50 Years of Science - part 2

This is the second in a series of posts.  The first one can be found at http://sigma5.blogspot.com/2012/07/50-years-of-science-part-1.html.  Taking the Isaac Asimov book "The Intelligent Man's Guide to the Physical Sciences" as my baseline for the state of science as it was when he wrote the book (1959 - 1960) I am examining what has changed since.  For this post I am starting with the chapter Asimov titled "The Birth of the Universe".

In this chapter Asimov reviews in more detail than in previous chapters what science has determined about the age of things.  He reviews various "origin stories" for the Earth, including the one in the Bible.  He then moves quickly on to scientific attempts to determine how old Earth is.  Based on the salt content of the ocean the earth is at least a billion years old.  Based on various radioactive decay-based measurements the Earth is at least 3.3 billion years old.  Both of these estimates contradict "young earth" creationists.  Asimov doesn't mention them anywhere in the book because at the time the book was written no one took them seriously.  They did not have a political home in the Republican party and a well established network of religion channels on cable and mega churches to support and maintain their belief system.  In the decades since this book was written science has developed and enhanced the lines of reasoning Asimov lists, along with dozens of others, all indicating that the Earth is billions of years old.

No one has come up with any credible evidence that even one of these multiple lines of reasoning is wrong.  But we live in a world where people's knowledge of science has diminished to the point where most people are unfamiliar with the reasoning or the evidence that supports the reasoning.  Instead they are drowned in a sea of "facts" that are factually wrong, and people whose idea of a scientifically valid argument is " I believe it because my faith demands I believe it" or "I believe it because I wish it were so and 'wishing it were so' is enough to make something true".

In any case, the basic methods Asimov discusses have been refined and extended so that we now know that the Earth is 4.7 billion years old.  The primary line of evidence for this is radioactive decay.  Why is the modern number different from the number in 1960?  The big reason is that a concerted effort has been made to date lots and lots of rock formations.  When rocks melt then many radioactivity "clocks" reset resulting in a misleadingly young estimate of how old the rocks are.  Scientists have now located rock formations that are substantially older than the oldest ones they were familiar with in the '60s.  The scientific methods of radioactive dating have also gotten better.  More isotopes can now be used as the basis for these radioactive studies.  The amount of material necessary to make an accurate measurement is now much smaller.  And the overall accuracy and sensitivity of the measurements have improved.  Scientists are now also able to measure different "isotope systems" in the same rock and compare the results.  This makes it easier to identify situations where a sample appears to be pristine but has actually been processed (e.g. heated up by a geologic process).

Now is probably a good time to spend some time explaining how radioactive clocks work.  The thing that makes an atomic element what it is is the number of protons in the nucleus.  Hydrogen is Hydrogen because its nucleus has one Proton.  Helium is Helium because it has two Protons in its nucleus.  But there are actually multiple kinds of Hydrogen, Helium, and other elements.  Each kind is called an isotope,  The three isotopes of Hydrogen are called "Hydrogen", "Deuterium", and "Tritium".  Regular Hydrogen has a nucleus consisting of one Proton.  That's it.  Deuterium has a Proton but also a Neutron in its nucleus.  The name references the two (deu) nucleons.  Tritium has a Proton and two Neutrons, hence the "tri" in the name.  The isotopes of other elements don't have such cute names.  Chemists and Physicists also have various superscripts and subscripts they use to indicate isotopes but it is essentially impossible to get these to print correctly in the blog.  So I am instead going to use H-1 to indicate Hydrogen with just the one nucleon in its nucleus, H-2 to indicate Deuterium, the isotope of Hydrogen with two nucleons, and H-3 to indicate the three nucleons in Tritium.

Now from a chemical point of view H-1, H-2, and H-3 are indistinguishable.  They all behave like Hydrogen in every way when it comes to chemical reactions.  The same is true for the isotopes of Helium:  He-2, He-3, and He-4.  In each case there are two Protons in the nucleus along with 0, 1, or 2 Neutrons.  As a result each isotope acts just like the others from a chemical reaction point of view.  But in other ways each isotope differs.  For one thing the weight of each differs.  An atom of H-2 weighs about twice as much as an atom of H-1.  Both have one Proton and, in normal circumstances one electron.  But the electron weighs about one 2000th as much as a Proton, whereas a Neutron weighs roughly the same as a Proton.  So H-1 has one Proton and 1 electron and weighs about as much as a Proton.  But H-2 has a Proton, an Electron, and a Neutron.  So it weighs about the same as two Protons.  When you get to heavy atoms like U-235 versus U-238 the difference is much smaller.  U-235 weighs roughly as much as 235 Protons and U-238 weighs roughly as much as 238 Protons.  But here the difference in weight is roughly 1%.  In some cases the weight difference can be important but in most cases the difference in not enough to make a big difference.  And in any case that is not what we are interested in.

The difference that matters to us is that the stability of various isotopes varies considerably.  H-1 is stable.  If you sit around and watch a H-1 atom for a very long time it won't do anything.  H-2 is also stable.  But if you watch H-3 for about 12 years there is a 50-50 chance that it will "decay" into something else.  It will stop being H-3 and become a different isotope of a different element.  It will spontaneously become He-3.  One of the Neutrons will turn into a Proton.  If you have a bunch of H-3 atoms and wait a little over 12 years 50% of it will spontaneously decay into He-3.

There are 92 naturally occurring elements.  They range from e.g. H-1 to e.g. U-238.  Hydrogen comes in three isotopes as does Helium.  Other elements like Uranium come in a dozen or so isotopes.  All together there are hundreds of isotopes.  Many like H-1 are stable.  They never decay into something else.  But most isotopes are like H-3 and U-235 and U-238.  They decay spontaneously into other isotopes.  This is a complicated process.  U-235, for instance, can decay into one of several isotopes.  And sometimes the isotope it decays into is radioactive (e.g. unstable) so it decays into something else.  But scientists have carefully studied many isotopes and for the radioactive ones they have studied what they decay into.  H-3 always decays into He-3.  And for a combination like H-3 to He-3 there is a single magic number called the "half life".  In the case of the H-3 to He-3 decay the half life is exactly 12.32 years.  This means that if you put 10 lbs of H-3 into a container and wait exactly 12.32 years, when you look into the container you will find 5 lbs of H-3 and 5 lbs of He-3.

U-235 is more complicated.  It can decay into a number of different isotopes.  But most of the time it decays into Th-231.  The half life of this decay is 700 million years.  U-238 has three different decay paths.  The most common one is to Th-234 and its half life is 4.5 billion years.  What's important is for each decay path (e.g. H-3 to He-3 or U-235 to Th-231) you have three things:  the starting isotope, the ending isotope, and a very specific half life.  As we have seen half lives can be relatively short (e.g. 12.32 years) or very long (e.g. 4.5 billion years).  They can even be much shorter.  The half life of some isotopes is less than a second.  And they can be even longer than 4.5 billion years.  But, since 4.5 billion years is about as long as the Earth has been around, decay paths that have a half life longer than 4.5 billion years are not very useful as radioactive clocks.

And this whole half life thing is a little more complicated than it looks.  If we look in on our container of H-3 after 12.32 years we have half as much H-3, namely 5 lbs.  But what if we seal it back up and wait another 12.32 years?  Is it all gone?  No!  "Half life" means the amount of time it takes for half the remaining material to decay.  So after a total of 24.64 years we will have 2 1/2 lbs of H-3 (half the 5 lbs we had at the 12.32 year mark).  Radioactive decay is what mathematicians call an exponential process.  After one half life we have half the material.  After two half lives we have a quarter of the material.  After three half lives we have an eighth of the material.  And so it goes to a sixteenth (4 half lives) a thirty-second (5 half lives) a sixty-fourth (6 half lives).  If a large number of half lives are involved there is a shortcut that can be used.  After ten half lives we will have about a thousandth of the material left.  After twenty half lives we will have about a millionth, etc.  Every additional ten half lives will reduce the amount of original material by a factor of a about a thousand.

This whole "isotopes and half lives" thing gives us a clock for measuring times.  If we know how much of a specific isotope we started with and we know how much we have now then we can measure time.  For periods of hundreds to tens of thousands of years C-14 (carbon fourteen) works really well.  Lots of things like wood have carbon in them.  Most Carbon is stable C-12.  There is also some C-13, which we will ignore.  But there is usually a small amount of C-14 mixed in with the other isotopes of Carbon.  The half life of C-14 is 5,730 years.  If by careful analysis we find that exactly half the C-14 we started with is gone we can conclude that the artifact containing the Carbon is 5,730 years old.  If a quarter remains then the artifact is a little over 11,000 years old.  If a little less than a thousandth of the C-14 is left then the artifact must be about 57,000 years old.  In theory the process is that simple.  In actual practise it is more complicated than that.

The most obvious problem is with an artifact that we suspect is a little over a hundred thousand years old.  In this case we expect to measure about a millionth of the C-14 we started with.  That's not very much.  So C-14 dating is not very good for artifacts that are more than about 50,000 years old as the remaining amount of C-14 is so small.  But there is an even bigger problem for an artifact that we suspect is say 20,000 years old, what should be in the butter zone where we should have enough C-14 left over to get an accurate enough measurement to produce a pretty sharp age estimate.  Now the issue hangs on the question of how much C-14 we started with.  And that turns out to be a much harder question than it would seem.

