CSSHEGEWISCH wrote: Derivatives have been around for a very long time. Commodity futures of all sorts (a type of derivative) have been traded on the Chicago Board of Trade since some time in the 19th Century and probably earlier on other exchanges.
I don't have a problem with commodity futures, or "hedging" of fuel prices and purchases (pretty much the same thing) because they are based on otherwise pre-existing economic & real-world risks and solve a real economic problem - allocation, sharing, and "insuring" (as it were- it technically isn't, I know) against those risks.
But the "credit default swaps" and the "auction-rate securities" don't seem the same. Even if they technically meet the same criteria that I noted just above, they feel pretty much like an artificial, man-made created risk - the "moral hazard" concept, anyone ? It may be just because they address and provide for risks at a couple levels higher and more abstract than I comprehend at the moment. But what they've amounted to is a complicated fragile house of cards that while they seemed to stand up find in calm, ideal conditions, weren't solid or firm enough to withstand an correlation of adverse conditions - no "defensive secondary", as it were, or redundancy - too much inefficiency in that, I suppose. So what's happening instead is what we structural engineers call a "progressive collapse" - lay people use the "row of domnoes falling" analogy instead. When the dust settles a few years from now, it will be interesting to see if this was only a "zero-sum" game after all - if all the money that was made as "profits" was the same money that was lost by another participant (or maybe even more when the "transactional costs" - broker's, legal, accounting, and underwriter's fees, etc. - are included).
Some further thoughts and questions: Isn't it interesting (really, not being sarcastic here) how all this has come back home to roost with the same people (investment banks) that created and profited from these problems ? In most of the previous crashes - such as the "dot-com" bust in 2000-2001 time frame & after - it was the little guy investors that took the knife in the back, and the banks and brokerages got to keep the vast majority of the money that was a fee or a commission on fraudulently-induced investments in questionable companies - just look at the mere "pennies-on-the-dollar" recoveries from all of the resulting class-action litigation and stacked-deck, kangaroo-court "arbitrations" against the securities industry from back then (I know, I was a victim as well). Now, it's those same "smartest guys in the room" whose assets are being written down and firms are being [pick 1] bankrupted, closed, sold, etc. How did this happen so quickly without years of similar litigation and delays and avoidance ? It really seems to be the "law of the jungle" there - no appeals, no postponements, no do-overs - a major legal case couldn't even get through discovery as fast as all of this has happened since last year. But in my opinion, it's well-deserved - it couldn't have happened to a nicer bunch of guys (heavy sarcasm again). To hell with them !
- Paul North.
Derivatives have been around for a very long time. Commodity futures of all sorts (a type of derivative) have been traded on the Chicago Board of Trade since some time in the 19th Century and probably earlier on other exchanges.
I tend to agree with Paul on this. Railroads are not, as a group, particularly flashy performers on Wall Street. This cuts both ways -- you are unlikely to get rich quick buying and selling railroad stock, as it doesn't move all that far all that fast usually (check the history of the Class Is to see what I mean). On the other hand, you aren't likely to lose your shirt when the latest financial fad goes foop, either (who was the evil genius who thought up derivatives, anyway?!)
The problem will come in raising capital for either expansion of capacity or electrification (Paul: you are an optimist, aren't you?!). It appears that at least some of the major capacity expansions (Sunset, Transcon, Adirondack/Lake Champlain, CN/EJ&E purchase) are already pretty solidly financed, but new ones may be a problem. This could be even more of a problem if the accident in California recently causes a knee-jerk legislative reaction requiring installation of some form of PTC everywhere right now; this would be very expensive, particularly since it involves still pretty well unproven technology (which means, bottom line, that everything would have to be done over again in a few years).
I think the Railroads got going without a Wall Street way back in the 1800's and I think they can survive just fine. I think Wall Street provided a Railroad or two with a fairground to play in while providing a means to really big stash of cash to build.
If Wall Street did fail today and vanished, it will basically clear out alot of problems that is holding from moving forward. It aint gonna hurt the railroad. Watch out for the California Tier series restrictions in the post 2010 desiel engines... that will bite harder than wall street will.
What goes up must come down eventually.
If I was a railroad, I would like to have the choo choos bought and paid for in full. Not leased, not borrowed, not rented out for hour power none of that. Then I would like to be able to move the trains that need to move today for money today.
Those that get up and start rolling without having to raise cash to do it are in a good position. If you had to borrow money to fill the choo choo before the day's work then you are not doing so good yah?
Since many reports state that credit in general will be harder & more expensive to obtain, that would seem to apply to the industry as well. However, the recent prosperity may make it an exception, or limit those results. Also, it has an awful lot of fixed assets, as opposed to emphemeral "paper" assets.
Two specific observations:
1. Rolling stock financing - in the past, often known as "equipment trusts" (now an obsolete term and method) - has always enjoyed very favorable terms, almost regardless of the railroad company's credit status. That is due to the lender's ability to immediately repossess the equipment in the event of a default - that lender's right is explicity preserved in the Bankruptcy Act against the usual "automatic stay" provision. Further, the equipment's mobility and commonality - gauge, couplers, and other standardized features, etc. - make it uncommonly easy to resell or re-lease it to another railroad which could probably use it just as well. I don't see that changing a lot - maybe even more favored now, since it's been around for 100+ years - unlike the more recent and trendy, flash-in-the-pan financial instruments like "derivatives" . . . (heavy sarcasm).
2. Electrification, sadly, now has a much tougher economic row to hoe. The same considerations as for equipment above pretty much cut the other way for it. If some railroad had seriously considered it during the last 8 - 10 years when credit was comparatively easy and cheap to obtain, the huge capital requirements might have been surmountable. Now, I don't see it happening.
Nevertheless, some sharp and visionary CEOs and COOs should start doing the studies, preparing the plans, obtaining the permits, and doing all of the comparatively small amount but still necessary and worse, delay-inducing preparatory work for that day when it comes. Probably about 5 to 10 years from now after the current meltdown has gone away and financial and economic matters are once again in more stable equilibrium.
That's my "take" on it. What do others think ?
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