of adding capabilities to your capabilities, because once you know how to do something, there is something in the cognitive vicinity that you could do. There's more to life than just cutting. It's got to be like a great.

8:32It's true, right? I never thought about it, but it's definitely true. There's more to life than just cutting. Also, Ricardo's analogy of monkeys swinging from trees as an economic metaphor that lives, that imagery lives free in my head for all time. But yeah, that was a great conversation. And thinking about how economies actually develop as opposed to how you might expect them to develop on paper was really great. All right. Speaking of the sort of, you know, I guess we're going to speak on the complexity theme for the moment. So with Ricardo, we talked about complexity in terms of it's good that countries get more complex with their economic development, but complexity can also be bad in some respects.

9:13And one area that's sort of famously complex is anytime we're dealing with government software. And so on this episode, we spoke with Jennifer Palka and Dave Guarino, who are longtime veterans working on government software. I think anyone who knows about government software, government websites probably know, feels intuitively that they're more frustrating than, say, you know, the website that you might use for a bank or buying an airline ticket or something like that. So we're going to hear the story of a software system that was so bad, even the designer didn't believe or couldn't believe it wasn't working.

9:46When we were at California, state of California, working on the unemployment insurance, they were actually about to put out a business system modernization RFP. They were actually, I think about it to award it to a vendor. And I think it had 6 ,700 requirements. We can check that, but that's really a normal number of requirements. And so, they do all these things where you can check a box, but what they don't do is actually check that it works. So, I mean, maybe I'll just tell a quick story from the book. And, you know, there was famously this application for veterans healthcare benefits at the VA that didn't work outside the building.

10:25and they couldn't see it. So basically somewhere in the specs, it had that this form needed to work on a very specific and outdated combination of Internet Explorer and Adobe Reader. And the reason no one knew that it didn't work inside the building is that's how all the computers in there were set up. But if you were outside the building and had any other possible combination of those two pieces of software, it literally wouldn't load. And so they had very, very few people applying for these benefits online. And, you know, veterans were really, really, really frustrated. And it took a team going out there, recording a veteran who had tried to do this dozens and dozens of times, bringing that video back and showing it to the deputy secretary for them to be able to say, oh, okay, actually, there is something to be fixed here.

11:15Okay, you know, you can go ahead and make a new form. But up until then, they said, sorry, it's fine. We're looking at the requirements. the requirements have been met. There's technically nothing wrong. That's amazing. It's also kind of crazy to think that people would have been looking at that and just been like, oh, well, I guess demand for veterans benefits is lower than we thought it would be. But actually, it was a tech issue. I think what they said was demand for them doing it online is low. These veterans must not have access, which is absolutely not true. Or they can't figure out the computer when, in fact, it was other people who couldn't figure out the software.

11:47They would tell them and they told this guy, Dominic, the veteran that they interview, they kept telling him it's user error. There's something wrong with you. That is still such a funny story. There are so many layers to it. So including the idea of people having to go out and shoot a video of a veteran trying to access this form and then bringing it back to someone who would watch it and be like, oh, OK, I see there is, in fact, a problem. But also that anecdote at the beginning about designing one piece of software for unemployment insurance with 6 ,700 requirements. Like, how long does it take you to physically tick 6 ,700 boxes?

12:25Is there an actual form where you have to go and, like, click every one of them? And how do you prove that you did every single one to the lawmakers that made that rule? Yeah, it sounds like, to your point, a very complex process. To say the least.

12:46Thank you.

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14:30Thousands of businesses have made the switch, so why not you? Try Odoo for free at odoo.com. That's O-D-O-O dot com. This might be a little bit more simple, but I think it's generally accepted that in the world of commodities, there is a fraud problem. And I think having lots of physical things that you're moving around poses an opportunity for criminals to take advantage of that process. We like to talk about financial fraud and crime on this podcast, and we saw a lot of instances recently of frauds happening in the commodity space. and specifically with one commodity in particular, and that is nickel.

15:14So we wanted to know, what is it about nickel that makes it prone to fraud? And we brought on Anton Posner and Margot Brock, the CEO and president, respectively, of Mercury Group, and they came on and explained why there is so much financial crime tied to nickel. And just to be clear on nickel, and I think this is something Terry Duffy, when we talked to him, he's like, there's something about nickel. It's that it's in bags, right? Like some metal is like stacked, you see it. And so everything, what would be an ideal form of auditing? I can't imagine like you open every bag, but like, what is, what are best practices?