Originally scientists just assumed that everything started out with pretty much the same percentage of C-14.  So they would measure the total carbon, apply the magic percentage to estimate how much C-14 there originally was, and go from there.  But it turns out the magic percentage trick doesn't work very well.  C-14 comes from high altitude cosmic rays hitting the upper atmosphere.  If the rate of cosmic rays stays constant then after a while the carbon in the atmosphere will contain a specific percentage of C-14.  This C-14 will end up in carbon dioxide in the air.  And plants will absorb the carbon dioxide and end up with a specific percentage of C-14 in their tissues.  If the plant lives for a very short time compared to the 5,730 year half life of C-14 then we will end up with plant material with a predictable initial C-14 percentage and we are good to go.  But this process is complicated and it turns out that there are variations in the efficiencies of some of the steps.  So the percentage of carbon in plant material that is C-14 varies somewhat.  And this introduces errors.  We can still measure what is now called the C-14-age of material containing carbon.  Scientists have developed elaborate adjustment procedures that work pretty well most of the time for turning C-14 age into real age.  But they are complicated and don't work all the time.

So some times there are problems with C-14 based radioactive dating.  Scientists have reacted to this in two ways.  First, they have developed and continued to refine their C-14 adjustment procedures.  The second way is to come up with other isotope systems.  That way they can compare the results for the C-14 isotope system with the results of the other isotope system.  Other isotope systems also allow artifacts to be dated that are much older than 50,000 years.  For instance, if you can find some Uranium in a rock and you can estimate how much of that Uranium was originally U-238, you can use radioactive dating on a very old rock.  If you measure the remaining U-238 and it turns out to be half of the amount you calculated was originally there you can estimate that the rock was 4.5 billion years old.  Other isotope systems can be used in situations where your age estimate is different.  If you can use an isotope system that has the right half life you can get an accurate and reliable date for a range of from hundreds of years to billions of years and anything in between.

This digression has turned out to be much longer than I originally planned.  So let me stick with it just a little longer and explain how scientists figured out that the C-14 isotope system had problems.  They didn't match it against a different isotope system.  Instead they matched it against a completely different dating system called dendrochronology.  This is just a fancy name for counting tree rings.  People have known for a long time that if you cut tree down you will see rings.  And each ring represents a year in the life of the tree.  The rings represent wood of different colors.  And the explanation is simple.  In the Spring when the weather is nice the tree grows quickly and typically creates light material.  In the winter the tree grows more slowly and typically creates darker material.   This idea of annual tree rings has been around a long time and was certainly not invented by scientists.  But scientists took this basic idea and built on it.

Scientists observed that a wide ring represented a year with good growth weather and a narrow ring represented a year with poor growth weather.  Originally this idea was used to determine weather patterns for times and places where there weren't good weather records.  But scientists found a way to do even further.  All the trees in a specific stand experience the same weather so they will have the same pattern of narrow rings for poor growth years and wide rings for good growth years.  This allows the pattern of rings to be synchronized between different trees.  Specifically, if you can find the stump of an old tree in a stand with younger trees you can match rings from late in the life of the stump with rings early in the life of the younger trees.  This allows you to establish the time period when the old tree was alive.  You now have access to weather information going farther back than the age of the oldest tree still alive.

This idea can be extended to trees in different stands as long as the stands are subject to similar weather.  And this method can be used to develop a weather record that spans not just two trees but several trees.  So a record can be developed that spans hundreds, in some cases thousands of years.  And the method does not require a whole tree.  A beam from a house or any piece of wood big enough to contain a number of rings can be used.  So a beam from a building or a piece of furniture can be dated.  You know the object containing the piece of wood was constructed some time after the tree that originally contained the piece of wood died (e.g. was cut down).  This allows you to date the piece of wood as being after the newest date represented by the newest ring in the piece of wood.  This can be very useful.

Specifically, wood contains carbon.  You can take a small sample from piece of wood and C-14 date it.  You can then compare this C-14 date to the tree ring date for the larger piece of wood.  You may even know the exact year the rings were laid down that ended up in the small piece that was C-14 dated.  Scientists did that.  They had complete confidence in the tree ring dates.  They found, however, that the C-14 date did not match.  That caused them to go back and look harder at the C-14 system and decide it had problems.  They now know what these problems are.  But there is not always a method of correcting the C-14 date that works.

Scientists do this kind of thing all the time.  They test one method against another method to see if they agree.  It's nice when the do but they don't always.  When there is disagreement they go back and look at both methods to see if they can figure out what went wrong.  Most of the time when it turns out that something is wrong it is scientists and not the critics that figure out that there is a problem.  When it comes to legitimate criticism, criticism that turns out to be justified when all the facts are in, Scientists are much harder on Science than critics are. 

50 years of Science - part 1

A few months ago I was rooting through my book shelf and I came across "The Intelligent Man's Guide to the Physical Sciences" by Isaac Asimov.  Asimov initially became famous during the "Golden Age" of Science Fiction and is considered one of the Grand Masters of the genre.  He is famous for inventing the "The Three Laws of Robotics".  This ushered in the era of good robots to supplement the previous trope of evil monster robots.  He also wrote the "Foundation" trilogy (and eventually added additional books to the series).  This was an early entry in the sub-genre of Future History and posited that crowd psychology would eventually become a hard science, thus allowing broad historical trends to be forecast and possibly manipulated.

After many years of success as a Science Fiction author he branched out into several other areas.  One of these was writing about science for a general audience.  The "Guide" was written in 1959 and 1960, making it roughly 50 years old.  Asimov did a good job of summarizing the state of the art at that time.  I thought it would be interesting to do a series of posts comparing the state of Science then and now.  But first let me set the scene by looking at the more general situation in 1960 as compared to the present.  Let me start with a long list of "no"'s.

There were no integrated circuits.  The transistor had been invented about 10 years earlier but was not in wide use.  Something called a "transistor radio" would be introduced at about this time.  Previously radios, and electronics in general, were powered by vacuum tubes (essentially a small light bulb with a bunch of extra wires and other stuff jammed inside the glass shell).  A simple device like a radio would have less than 10 tubes.  A very complex device would usually have less than 100.  Modern electronics, by contrast, have the equivalent of millions of tubes combined into a single small chip costing a few dollars.  Computers existed at this time but they had the processing power of a digital watch and cost millions of dollars each. 

There was no Internet.  The very beginnings of what would be eventually become the Internet (called ARPANET at the time) was begun in the late '60s.  Since there was no Internet there was no E-Mail (invented in the '70s) or web pages (invented in the '90s) or Twitter or Facebook (both invented in the '00s).  In fact, you couldn't call someone on your phone by pushing buttons.  Telephones of the time had "rotary" dials with 10 holes (one for each digit).  There were no Area Codes or International codes.  To make a long distance call you had to contact an operator, an actual person, who would make arrangements.  Long distance calls within the U.S. were possible but expensive (a dollar or more per minute).  International calls were just barely possible.  The sound quality was terrible.  It could easily take 20 or 30 minutes to set one up and they were fantastically expensive.  At the time almost no one had actually participated in one due to the cost and difficulty.  You could look up a local phone number in a "phone book" (still around). To get a number for someone not in your town you had to contact an operator (again, a person) in that area who could look it up for you.

And there were no cell phones.  You rented phones from the phone company.  You couldn't even buy one.  There were only a few models to choose from and they were all hard wired to the phone system (e.g. no "walking around" portable phones - you had to go where the phone was and it was by the wall where the phone man had wired it in).

There were TVs but there were no color TVs.  Almost no one had cable so all you typically had were the few channels that broadcast over the air in your area.  There were a few satellites but there were no communications satellites so there were no extra channels like ESPN or C-SPAN or USA or HBO.  You were stuck with what came from your local TV stations.  There were no TiVos or DVRs so you had to watch the show when it was broadcast.  And a particular episode was only broadcast once (except for some reruns in the summer) so if you missed it there was no going back.  At this time there were also no VCRs so you couldn't "Tape" anything.  Nor could you rent movies (or download them).  If you wanted to see a movie, you had to go to a theater while it was in town.

Cars all ran on leaded gas with no ethanol in it.  They had no seat belts or air bags.  Air conditioning was available on a few luxury models.  Cars were cheaper but tended to wear out quicker.  A car was old at 50,000 miles and a junker at 100,000.  But car repairs were much simpler and a lot of people did their own.  SUVs hadn't been invented yet and pickup trucks were only driven by people who needed them for work.  The only in-car electronics were radios and they only got AM.  No FM.  No CD player or entertainment package.  There were no navigation systems. You got free paper maps at gas stations.  There was no "self serve".  Someone (a "gas jockey") pumped your gas for you and checked the tire pressure, and oil and radiator levels.  Cars didn't have fuel injection.  They also didn't have any anti-pollution or other complicated stuff like a diagnostic computer.  A mechanic had to figure out what was wrong on his own.

Finally, books were a lot cheaper.  At $0.90 (1969 price), "Guide" was a little  more expensive than a typical book of the time.  Of course, most things were cheaper then.  But you also got paid a lot less too.  And, if you had a paying job, you were almost always a man.  Few women worked outside the house.  With that as an introduction, let's jump into the book.

