Ben has asked me to describe our approach to investing in community development. I began working on our community investing program when I joined Benchmark last August, and almost a dozen investments later it is exciting to see how our approach has developed. From the start we knew that we wanted to apply the principles of asset allocation and diversification to community investing. As I researched the different types of community development organizations and investment products, our strategy continued to take shape and a theme emerged for our investments: unique stories.

The community development organizations that we invest in are all unique stories – they are innovators and leaders in a variety of fields, often addressing niches of need that were overlooked before these organizations stepped in. Part of their work is usually technical assistance for other organizations that want to replicate their model, or for governments who can further leverage their expertise in community development.

This approach not only focuses our investments on the leading edge of community development, it also allows full diversification while providing reasonable constraints for the number of investments. Our community investments are diversified not only by their quantity and geographical distribution, but also by the size of organizations, the scope of operations, and the area of social impact. The limited number of investments allows us to develop relationships with investees. This helps us to a better understand how our investments are being used and what risks we are taking on, and it also leads to identifying new ways of working with investees to leverage each other’s resources and achieve higher social impact.

A highlight of this relationship-building was a trip I took to Nicaragua to visit the operations of Sostenica/CEPRODEL, a partnership between a loan fund and a microfinance institution and one of our investees. In a whirlwind 4-day visit hosted by Sostenica’s founder and CEPRODEL’s Director of Credit, I visited several urban and rural borrowers, spoke with loan officers, and got to know Sostenica’s Board of Directors. Discussing the barriers to Nicaraguan economic development and the role of microfinance with borrowers was a powerful and enlightening experience. Witnessing the impact of community investments and learning about CEPRODEL’s credit policy from loan officers enriched my confidence in Sostenica/CEPRODEL and my appreciation of Benchmark’s connection with the people who put our investments to work. This trip truly contributed to the quality of our investment, and we hope to take advantage of opportunities to deepen our relationships with other investees in the future.

Developing our community investment program continues to be fascinating, engaging and fulfilling work. I am excited to further explore community development organizations and see how our program matures moving forward.

It has been almost a year since my partner doubted something I blogged about the emergence of private equity stock markets and I began sulking that no one believed me (it turned out to be very true...).

Then I couldn't find a way to blog without bragging that all the things Sam and I saw coming were in fact happening. Now, a year later I'm glad to be able to say that the approach we have taken is not only vindicated with positive 1st and second quarters, but even being touted by others as the strategy of the future. James Montier in his new book Behavioral Investing says the following: "Rather than having endless numbers of specialist managers, each charging a fee,surely it would be better to have one manager and pay one fee,but allow that manager freedom to invest wherever the opportunities lie (p 244)." He goes on to speak about the importance of shorting rather than being tied for some abstract reason to benchmarks (ie indices which track the rising and falling markets). We are especially enthusiastic about the overlays we have designed to benefit in a continuing sideways market such as deep out of the money puts and our hedged equity pool which invests heavily in our screened indices when the market is down and divests and hedges below the market when it is up.

I'd love our analyst Keely Byrne to pick up where I left off last year, to describe the Community Impact pool that is now a reality...

Talk in the financial media about the growing CDS (credit default swaps) problem has just begun.

This may be new to you but it is a growing story and a huge risk that is not well understood.

A CDS is a contract between the holder of a risky asset (say a portfolio of sub-prime loans, credit cards, etc) and a financial entity willing to guaranteee that risky asset against default. Very similar to insurance policies except that there is no regulation and unless the protection buyer has done her homework there may not be adequate collateral to insure the risk.

A Wall Street Investment bank builds a portfolio of sub-prime debt and then buys this insurance from a hedge fund through the issuance of a derivative contract - a CDS. The protection buyer (Wall Street Bank) pays a monthly premium to the Protection Seller (hedge fund) and all is well until a default occurs (much more common now than two years ago). In default, the protection buyer excercises her claim and the protection seller is forced to ante up the loss. The hedge fund or [protection seller is called the counter party. And therein lies the problem.

If the hedge fund or other counter-party is unable to meet its obligation when a default occurs it creates a significant problem in the financial system. This situation is the current risk we face. Some have estimated that there are 3 CDS contracts written for every package of sub-prime loans! The CDS default problem may dwarf what we have already seen. Stay tuned.