15:50Okay. Yeah. Yeah. Again, it becomes that randomized audit, that randomized sampling. And you do have to, you have to look and you have to go in and say, let's, you know, it's all stacked in the warehouse. Let's break some down. Let's pull it out and let's just at a minimum, Open the top of the bags and look in. Also, I was going to say, too, nickel is a much more higher value metal versus aluminum, let's say, or zinc. So it's like counterfeiting. If you're going to counterfeit bills, you're going to probably counterfeit. If you're taking the time to do it, you're going to be doing$100 bills rather than focusing on counterfeiting$100 bills.

16:28Right. Nickel. So in bags, high value, big honeypot. And there's really been two different types of fraud on it. And one is the Indian one that Trafagora is involved in is during shipment. So by the time it lands where it's headed, the last containers are already afloat and everything, all the documents are presented and everyone's been paid. So they haven't had the opportunity to open doors on that very first container that's shipped to even look and find their fraud. So that fraud, you have to really concentrate on combating at load. And then there's the fraud of the rocks that were in the nickel bags.

17:08And that was in warehouse for years and years. But again, nobody opened up the bags there. So there's, you know, like Anton said, it's a system as old as time. And there's so many points within that system where fraud can happen and theft happens and the opportunities present themselves. To your point, Tracy, introducing that, you know, I think one thing with commodities too, and something we talked about with Javier Blas, like it really does feel like the last Wild West part. Yes. Fine it. I mean, I guess crypto kind of too. Also a place where there's been some fraud, I've heard. But it feels like a rock is a rock in a way that a digital claim to a company's cash flow is just much more easy to track.

17:52There's something almost pleasingly old-fashioned about someone like taking a bag of rocks and painting them and then putting them back in the bag and tricking auditors that way. It's kind of, it's satisfying in its simplicity. And it still works in 2023 because people still need bags of nickel and they can't check every bag. All right, let's pivot a little bit. So obviously, you know, we talk about finance of all different sorts. We talk about real estate a lot on the show. One area that we haven't, we've started talking about it more, but we want to do more on is insurance and just the explosion that a lot of real estate developers have seen in their insurance costs over the last year, often a lot of it related to climate, but other factors, also the law.

18:36Take a listen to David O 'Reilly. He's the CEO of Howard Hughes, major real estate developer, with some shocking statistics about the price of insurance. Look, rates have taken off over the past year in ways that we've never experienced, And I've never seen in 20 years. And I'm told there's a lot of reasons for that. The reinsurance market is drying up. People are reluctant to take risk. There have been more and more natural disasters, making it harder and harder to price insurance appropriately. And there's just fewer and fewer risk takers on the other side of the table to meet the demand of folks that need insurance on this side of the table.

19:14When you say rates are taking off like the way you've never seen, can you like put some numbers behind it in terms of just like how different, how crazy is the market or the rate of change in the market in 2023 versus a period that it might be called normal? Most risk managers would define insurance markets as either hardening or softening, getting worse or getting better. Every year, they always tell me it's hardening. And I say, one of these days, it's going to soften. And sometimes it'll soften, but they always manage my expectations by saying it's hardening. So this year, they said it's hardening.

19:42And I kind of rolled my eyes and shrugged and said, okay, here we go again. and we'll suck, you know, we'll take it. We'll take a three to 5 % increase. Yeah. It'll be all right. And we came back with 25%. Oh, wait, maybe it's 40%. And then some of our peers and some of those that I've talked to in the industry have seen a 50 % increase. And it's just, there's not as much availability as there used to be. And then therefore certain pieces of the insurance stack gets more expensive. For a company like Howard Hughes with, you know, 6 billion of total insurable value, we do what's called the shared and layered program like most people do okay which is think of a cmbs loan or an abs loan where you take the whole loan and you slice it by risk okay and then you have this tetris-like grid and you fill it up with insurers those that want to take the most risk at the top get the highest rate interesting and then all of a sudden at the end of the year when you go to get your policy there's a big gap in the middle or you can't fill a couple of layers And then the cost of filling those incremental layers are so pricey that it impacts the pricing of every layer around it.