The biggest telescope of the time was the 200" Hale telescope located on Mt. Palomar in California.  It used large photographic plates, about 1' by 1'.  They were covered with an emulsion that was sensitive for the time and designed for maximum sharpness.  After processing the plates were examined by eye or perhaps with a small magnifying glass.  CCDs had not been invented so there was no electronic alternative to photographic methods.  And photographic methods were better than staring through the telescope with the naked eye.  Another problem was that the atmosphere introduced small distortions. This was one reason no larger telescope had been built.  The Hale was about as big as it made sense to go.  Modern telescopes use adaptive optics (and other tricks) to deal with this (and other issues) but the technology to make a bigger telescope work better than the Hale did not exist then.  There were other limitations imposed by the atmosphere.  It is opaque to Infrared, Ultraviolet, X-rays, and Gamma Rays.  And there were no telescopes in space (e.g. Hubble) and no big telescopes in the Southern hemisphere.  So Astronomers knew little about how the Universe looked in the Southern hemisphere and nothing about how the universe looked at these other wavelengths.  There were a few radio telescopes like Jodrell Bank in the U.K. but big dish radio telescopes like in the movie Contact or at Arecibo in Puerto Rico had not been built yet.

So with these limitations, how did Astronomers of the time do?  They got the size of the Solar System right.  They got the size of the Milky Way and our rough location in it right.  But they did not know that there was a giant Black Hole in the center of the Milky Way.  Black Holes at this time were an entirely theoretical concept.  No one had any evidence that they actually existed.  Astronomers were also able to estimate the size and distance of the Andromeda Galaxy with reasonable accuracy.  That, and other observations, led them to believe that the universe was at least 5 billion years old.

The current estimate for the age of the universe is 13.7 billion years.  So Astronomers of the time got that wrong.  But they knew they did not have good data.  Instruments of the time only allowed Astronomers to see out about 2 billion years.  (The constant speed of light makes distance and time equivalent.  If you are looking at something that is one million light years away, you are seeing it as it was one million years ago).  So they stated their estimate as "at least 5 billion years".  The 2 billion year observational limit was why they had such a poor estimate of the size and age of the universe.

Asimov does a great job of explaining how Astronomers knew what they knew.  Much of it was hard to figure out given the tools they had to work with at the time.  This is generally true.  It is easy for us to figure out a lot of things now because we now have tools that are so much better.  Given the "it's easy to do now" phenomenon it's easy to fall into the trap of unconsciously thinking we are so much smarter now than they were then.  But in many ways the opposite is true.  They were so much smarter then than we are now because they had to be so clever and creative to figure things out with such poor tools.  So I recommend picking the book up, if you can find it.  It is a useful exercise in humility to see what they had to go through to figure out what they were able to.

 I am going to end things here.  I will pick things up starting with the next chapter in the next installment.

Risk

We are now 3-4 years into our current economic problems.  I have read several books on the subject.  I think I have come up with a simple explanation (e.g. one much less than book length) of how we got into this mess.  I think the whole thing can be explained by focusing on a single word:  risk.  Now the more enlightened among you know Risk as a board game.  But I am talking about "risk" with a lower case "r".  At its most basic, risk is about whether or not things are going to go badly wrong.

Businesses don't like things to go badly wrong.  So they have long sought out "risk mitigation" strategies.  Let's say a business is worried about a large investment going bad.  And let's say further that the business thinks that the chances of this happening are 1 in 100.  Say this business can pay a premium of 2% of the size of the investment for someone else to cover the loss if the investment goes bad.  On paper this might seem like a bad investment as in a probabilistic sense the cost of avoiding the problem is twice the "expected cost" of the problem.  But the business might decide it's willing to pay the 2% anyhow just to avoid having to worry about the investment going bad.  If this sounds like insurance that's because it is.

There are many complexities in actual specific situations but this "what will it cost and what is the probability it will happen" captures the core concept of risk.  And businesses engage in risky behavior as a normal part of doing business.  Any business deal, investment, loan, etc. can go bad.  So one of the critical skills of a good businessman is to be able to properly manage risk.  If a business engages in a lot of low cost high risk transactions then the business most likely self insures.  They build expected losses into the cost of doing business and eat the loss directly.  This saves them the additional cost of farming the risk out.  If they have judged the risk correctly then the mark up on the successful transactions will more than pay for the losses on the ones that go bad.  Businesses often put a lot of thought into situations where the risk is very low but the cost of failure is very high.  These are the situations where they are likely to buy some form of insurance.  But the key to doing this sort of thing correctly is to be able to accurately judge risk.  If something is low risk but you think it is high risk then you waste money on insurance.  If something is high risk but you think it is low risk then you may choose to under-insure or get no insurance at all.  These situations can lead to very bad things as we all now know only too well.  So let's take a look at events of the past few years from the perspective of risk.

For most of my lifetime a mortgage was a low risk investment for a company.  But this was not always so.  The house my father grew up in was built in 1910.  For various reasons my father took control of the family's finances about 25 years later.  The house originally cost $5,000.  He was shocked to learn that after payments had been made for 25 years $5,000 was still owed on the mortgage.  And this being the middle of the great depression, the house was still worth only about $5,000.  His parents had taken out an "interest only" mortgage.  He quickly moved to start paying down the principal and had the house fully paid off a few years later.  If my father's family had been a little less lucky they would have ended up with nothing.  Many depression era families did.  As a result of the experience of those other families FDR was able to introduce mortgage regulation which banned interest only mortgages.  For many years a 30 year 20% down mortgage was the standard.

And a 30 year 20% down mortgage is a very safe investment for the investor.  If something goes wrong the investor can repossess the house and sell it.  They will likely get enough to cover the mortgage balance and any additional costs.  And there was a good chance the home owner who got in trouble would sell the house and use the proceeds to pay off the mortgage in full before the mortgagor even knows there's a problem.  In only a few rare cases did the investor take a loss on the mortgage.  So the risk of any loss was low.  And even in the case of a loss the investor was likely to get most of his money back.  An investor was fully justified in assigning a very low "risk premium" (the amount he needed to mark the transaction up by) to a mortgage transaction.  This situation continued for 40 years or so.

Then people looked at how to make more money in the mortgage business.  The first thing they asked themselves was "what if we reduced the down payment minimum below 20%?"  The answer turned out to be "not much".  Few mortgages went into foreclosure.  When they did the potential loss was usually well below 20%.  So by changing the down payment requirement from 20% to say 15% or 10% nothing much really happened on the risk side.  The number of mortgages that went bad stayed low and the losses, when there was a loss, stayed small.  But all of a sudden a lot more people could afford a mortgage.  So costs went up but not by much and volume went up a lot.  And down payments went down some more to 5% or 3%.  And even more people flooded into the market.



Now what if I write a mortgage to a bad person?  This is someone who is unable or unwilling to pay the mortgage.  What's my risk?  Well, even if the bad person is in the house for only a year the investor will get all his money back if housing prices rise enough.  So why bother with credit checks if you will not lose money if the credit is bad?  In this environment an accurate credit check is not worth much.  If the mortgagee is a good person it's a waste of money.  If the mortgagee is a bad person you still get your money back eventually.  So a entire segment of the mortgage business appeared that specialized in writing mortgages for bad (only in the sense of credit risk) people.  And investors made a lot of money.

It's not just that they failed to lose money.  They actually made money, more money.  This is because of a perverse situation.  If a person has a bad credit rating then you are justified in charging them a higher interest rate (see "risk premium" above).  Investors love getting a higher rate of return (e.g. the higher interest rate) for the same risk (e.g. chance of a loss).  So investors encouraged mortgagors to find problem mortgagees because they could be talked into a higher interest rate.  In fact, it got so bad that many people who could qualify for a low risk low interest rate mortgage were sold a high risk high interest rate mortgage because that was he kind of mortgage investors wanted to buy (and were willing to pay a higher commission on).  Then there was the balloon.

Mortgages began to be structured with a low "teaser" interest rate for the first few years (typically three years).  Then the interest rate would "balloon" up to a much higher rate.  From a mortgagee's point of view this was not as bad as it seemed.  They could refinance, presumably into a new mortgage with another 3 year teaser rate.  If they did this often enough they'd never get to the part where the interest rate ballooned.  If that didn't work they could just sell the house and pay off the mortgage.  So it looked like the mortgagee always had an out, if the mortgagee was smart enough to figure all this out.  If not then he was in for a big surprise but that was his problem.  And on the other side of the deal, the investor side, there was a con job going on.  Mortgages were rated on their return.  Since a typical balloon mortgage would have a low interest rate for 3 years but a high interest rate for 27 years the average interest rate was pretty close to the high interest rate so the mortgage looked like a pretty good investment.  Now this ignores the whole "refinance or sell" thing but investors went with the "ignorance is bliss" strategy in large numbers and pretended the "refinance or sell" option did not exist.

The mortgage industry evolved quickly.  Down payments went down quickly.  Teaser rates and other gimmicks appeared quickly.  So there wasn't a lot of history that accurately represented the current market.  Wall Street took advantage of this.  They would trot out lots of statistics about how slowly mortgages turned over and that only a small percentage of mortgages defaulted.  But most of these statistics covered a different market, a market where down payments were higher and most mortgages did not contain gimmicks.  Averaging a bunch of good old mortgages with some bad new mortgages gives a distorted picture of what is likely to happen with the new mortgages.  But investors in general ignored all this and the marker for bad mortgages was hot, hot, hot.

Now let's step back a little.  For more than 40 years mortgages were a modest boring business.  Volume was relatively low because of the 20% down requirement and the fact that mortgagors usually did a thorough credit check and did not loan to problematic potential customers.  As a result mortgages were in fact very low risk.  Then the market started evolving.  Each evolution was in the direction of higher risk.  The early changes (down payment requirement reduced to 15% or 10%) increased risk but by only a small amount.  But they increased the volume by a lot.  Wall Street loved this.  More transactions meant more profit.  So Wall Street pushed for even more loosening of mortgage standards.  During this period risk increased more quickly than before but the increase in risk was still relatively small and by adding more risk premium (e.g. higher interest rates) loses could be managed and volume increased even more.

This led to a vicious cycle.  Wall Street pushed for more loosening of now already loose standards and volume increased.  And by adding gimmicks the apparent profit margin increased.  Default risk was still small because by this time home prices were increasing by leaps and bounds.  By the end of the process anyone could get a mortgage.  In one book the author met a Los Vegas stripper who owned four houses as investments.  In many cases gardeners and dishwashers were buying McMansions.  There was no way these people could keep up on their mortgage payments even though the vast majority wanted to.  But it didn't matter whether a mortgagee couldn't or wouldn't keep their payments up because any problem could be fixed by flipping the house.  So it appeared if you didn't look closely at what was going on that mortgages were still a low risk investment.  In fact the risk associated with the mortgage market had climbed to the point that it was very high.

This finally became apparently when housing prices stalled out.  They stopped rising quickly.  Then they stopped rising at all.  Finally, they started falling.  If someone has made a 20% down payment and the value of the house drops by 10% the investor will still come out OK.  But if the assessment on the house was inflated (as too many were) and the mortgagee paid 0% down and the value of the home drops then the investor is going to lose a serious amount of money.  And that's what happened.  And that fed into a substantial downturn in the economy.  So that people who could normally have afforded their mortgage payments lost their jobs and defaulted.  And this put a lot of distressed houses into the market, which further depressed housing prices.  And many of the people who were employed in the construction business or the appliance business or many other businesses that saw sales drop off dramatically were let go.  So more mortgagees got in trouble and housing prices got depressed some more.

At the peak most mortgage backed securities were rated AAA.  This means they are very low risk investments.  And right up to the end they behaved like they were very low risk.  Losses up to the peak were very small.  There is a branch of mathematics that describes these kinds of situations.  It is called "catastrophe theory".  Imagine a Popsicle stick.  It is placed on the edge of a table so that half of it is sticking out past the edge of the table.  Now imagine holding the stick down on the table and pushing gently on the other end.  The stick will bend slightly.  Push harder and it will bend some more. Let go and it will straighten out.  Now push much harder.  The stick will bend even more and, if you push hard enough, it will break.  Now stop pushing at all after the stick has broken.  What happens?  The stick will not return to being straight.  It will stay bent at the broken spot.  Catastrophe theory deals with these "bend till it breaks" situations.  Fortunately, we don't need to be catastrophe theory experts.  The broken Popsicle stick tells it all.  After the stick breaks a little change like not pushing on the stick any more does not bring the stick back to being straight.

The mortgage business ended up like the broken Popsicle stick.  Once it broke small fixes like lower interest rates did not put it back to where it had been.  And before it broke a number of people made conscious decisions to push the mortgage market harder and harder.  There justification was "well, it hasn't broken yet".  But they kept pushing harder and harder toward higher and higher risk behavior.  On the front lines were the mortgage sellers.  Once they sold a mortgage to a customer they wholesaled it out to Wall Street.  They made their money on volume and retained no risk once the mortgage was sold off.  And they were pushed by Wall Street to make more and more and riskier and riskier mortgages.  As long as nothing went wrong Wall Street made more and more money.  Much of the mortgage origination market is unregulated.  To the extent that it is regulated some regulators tried to push back.  But they were opposed by Wall Street and their powerful lobbying operation.  The regulated mortgage originators also opposed the regulators because they were losing business to unregulated originators.  They added their lobbying muscle to Wall Street's.

A partner in crime were the securities rating firms like Moody's and S&P.  They rated these investments AAA right up until the end.  But they were captured by Wall Street.  If one firm gave a security a bad rating then Wall Street would hire a different firm if the new firm would promise to give the same security a good rating.  Everyone knew how the game worked.  So the ratings agencies would build a paper trail to justify their rating, a paper trail based on the bogus (see above) historical data and other "analysis" Wall Street provided.  The idea was to have plausible deniability.  "We followed accepted industry practises.  We had no idea, honest!"  This, their own lobbying operation, and a "White Shoe" Wall Street law firm on retainer, was judged to be sufficient cover.  And so far their defensive strategy has worked. No one is in jail.  All the firms are still in business and no individuals have lost big law suits.

An argument can be made that mortgage originators are not all that smart.  I don't believe it, but let's just say.  And similarly an argument can be made that the regulators and the ratings agencies are not that smart either.  Again, I don't believe it but let's just say.  Wall Street prides itself on having lots and lots of "smartest guy in the room" types.  But if one of these Wall Street smart guys had applied their intelligence and pointed out the problems in the mortgage industry, what would have happened?  They would been chastised for not being a team player.  If their firm acted on their conclusions they would have stopped making the kind of money other firms were making.  Instead what the smart guys on Wall Street adopted (or in some cases tried to adopt) a different strategy, the "musical chairs" strategy.

In musical chairs there are a number of people walking around a circle of chairs with one less chair than people.  When the music stops everybody tries to sit down.  Whoever does not make it safely to a chair is the loser.  Many people on Wall Street knew there were problems.  But they also knew that were many players involved.  So it was like musical chairs with lots of people but not enough chairs.  As a Wall Street smart guy the strategy I (and pretty much everybody did this) adopted was to make sure I (or my company) always had a chair I could definitely make it to when the music stopped.  Since I'm the smartest guy in the room some other schmuck will get stuck without a chair.  The problem, of course, turned out to be that the whole roof caved in and there were no chairs left for anyone.  For many on Wall Street AIG was the designated schmuck.  Unfortunately no one thought it was their job to make sure AIG had enough money to fulfill its role.  They didn't.  A couple of beats after AIG went under the music was stopped by the roof falling in.

"No chairs" was not a possibility that anyone had considered.  And it turned out that the government and its middle class taxpayers ended up having to come in and bail Wall Street out.  So for the most part it didn't matter to Wall Street that it had screwed up.  A couple of firms went under and a lot of employees got laid off but the system as a whole survived just fine.

So Wall Street didn't know (or pretended it didn't know) that mortgage risk was not being calculated correctly.  Some regulators got it right or at least came closer than any other group but an aggressive lobbying campaign in public and behind the scenes caused them to be ignored when they weren't silenced outright.  The ratings firms got it completely wrong.  And the mortgage origination industry got it completely wrong.  But several of the largest mortgage origination firms (e.g. Countrywide) sold out to Wall Street at very high prices a year or so before the collapse. So the senior executives of these firms did very well.  And ask yourself why so many sold out when things were going so well?  Maybe some people in the mortgage origination business did have a clue.  They differed from Wall Street only in adopting a "sell out at the top" strategy instead of a "musical chairs" strategy.

If it had just been the mortgage meltdown things would have been bad enough.  But unfortunately, it wasn't.  Wall Street has always made money by selling advice.  This is a steady business with a nice profit margin but there isn't a big enough market for it to make the kind of out sized profits Wall Street craves.  Wall Street's main moneymaker used to be buying and selling securities.  And by "securities" I mean Stocks and Bonds.  That used to be a very lucrative business.  But deregulation set in a few years ago and the amount of money a firm can make per transaction plunged.  The fee on a Stock or Bond transaction used to be enough to buy a dinner at a fancy restaurant.  Now it would be lucky to cover the cost of a small Coke at McDonald's.  Squeezing a half a cent out of the cost of a transaction is just not what a Wall Street Master of the Universe dreams of.  They looked around and found derivatives, the big moneymaker for Wall Street for some time now.

A derivative buy or sell transaction is like a Stock or Bond buy or sell transaction from an execution point of view.  So Wall Street didn't have to invent anything new to move into this business.  Stocks and Bonds are traded on exchanges.  The commissions are negotiable and everyone knows what is going on. So the market is fiercely competitive and the fee for executing the transaction is tiny because people can shop around for the best deal.  Derivatives historically have not been traded on exchanges.  For a specific derivative typically only one firm knows what the security is really worth so that firm can add a nice markup into the transaction.  So the profit per transaction can be like the old days with Stocks before deregulation.  In some cases it can even be much better.  The profit potential is awesome with derivatives.  So what is a derivative?