20:47And it's just that there's not enough supply to meet the demand. So the insurance conversation is interesting on so many levels. So not only are rates increasing, so the costs are being passed on, making real estate more expensive for normal people. But there's also the pricing of financial risk and event risk. So how do you actually put a number on something like a flood or a hurricane? That is always fascinating. There's the distribution of risk, which David was talking about, the idea that, OK, you can sell some tranches of risk. There's certain demand for like the lowest level of risk or the highest level of risk.

21:27But sometimes the in-between spaces are becoming more difficult. And then there's also this big question, which I think, Joe, you and I have spoken about this before, but in a world where one-off events are happening more often, where stuff in general is just perceived to be riskier than it was previously, the insurance companies kind of become the arbiters of accepted behavior and normality. They're the ones kind of putting standards in place by deciding whether or not they're going to insure those particular practices. And I just find that completely fascinating. You know, the other thing that's interesting is we always talk about financial conditions and financial conditions, tightening, loosening and higher rates and higher spreads, etc.

22:11But you never really hear insurance rates folded into the financial conditions convo. But you just have to assume that when insurance prices for certain projects jump 30, 40, 50 % in a year, there's going to be many things that don't pencil out. So it feels to me like that's probably a massive tightening, at least in 2023 or parts of 2023 and 2022, tightening of financial conditions that perhaps wasn't captured in a lot of the metrics. Yeah, that's a good point. And Bloomberg does have a financial conditions index. So maybe we should suggest that they incorporate it somehow. Yeah. Anyway, speaking of costs going up in real estate, another surprising thing that happened this year, at least to many people who perhaps didn't listen to all lots in 2022, is that the housing market was pretty resilient.

22:58There are lots of people out there who thought that mortgage rates going up spectacularly meant that housing prices would inevitably have to go down. But as our guest Jim Egan, a strategist at Morgan Stanley, has pointed out repeatedly, that is not necessarily the case. Instead, we've seen basically a freeze in the market. Jim in general is full of interesting facts and figures and stats about U.S. real estate. And whenever he comes on the show, he sort of throws out all these really interesting numbers. One of the most interesting numbers he told us this year has to do with the number of houses currently owned by baby boomers.

23:39I think the reason that we haven't been as focused on older age cohorts as an industry is because historically they just haven't been that large. The boomer generation moving into this age cohort is really driving kind of differentiated housing dynamics. If we look at the percentage of homes that are owned by people over 65 from 1980 to 2012, it is a very consistent 25%. The oscillations are really small. As I mentioned a little bit earlier, it's gone up to 33 % from 2012 to today. Given some of the demographic forecasts from our economics team, it's only going to move higher right now. And that trend has been aging in place.

24:24While older homeowners do move from time to time, when they do move, they tend to move to very similar places, Florida, Arizona, South Carolina. For the most part, they do stay where they are. They age in place. They are the least mobile age cohort in our population. I talked about listings being at the lowest levels we've seen in 40 years. The truth is in 2018, 2019, they were close to 40 year lows. And one of the reasons behind that, we think, is this aging boomer population, what share of housing they're taking up now from 2020 to now? It has dramatically fallen in and very much reset those lows.

25:01But this was a conversation we were having pre-COVID. So, Tracy, you know, one thing that just sort of strikes me in general there is that, A, there's no imminent relief coming from the housing market for demographic reasons. And also, like, it just feels like many things are becoming kind of less cyclical about the economy, whether it's real estate because a bunch of people are just in their homes, not exposed to rates, government spending on domestic investment, etc. A big story feels to me there are just many slow-moving trains that are not going to be affected by the short-term ups and downs.

25:37Yeah, that's a really good way of putting it. There's also the inequality, to this point, the inequality issue, right? Any baby boomer who owns a house at this point is probably mortgage-free and they've seen the value of their houses go up. Maybe they're even using some of those profits to buy additional houses, vacation homes, rental homes, whatever. It's a very two-track housing market at the moment where the people who don't have houses yet, obviously the affordability statistics just keep getting worse and worse. And meanwhile, anyone who's lucky enough to have bought a home before interest rates went up spectacularly is probably doing reasonably well.