The answer turns out to be pretty much anything.  All you have to do is find two people, one for each side of a bet and you can package it up as a derivative.  In practise Wall Street deals in money.  So derivatives are generally about something financial.  As an example let's talk about mortgages.  As I said above, Wall Street bought bails of mortgages.  Now Wall Street was only interested in the money part of the mortgage.  So the mortgage was split.  A "mortgage servicer" would worry about collecting the payments and all that nitty gritty stuff.  Wall Street left this part alone and concerned itself only with the cash flow.  They would provide the money to buy the house.  Then they would get the cash flow generated by the mortgage payments from the servicer and marry it back to the mortgage.  And a single mortgage for a single house, even if it was a million dollar McMansion, was too small to interest Wall Street.  Typically thousands of mortgages were bundled into a single "mortgage backed security".

And Wall Street could stop there and just market the mortgage backed security.  But that was not interesting (read profitable) enough.  Different potential investors had different investment objectives.  Some investors were high risk - high reward types.  Others were low risk - low reward types.  It was just too difficult to build special packages for each investor type.  Then someone came up with a brilliant idea called "tranches".  I have no idea where the word came from but the idea is simple.  Say your bundle of mortgages has 1,000 mortgages in it.  Divide them into 10 tranches.  Tranche 1 would contain the 100 riskiest mortgages.  Tranche 2 would contain the next 100 riskiest mortgages.  Tranche 10 would contain the 100 least risky mortgages.  Now we can sell tranche 1 to a high risk investor and tranche 10 to a low risk investor.  The details of which tranche a specific mortgage ended up in are complex and might vary from security to security.  But this "tranche 5 of mortgage package xxx" is a derivative.  Its value is derived from some package of underlying securities.  And a derivative can be created that is a bundle of other derivatives.  So you can have layer upon layer upon layer.

And now the magic happens.  In a normal market what are the probabilities that 10% of a typical package of mortgages will default?  The answer is practically zero.  So a ratings agency might easily rate tranches 2 - 10 as AAA.  Anyone can buy a AAA investment.  Lots of people (pension funds, insurance companies) are required to only deal in "investment grade" securities.  AAA securities are investment grade.  So we have just created a bunch of AAA securities.  If the interest rate on the tranche 1 mortgages is high enough then someone will take a flier on it.  And let's say you are one of those "AAA only" investors.  If you are given a choice between an investment that returns 5 1/4% and one that returns 5 1/2% what do you do.  They are both AAA so of course you buy the 5 1/2% one.  By bundling and tranching Wall Street was able to create giant piles of AAA investments.  They could get the ratings agencies to rate lots of stuff AAA by saying "there is only a one in a million chance that more than 10% of mortgages will default".

Now this "bundle and tranche" strategy was applied to all kinds of stuff besides mortgages.  If you tranche Credit Card Accounts Receivable (your outstanding balance on your credit card) you can create a bunch of AAA securities.  Everybody wants to buy the AAA security that has a little higher return than the run of the mill AAA security.  And "due diligence" for many investors started and finished with "is it AAA?"  And for a fee Wall Street would customize the security.  Typically the Wall Street firm that created one of these derivative securities was the only one who had full information on it.  So if they bundled in some fees and added some markups they could still make the security look like a good deal.  So they did and made fantastic amounts of money doing so.

One more piece was necessary to make the whole scheme work.  Wall Street firms needed a way to assign a risk rating to each of these derivatives.  Now we can ask how many Boeing 575 airplanes fall out of the sky in a given year.  There are lots of 757's around so we can come up with a pretty good estimate for how much risk is built into a 757.  (Fortunately for all of us the answer in most years is none).  But in the case of derivatives many of these securities are unique.  Even when this is not true there is not much to go on.  Wall Street was saved a few years ago.  A math genius came up with an "algorithm" (essentially a computer program) that would pop out a single magical "risk" number no mater how many moving pieces the derivative contained.

The details are for the most part irrelevant to our discussion because we can understand why things went so wrong by concentrating on something easy, what information went into the algorithm.  The first kind of information was the specific details of each underlying security (e.g. mortgage amount, interest rate, duration, FICA number (credit score), etc.).  The other kind of information was historical information for similar securities. For these securities additional information on default rate, delay till default, loss amount, etc. were added to the basic "security" information.  The algorithm would use the historical data to make an estimate of what would happen to the specific set of securities in the package in question.  It would then boil that down to a single magical "risk" number.  With this algorithm a uniform procedure could be applied to any kind of derivative.  Every derivative could be assigned a risk based on the magic algorithm.  And all the major Wall Street firms bought off on this system.  With it all these derivatives could be boiled down to three numbers.  What's the price of the derivative?  What's the return (interest rate) of the derivative?  What's the risk of the derivative?  Now Wall Street was ready to sell large quantities of derivatives.  All the complexity was safely hidden out of sight and everyone could concentrate on "sell, sell, sell".  It looked like a good deal to customers because Wall Street was offering all these AAA securities with these wonderful returns.  What's not to like?

At this point we all know this story did not turn out well.  After the fact the magic algorithm was roundly criticized.  A lot of the criticism was fairly technical (e.g. "tail effect").  But most of the criticism ignored the question of whether the algorithm was properly applied.  Frequently the answer was no.  The original work was done using mortgage data.  The author was only interested in proving that the algorithm worked.  So he grabbed the data that was most readily available.  This consisted of a few years of mortgage data from the boom times.  There was no "bad things happening" data in the historical data he used.  This weakness was unimportant in terms of proving that the algorithm was mathematically correct.  But it was critical in real world applications.  Wall Street never expanded the historical data they used to included a broader sample.  The algorithm with the crippled historical data gave them the answer that allowed them to sell the security so they were happy.  But it gets worse.  The magic algorithm was applied to all kinds of stuff, not just mortgages. Was a custom set of historical data developed for these other types of securities?  No!  The mortgage data was handy.  It had a proven track record of generating a low risk number so why mess with success?  In fact the whole magic formula procedure as implemented on Wall Street was one giant con.  There was nothing wrong with the underlying math.  But the algorithm has to be applied properly and frequently it was not.

If you talk to Wall Street today they claim that they have fixed everything.  They still use the magic algorithm but they now claim that they are using it correctly.  But I see no reason to believe this.  Wall Street went wrong in the first place because it was too hard to make the kind of money they wanted to make without getting creative.  If anything, it is now even harder to make money the old fashioned way.  Margins in traditional lines of business are tighter than ever.  Competition is fiercer than ever.  So there is still a strong incentive to get creative.  And there is still money to be made by selling something that is risky but claiming it is not.  We have just seen clear evidence of this.  A few weeks ago JP Morgan Chase announced that they had taken a 2 billion dollar trading loss.  Many news reports claim the actual figure is 3 billion.  I have even seen one claim that it is 7 billion.  Jamie Dimon, the CEO claims that he now has things under control and that JP Morgan can absorb the loss without significant harm to the company or to the economy at large.  But it highlights the fact that a fundamental problem still exists.

The working assumption of all these Wall Street firms is that all these derivatives are "liquid".  In short this means if you decide to sell the instrument you can easily find a buyer.  And the price you get will be predictable.  But there is no reason to believe this.  In 2008 during the worst of it there were lots of derivatives that could not be sold for any price.  People came to believe they did not know what was in the underlying bundle of securities and, to the extent that they could tell what the underlying securities were, they could not accurately estimate their value.  So they said "I'm staying on the sidelines while I wait for things to shake out".  And the "value" of many derivatives went from 100% of purchase price to 90% or 70% or 50% or less, sometimes in a few days.  Some of these "AAA" rated derivatives ended up being worth 30% or less of face value.  The very fact that the content of these derivative bundles varies from instrument to instrument means that each one is unique or nearly unique.

This has been a problem for JP Morgan.  They have not released details on just what went wrong with which securities.  But traders think they have a pretty good idea.  And if a trader knows (or suspects) that a particular security being offered for sale is a JP Morgan problem child he knows JP Morgan is in a bind.  And that means he can low ball his price knowing JP Morgan might have to accept it anyhow.  Outsiders speculate that traders taking advantage of JP Morgan's bind is why the estimates for how much this will eventually cost JP Morgan vary so much.

In some sense the JP Morgan case is a special case.  But in another sense it is not.  Traders might chose to avoid a particular derivative or class of derivatives at any time for any reason or no reason.  Mostly what they care about is getting the best return for the least risk.  The fact that derivatives are generic because mostly all people care about is price, return, and risk but are custom in the sense that each derivative has a different set of underlying securities makes any specific "risk" number unreliable.  There are always other derivatives that have a similar price, return, and risk but a different set of underlying securities.  And this means that all derivatives are risky all the time.

In summary, we got here by doing a terrible job of estimating risk.  All this was started by various groups working together to drive risk in the mortgage market through the roof, all the while loudly claiming that no such thing was happening.  The market was driven so far from stability that it broke in a catastrophic (in the mathematical sense and in its impact on society) manner.  This firestorm swept through the markets on Wall Street and exposed more and larger failures to properly calculate risk.  We are probably doing a better job now, both in the mortgage market and on Wall Street.  If nothing else, I think customers now take Wall Street "risk" estimates with a 5 pound bag of salt.  The question is are we, and here I primarily mean Wall Street, now doing a good enough job of correctly calculating risk.  The JP Morgan "problem" argues strongly that we are not.

Capitalism

The 1% are in bad odor at the moment.  That's certainly the conventional wisdom and I think it is largely correct.  Where the disagreement comes about is why.  Mitt Romney seems to think ("seems to think" is as close as you can get given his propensity for routinely changing his thinking based on what is currently advantageous to him) that it is because the rest of us are envious.  I don't think that analysis stands up to serious scrutiny.

I can easily think of three people who are much wealthier than Mitt.  I'm thinking of Bill Gates, Warren Buffett, and Steve Jobs.  Any one of them is vastly more wealthy than Mr. Romney.  Now certainly many of us are envious of them.  We would all like to switch places with them (assuming Mr. Jobs was healthy and still alive).  But what's important is that these three people are very popular with ordinary people.  Mr. Romney is not even well liked within his own party.  People may prefer him to President Obama as a Presidential candidate but the number of people who just like him as a person is quite small.  So what's the difference?

One of the key differences is the number of people who went along with the ride.  Mr. Gates is responsible for creating many millionaires and a number of billionaires.  And these newly wealthy people were not wealthy or powerful people when they started out.  Instead they went to work for Microsoft.  A lesser number of people bought Microsoft stock in the early days and held on to it through its fantastic rise.  The same is true albeit to a lesser extent with Mr. Buffett and Mr. Jobs.

If you bought Berkshire Hathaway (Mr. Buffett's company) stock back when and held it you would now be very wealthy.  You did not need any kind of inside connection.  The stock was sold to the general public.  Now I have to admit that in Mr. Buffett's case you couldn't start from nothing.  You needed to have at least thousands of dollars, perhaps tens of thousands of dollars.  This is out of reach for poor people and many middle class people.  But it could have been done and was done by many middle class people.  I don't know of any billionaires created by Mr. Buffett except his close business associate Charlie Munger, and perhaps some members of his immediate family.  But he has made many millionaires and has improved the financial well being of many others.

Steve Jobs sits somewhere between Mr. Buffett and Mr. Gates in terms of his direct financial influence.  He has made several Apple executives a lot of money.  And Apple stock has run up impressively in the last decade or so.  But another thing Mr. Jobs has done to a much greater extent than Mr. Buffett and even to a greater extent than Mr. Gates is create products that ordinary people can buy and fall in love with.  There are many people who have never worked for Apple nor owned a share of Apple stock who celebrate Mr Jobs' great wealth because they love the products he has created.

So it is possible to make a great deal of money, far more than Mr. Romney has made, and be well liked by the public.  So what's with Mr. Romney?  So far most of what I have said is a divergence.  I am now going to return to the central point.

I think most people's idea of a capitalist is someone who puts money at risk.  The narrowest definition would be that the capitalist puts his own money at risk.  But most people are comfortable with expanding the definition to include people who put other people's money at risk.  Mr. Buffett fits this expanded definition of a capitalist to a tee.  He was able to talk people into giving him money to invest, to put at risk, and he earned substantial returns on that money over a very long time.  So it's not that people hate all capitalists.  In fact, I think people don't hate most capitalists if we stick to my definition of a capitalist.  But Mitt Romney is not a capitalist, not at least during his time at Bain Capital.

I just saw a poll indicating that about half the people polled either did not know the "Bain story" or did not have an opinion on it so let me do a quick review.  Bain & Co. is a long established management consultancy.  They advise businesses on how to do business better.  About 30 years ago Bain & Co. decided their focus was too narrow so they created a new entity called Bain Capital.  Bain Capital would be more active.  They would buy up companies, apply Bain &Co. business methods to their management, and make them much more successful (e.g. profitable) companies.  Mr. Romney was one of the founders of Bain Capital and ran it for its first 15 years of existence.  (It is still in business but Mr. Romney no longer has an active role in it).  During Mr. Romney's tenure Bain Capital did over 100 deals.  Some of them were successes.  Some of them were failures.  Typically, the Bain Capital people would buy a controlling interest in the company, make substantial changes to the management and business practises (e.g. run the company the "Bain" way") and this was supposed to substantially improve the company.  So this looks like typical "capitalist" activity.  But I contend it is not.

The problem is with the "at risk" part.  Bain (I will always mean Bain Capital unless I specifically indicate otherwise) did put in money up front to buy the company.  And in some cases capital was added to the company so it looks like there was capital at risk.  But this was an illusion.  As far as I can tell Bain always did the deal in such a way that Bain was guaranteed to get all its money back. 

It turns out that there are a number of ways to shake large amounts of money out of a company.  One way is to rob the pension fund.  Companies will put aside money to pay future benefits for their employees.  There are ways to get at this money.  Doing so means that frequently the pension fund will run out of money in the future but that's in the future.  Another common tactic is to sell land and buildings to a bank and lease them back.  This increases the cost of doing business in the long run but it frees up a large amount of money in the short run.  A third tactic is to lay off a lot of workers.  The business will continue to maintain its traditional level of sales in the short run.  But the reduced quality of service or the lack of new and improved product (because you gutted the R&D operation) takes some time to materially effect the company.  So you get money in the short run at the expense of the long term viability of the company.

So there are a number of techniques, I haven't listed them all, to free up large quantities of money in the short run while putting the long term viability of the company at serious risk.  As far as I can tell, Bain only did deals where they could employ these or similar tactics to shake loose enough money to repay Bain for all its out of pocket costs (e.g. purchase cost plus and capital they put in).  So there was never a risk that Bain would lose money on a deal.  The record I have seen of Bain under Mr. Romney is some wins (companies that did well in the long run) and some losses (companies that went out of business).  It is easy to see how Bain could make money on the successful businesses.  After all, what companies like Bain say they do is to buy badly run companies, fix them, and sell them at a profit.  If the do that then they have earned their profit.  But as far as I can tell, Bain also made money, frequently a lot of money (hundreds of millions of dollars in several cases) on deals where the company failed completely within a few years of Bain coming in.  I know of no cases (please correct me if you know otherwise) where Bain lost substantial amounts of money on any of these deals.  So Bain was not operating as a capitalist operation because it was not putting any money at risk while Mitt was running things.

But then there's Mitt's personal situation.  He was very reluctant to take the job of running Bain Capital.  Eventually Bain & Co. put together a special deal.  Bain & Co. would run a paper exercise where they pretended that Mitt continued on as a regular employee of Bain &Co. and continued to be successful.  They would award (on paper) the usual raises, bonuses, and promotions.  Then if Bain Capital failed they would take him back as a Bain & Co. employee.  They would give him the job title the paper Mitt now had.  They would give him the salary that paper Mitt had.  They would look at his compensation at Bain Capital and compare it to the compensation paper Mitt had earned and award him a bonus sufficient to make up the difference.  In short Mitt took no risk.  If things worked out at Bain Capital then all well and good.  If they did not then he would end up back at Bain & Co.  and be "made whole" for any losses.

Bain Capital turned out to make a lot of money for Mitt and for its investors.  The process of pulling money out of some companies definitely turned what could have been a going concern had it been run for the long term and had it not lost all the money paid to Bain as fees and dividends.  So the employees and others who lost out when these companies were effectively driven out of business were definite losers.  Whether the totality of all the Bain deals is a plus or a minus, I don't know.  But Mitt Romney made a lot of money and there was no personal risk to Mr. Romney nor to the investors that backed Bain.  So the whole thing was NOT a capitalist operation.

I think the reason so many people resent Mr. Romney is because he made a lot of money out of a risk free enterprise that benefited a very small number of people.  I now want to expend my view to encompass two other groups that share these characteristics.  Namely, we have a situation where a small number of people make fantastic amounts of money without engaging in any risks.

The first group I want to focus on is Hedge Fund managers.  Hedge Funds can serve a beneficial purpose.  A Hedge Fund may make an investment that others shy away from because it appears to be too risky.  But sometimes these investments can pay off in a very big way.  And it may turn out that the investment creates something (typically a company) that may be very beneficial to society as a whole.  So the problem is not with the idea of Hedge Funds.  It's with how Hedge Fund managers are paid.  Typically Hedge Fund managers are paid a salary.  This salary is small by current Wall Street standards (hundreds of thousands of dollars, perhaps a few millions of dollars) but it is large when compared to the salary of the average person (the median U.S. salary is a little over 40 thousand dollars).  That's not the problem.  The salary is in line with the skill level necessary to successfully run a Hedge Fund.  The problem is with the bonus system.

Typically Hedge Fund managers are paid 20% of the profits of the Hedge Fund as a bonus.  This has resulted in multi-billion dollar payouts in some cases.  This makes some sense in the case of a successful Hedge Fund.  You can certainly argue that 20% is too much but in principle some percentage of the profits seems a reasonable way to go.  The problem is with what happens if the Hedge Fund loses money.  In this case nothing happens.  The Hedge Fund manager never has to pay anything back.  So if the Hedge Fund does badly then the Hedge Fund manager does OK.  If the Hedge Fund does well then the Hedge Fund manager does well, sometimes very well.  So here again we have a situation where a small group of people can and usually do do very well while undertaking no risk.  Again, the Hedge Fund managers are not capitalists.

Let me move on to my final group, senior executives at large corporations.  Here the situation in detail is much more complicated than in the case of Hedge Fund managers.  Just exactly how much a senior executive is paid in a given year may take a team of accountants weeks to figure out.  But the general idea is the same.  The executive receives a base compensation package.  This is money he gets regardless of how well the company does.  Then there are the "performance" components.  Theoretically these depend on how the company does.  But some of them are rigged to be easy to hit.  And what happens if the company does badly?  The worst thing that happens is that nothing happens.  The executive is never required to give anything back.  And frequently the board of the company will have pity on the executive and award him a bonus even if the company does badly.  So again these executives are not capitalists because for them personally there is nothing at risk.

Many people have observed that these "high potential upside benefit - non-existent downside cost" situations lead to risky behavior.  If nothing bad is going to happen to me personally why not take a flier on some risky deal that might pay off big?  These situations encourage excess risky behavior.    And there is a problem that commentators do not mention.  If nothing is going to happen to me if bad things happen they why should I do "due diligence" to make sure nothing bad actually happens?  The answer is that in this situation "due diligence" is a waste of my time.

One of many contributors to the Wall Street meltdown was a lack of due diligence on the part of many highly paid people.  Highly paid executives and traders were expected to deliver results.  The theory was that if the "trades" many firms engaged in went bad then there were ways to keep the losses small.  No one increased their bonus by questioning this assumption.  Nor did anyone increase his bonus by questioning whether the "safe" ratings of the underlying securities were accurate.  Further, they were in positions where if something did go wrong they would not personally lose any money.  There were other contributing factors to the Wall Street meltdown but the people with the most power were also the people who were encouraged by their compensation system to look the other way (and encourage others like ratings agencies and regulators to look the other way too) and knew they could safely do so.

Some people call the activities of Bain Capital "Vulture Capitalism".  To the extent that Bain did not purchase a company because they thought they could turn it into a going concern rather than make a quick buck before the company went under then they deserve the term.  And you can look at the activities of the takeover company.  Do they do things like slashing R&D that harm the company's ability to be successful in the long term?  Do they pull out so much money in the form of fees and dividends that it leaves the company without sufficient working capital.  Do they raid the pension fund?  Do they do "short term gain at long term cost" things like sale and leaseback deals?  If they do then it is likely that are more interested in making a quick buck then in actually helping the company.

It is clear that a number of deals done by Bain Capital under the leadership of Mr. Romney fell into the Vulture category.  As such the general dislike and distrust of him by a large segemnt of the public is completely justified.  As is also the general dislike and distrust of Hedge Fund managers and many senior executives of large companies.  It is hard to make money.  It is very hard to make a lot of money.  But people like or dislike people who have made a lot of money not based on how much money they have made but on how they went about making that money.  There are few people more generally beloved by the general public than Warren Buffett.  And he is worth tens of billions of dollars.  And he was beloved well before he announced he was going to give almost all of it away. 

The Wrong Bra

I was watching one of those "afternoon" shows the other day and they had a "Bra Lady" on. She claimed that 85% of women wear the wrong bra. That's actually better than the old statistic that I have often seen repeated that 90% of all women wear the wrong bra. Let's say that one of these statistics is true. If so then 85-90% of women are too dumb to figure out what bra is right for them. That's one interpretation and not the one I subscribe to. What I really think is that this "statistic" or "fact" or whatever it is is just a way to sell more bras or more expensive bras to women. Because the statistic is always accompanied by a "bra fit expert" and I figure the real job of the "bra fit expert" is sales.

Now I am going to weigh in on all this. And as a guy who doesn't work in the foundation industry and who has never bought a bra for any purpose you would think that I have no expertise in this area. But I make two claims. First, I have spent some time studying the problem (e.g. by observing women, braed and braless). And secondly, I have an engineer's perspective. And I contend that there are some serious engineering issues involved.

I am old enough to have started my researches in the pre-silicone era. I remember exploring a large cache of Playboy magazines (we'll skip over how I came in contact with this cache in the interests of brevity) in my callow youth. This allowed me to carefully study a large number of centerfolds side by side. Now all these young ladies had large breasts and, this being in the pre-silicone era, they were all natural. What I observed that is germane to this discussion is that these breasts came in different shapes. There was one young lady in particular who had what I would characterize as "banana breasts". They were large. But they were not hemispherical. They protruded a considerable distance but they stuck out more than they should have in proportion to their diameter. They also had a certain amount of curvature. In this case they curved up somewhat. Hence my characterization of them as "banana breasts". In other women their breasts protruded less and had a greater diameter then the banana breasts. And, scanning down from the top, some breasts start high on the chest and slope out gradually whereas others start lower on the chest and have a more abrupt transition from chest to breast. In short, the breasts on display in these Playboy magazines displayed considerable variation in their shape. This is the kind of thing you notice when you apply the engineer's perspective to the problem.

Now most women are not full enough to be Playboy material. But the same conclusion applies. There is a lot of variation in the shape of breasts, even in "flat chested" women. In extreme cases there seems to be nothing there but chest and perhaps a little nipple. Other women have "pancake" breasts. They cover a lot of area but do not protrude much. (This is actually the ideal shape from a strictly structural engineering perspective.) And then some women have breasts that are not the same size, one breast is noticeably larger than the other. As far as I can tell the general shape of each breast is pretty much the same but the size can differ significantly.

Now let's talk about the perfect breast. There actually is one if you look at the design of most bras and at what our culture pushes. Here it is. Take a flat chest as a starting point. Now take a grapefruit and cut it in half. Attach each half to the chest a little under the arm pits and separated by an inch or two. A few decades ago you would now be done at this point because we were all supposed to pretend that breasts did not have nipples on them. Times have changed so we have to now factor them in. But here too there is an ideal. In this case the nipples must be at the "pole point", what would have been the top or bottom of the grapefruit before we cut it in half. And they should point straight out. They should point neither up nor down and neither left nor right. There seems to no clear consensus on how large nipples should be. Some like them larger and some smaller. This is the sole parameter where two women may have an attribute that differs and still both have perfect breasts.

Now that we have defined the perfect breast we can determine what the purpose of a bra is. The purpose of a bra is to take what a woman actually has and make it look like she has perfect breasts. That, anyhow is the best we can do to come up with a criterion for whether a bra is "right" or not. If the woman wearing the bra has what appears to be perfect breasts then she is wearing the right bra. Otherwise, she is a dumb bunny who has committed the great sin of "wearing the wrong bra". I contend that this is the conventional wisdom on the subject. Any you have probably figured out by now that I hold this particular version of conventional wisdom in low esteem. But let's soldier on a little longer first.

To select the right bra a woman is supposed to take two measurements. First she measures the diameter of her chest just below her breasts. The second measurement consists of again measuring the diameter of her chest. But this time she does it at the fullest part of her breasts. Then for some odd reason she is supposed to subtract two inches from the second measurement. So, for instance her first measurement might yield 34" and the second measurement might yield 38". We subtract 2" from the second measurement to get 36" and we are done. But actually we are not. You can't find a 36x34 (or 34x36) bra. There is a number associated with bra sizes and it is supposed to match the first measurement. So in our case we should get a "34" bra. But the other part of the bra size is a letter. What's the deal there? As far as I can tell the letter indicates the difference between the second measurement and the first. So what we really should do is take the second measurement and subtract it from the first. In our case that would give us 38-34=4. Then we subtract an additional 2 (why? because we are supposed to) leaving us with 2. Then I presume we have a table, e.g. A=1, B=2, C=3, etc. So our example lady should get a 34B bra confident that it is the right bra. Oh, really?

This second measurement is included in each issue of Playboy as the first of the centerfold's "statistics". 38, 24, 36 (typical measurements for the women in question) would be interpreted as the bust (breasts at fullest point - second measurement) waist and hips measurements. And 38, 24, 36 are typical measurements for "busty" girls, exactly the kind of girl who is considered prime centerfold material. But "A" cups are for "flat chested" girls, "B" cups are for girls with something there but not enough to get excited above, "C" cup girls would be "nicely rounded", "D" and up cup girls would be "full figured". Girls who are not full figured do not make it into Playboy centerfolds. So it is safe to say that a centerfold girl should be wearing at least a "C" cup and more likely a "D" or larger. So maybe the table is A=0, B=1, C=2, etc. This would at least put our girl into a "C" cup.

But the situation is actually worse yet. How do we take the second measurement. Let's take as our example here a woman who is somewhere between flat chested and full figure and a little closer to flat chested than full figured. Short hand for all this is the presumed cup size. So what I have in mind is a "B" cup girl. Now this girl might be a seventeen year old in the full flower of her youth with nice firm breasts. We can imagine her taking this "second" measurement wearing no bra at all.  Here we would expect a reasonable result.  Now fast forward to fifty years later. Some women's breast shape, their "perkiness", holds up well over time. But other women's breasts head south, way south. Their breasts elongate dramatically and droop accordingly. (As far as I can tell the different outcome is more a result of genetics than anything else.) In any case we are talking the same woman so she should measure out the same. But now the fullest part of her chest is not nearly as full as it had been in her youth. So now her "B" becomes an "A" if we are just going by the formula, whatever it is. I have seen one source recommend that the measurement be done while wearing a properly fitting bra. But this is a prime example of circular reasoning. We need the proper bra in order to take the measurement necessary to determine which is the proper bra. I think I have convinced you by now that the standard method of measuring to select a bra is a joke. So what do I suggest as an alternative?

Well that will take more digression. But before taking that digression let me say that the first measurement actually has some usefulness. Bras are complicated garments. But for the purposes of this discussion I will pretend that they consist of only three components: the band, the cups, and the straps. The first measurement is useful for getting the band size correct. OK, now to the (hopefully final) digression.

What is the purpose of the bra? What function is it supposed to perform? I indicated that the standard answer to these questions is "to turn the actual shape of a woman's breasts into that perfect half grapefruit shape". Now I think that for some times and for some women that is the correct answer. But in a lot of cases a different answer is more correct. The creation of the sport bra indicates that some of the time the bra's function is to support and contain the breasts so that the woman can engage in active athletic endeavors. Here generally a bra should squash the breasts close to the chest and constrain their movement. Hemispherical shape is not important. I once had a busty girlfriend who found active exercise painful because her breasts bounced around too much. This was before sport bras became generally available. Had she known of a sport bra option I believe she could have performed the same activity (jogging) safely and comfortably.

Bras to enable athletic activity is just the simplest example. Small girls want their bras to make them look bigger. Big girls often want their bras to make them look smaller. One bra used to be marketed for its ability to "lift and separate". Women with larger breasts often find that their breasts mash together. They would like their bras to create a gap between their breasts. Women with smaller breasts know that pushing their breasts toward each other generates the impression of "cleavage" which generates the impression that their breasts are larger than they actually are. Some women have nipples that naturally point down and out. They would like their bras to make their nipples point straight out and straight ahead. Women sometimes wear tops that have a scoop neck. In this case it helps if the straps are farther apart. Women sometimes wear "choker" styles that leave the shoulders bare so they want the straps closer together. All straps used to be straight up and down in the back. Now straps can also do a cross over or merge into a single central strap that goes down the spine rather than over the collar bones. Given all the different things a woman might want to do she now needs many different bras that have many different attributes. So there is no longer one single perfect bra for an individual. So part of figuring out what the right bra is now involves figuring out what situation the bra will be used in.

There are also limits to what a bra can do. If a woman is literally flat chested I suppose you could go with an "all padding" bra to achieve the perfect grapefruit contour. But if a woman has truly large breasts a bra can't shrink them to grapefruit size. Only a bust reduction operation can do that. And then there's the comfort factor. If you have banana breasts a bra can squish things around to give you a grapefruit (or perhaps a cantaloupe) profile but it may be uncomfortable. And breasts aren't always in the same place on all women. Some are higher or lower than the standard. A bra can provide a certain amount of lift but this pertains to the projecting part of the breast. A bra can not lift the place the breast attaches to the chest. So what can a bra do?

It may be that a bra is not required at all. If a woman does not sag because she has pancake breasts a bra performs no functional (e.g. engineering) purpose. Here the purpose of a bra might be to improve sexiness. The standard idea is to make your breasts appear larger or to increase their projection. But perhaps the alternate strategy of no bra at all might be a more effective method of achieving sexiness. And its cheaper and possibly more comfortable. Surprisingly, there is another group of women for which the right bra might be no bra. That's women with breast implants. Ideally these will have a natural look and feel. But frequently scar tissue builds up that immobilizes the breasts. In this case we have large breasts that are also self supporting. If the bra is there for support then the bra is unnecessary.

Most women are not flat chested but they can be accurately described as "modestly endowed". This is the situation where a bra can be most effective. For many of these women their breasts never do sag much. For those who are less lucky a bra can be very effective at desagging, at restoring that youthful profile. Sag can also be uncomfortable. So desagging may also improve comfort. From an engineering point of view, it's all about forces. This means the weight of the breast material is what matters. And the weight depends on the volume. Here we are dealing with relatively modest volumes and thus relatively modest weights and thus relatively modest forces. For this woman the bra doesn't have to provide much force to effectively reduce sag. A woman might want her breasts to be pushed together to increase "cleavage". Again only a modest amount of force is required to do this.

From an engineering point of view the band provides the anchor. More height in the band provides more area for the force to work against. In the case of modestly endowed women the necessary forces are modest and the band can be relatively narrow.  The more full the figure the more substantial the band needs to be. It turns out to be a mistake to use the straps to apply much force. The cups are shaped appropriately to do the work and firmly attached to the band. This should get the job done. The straps should mostly be used to hold the bra in place so they can be narrow and snug rather than tight, regardless of the degree of endowment. Properly adjusted they should therefore be comfortable.

A key component is the under wire. In the case of modestly endowed women an under wire should not be necessary in most cases. This makes it less important that the shape of the cups match the shape of the breasts. So in a lot of cases any old bra will work. The most important attribute is band size. Then the cups must be shaped to perform the desired function (e.g. desag, push the breasts together to generate cleavage, etc.) The standard bra measurements address band size but do not address cup shape. So the only solutions are: (a) a good eye, (b) trying bras on till you find the right one, or (c) consult a professional fitter. Note that if you select option (c) studies have shown that most fitters aren't very good. I think this is because they are just people hired to work in the foundation department who have received little or no training and are not tested.

As we move on to bustier women the work a bra needs to do goes up quickly. As indicated above the forces involved are related to the volume. If we increase the band size by 10% we increase the volume by over 30%. But projection is the killer. Breasts that project 2" have twice the volume of breasts that project 1". Centerfolds can easily have breasts that project 6". This means that breasts of more than modest size and even small amounts of sag that needs to be remedied usually require an under wire. The under wire is needed for engineering reasons. The fabric will not hold its shape without the under wire. If it can't hold its shape then it can't push and pull in the right direction to perform its function.

Now if a bra has an under wire the shape of the under wire is critical. It needs to exactly follow the boundary between the chest and the breast. But as noted above breast shape is highly variable. No one pays attention to under wire shape. So you can't tell if a bra has under wires with the correct shape without looking at the bra and perhaps taking some measurements. The under wire shape is determined by the shape of the cutout in the band. It is critical that this be correct. But it is not the whole story. Once the bra has the right under wire shape then to work correctly it must have the right cup shape. The right cup shape depends on what the bra needs to do.

If it is as sport bra then the cups should be relatively shallow and probably higher than normal. This allows them to flatten and contain the breasts. Note: under wires can be omitted in sport bras designed for larger breasts than with other designs due to the fact that flattening and containment can be achieved more easily with just fabric than other objectives. If an objective is to squish the breasts together then the cup should be shallower on the outside side and deeper on the inside side than in the normal situation. If desagging is important then the cup should be shallower on the bottom than in the normal case.

How much of the breast should be covered depends on function. In the normal case the bottom two thirds to three quarters of the breast should be covered. Bra makers cut their products to be used in this way. If the entire breast is covered then the bra is the wrong size. But the objective may be to display a lot of flesh. This usually means a bra with the straps moved toward the outside. If the plan is to display the tops of the breasts then the straps should be moved to the very outside of the cups and the cup material should be even from side to side. None of this impedes the bra from performing a desag function. But if the idea is to display a lot of cleavage then a different approach is necessary. Here the straps are moved to the outside but less so than in the previous case. Here the cup is cut so that it covers more of the breast on the outside than on the inside. This makes desag more difficult and pushes the breasts together whether that is a desired effect or not. In all these cases, the overall size of the cup should be such that the breasts do not bulge over the top of the bra (cups too small) nor should the bra tend to sag away from the breast (cups too big).

More extreme designs are possible. If all that is desired is desag then only the bottom 30-40% of the breast needs to be covered. The nipple can be completely exposed. These designs are usually referred to as half cup or quarter cup designs. Even more extreme designs are possible (e.g. near 100% exposure) if no desag is required. These designs are sometimes referred to as "open cup" designs. These extreme designs do not permit the breasts to be squashed together and provide a limited ability to re-point the nipples.

The way "and separate" is achieved is to put band material between the cups. The width of the band material between the cups must be close to the actual separation of the breasts of larger breasts. More separation is possible to achieve in the case of smaller breasts.

Larger breasts require more parameters (e.g. cup shape, separation distance between the cups, etc.) to be correct in order for the bra to function properly. Unfortunately, the actual values few if any of these parameters can be determined except by actually examining the bra. The solution, if you are a full figures girl, and if you have a lot of money, is to get your bras custom made by someone who knows what they are doing. A solution that often works is to find a bra brand and style and size that works and stick with that. Unfortunately, even this does not guarantee that each bra will be the same size and shape.

So if you hear someone going on about how 85% or 90% of women are wearing the wrong bra, hold on to your wallet.  They are probably trying to sell you some new bras.  Of course, they may also be trying to sell you a book.  If you think you are wearing the wrong bra read this post.  Even if you are confident you are wearing the right bra, read this post.  You might decide you were wrong.  Even if you decide you got it right in the first place the post is fun and I'm not trying to sell you anything.  Only if it doesn't tell you what you need to know to find the right bra and only if you can find a bra fitter that actually knows what she (it's always a she) is talking about does it make sense to put yourself in her hands.  As a free extra bonus you can use the contents of this post to test her to make sure she actually does know what she is talking about.