OSF
January 14, 2007

It’s 2008. Add sideways and you get 10 add again and you get 1. This is an occult numerologists way to extract meaning from numbers. One is a year of beginning, wholeness, unity, individuality (as paradoxical as this may seem), and synthesis.

My New Year’s resolution is to resolve to do “what I ought, do what I resolve,” to quote Ben Franklin’s ultimate virtue. So first I am resolving to write more and connect more with those like-minded cultural creatives who are not looking to maintain the status quo, who are guided by spiritual thinking, and who believe we are all responsible for the future together. Since I can’t get direct feedback on this site, I have started a freer blog called Ben’sBenchmark on Google. Social Networking continues to flourish and change what is possible. It has initiated new freedoms along with less privacy. How will this dynamic play out? We shall see.

It is said that we often can only see the tip of an iceberg - the bulk of the thing is invisible underwater.

Perhaps we can use an iceberg as analogy for the current credit problems?

We have long blogged here that a transition from spending to saving would arrive someday in the US - while always acknowledging that we did not know when. It seems that we are here as the US economy has just run into an iceberg in the form of declining credit avaialbility.

I know, you are still getting Capitol One credit card solicitations in the mail. That is not the point.

Banks are being forced to write down the value of their assets because of the credit debacle. Lower assets leads to lower equity leads to a smaller loan book. This is a given because regulations require banks to maintain minimum ratios of loans to eauity. Banks have circumvented these rules in recent times by investing in off balance sheet vehicles called Special Investment Vehicles (SIV's). This Enron-like activity is now coming back to bite them as many of the SIV's are no longer viable. Banks are being forced (and this will accelerate) to take back the bad investments these SIV's made (aka toxic waste) and reinstate them on their balance sheets at real market value - often 30% - 60% below face value. This in turn will reduce bank equity. Lower bank equity = less credit.

I have long wondered what crisis it would take to cause us as a nation to stop overspending. Now I know. Goldman Sachs estimates the current carnage might lead to a total reduction in credit of up to $2 Trillion (in the US economy). Ouch!

Seems likely our saving rate is about to spike.

OSF
December 4 2007

We have been following a "slow and steady wins the race" investment strategy for 2 years or more. In 2005 this paid off as our diversified portfolios outperformed US equities with a fraction of the risk. 2006 punished our conservative "bond heavy" stance as equities rallied sharply. Thus far in 2007 equities have underperformed bonds despite a sharp upturn in the second quarter. Our mix of short bonds and international bonds (benefitting from the falling dollar) has nicely balanced our underweight US equity /overweight international developed market equity position.

This is only the beginning however. From mid-2005 we have opined in this space that the coming fall in real estate prices would cause problems for US consumers who have spent more than they have earned for many years now. We did not forsee the problem created by the toxic waste known as CDO's (packages of sub-prime mortgages and/or other debt) which has been the trigger for this inevitable decline in real estate. Recent indicators have also suggested that the slowdown is beginning to have an impact on commercial real estate.

Will this real estate/consumer led recession be the wake-up call to the USA to live more modestly, save more aggressively and be better overall stewards of the earth's resources? Here's hoping! Our future prosperity depends on the answer being yes. It may be a painful transition. If we delay this move toward sanity however the pain will be temporarily delayed but ultimately intensified.

The Fed meets in two weeks to determine short term interest rate policy. They are in a bind. Illiquidity in credit and derivative markets threatens chaos. This suggests more easing and the continuing injection of money into the system to bail out the hedge fund specualtors and protect the US financial system. The problems created by past laxity in financial market regulation are becoming manifest. This bailout however also fuels future inflation and adds to dollar weakness.

Stay tuned. Sometime between now and 2009 we will know what choice has been made. Pain now followed by prosperity or delayed pain accompanied by major inflation and much, much more intense future pain. There are no fun choices here but the quick adjustment is the obvious choice - particularly if we assist those at the low end of the income scale to get though the difficulties to come.

OSF
November 24 2007

Over the past 20-30 years or longer we have been spending more than we make as a nation. Much of this spending has found its way into other assets, thereby representing investment (building asset values rather than outright consumption). In recent years the pace of this overspend has accelerated and the end use more often was for consumer goods and services that do not build wealth but rather diminish it.

The stock market boom of the nineties and the follow-on housing bubble has masked this trend by an increase in asset values. Meanwhile productive capacity and infrastructure has not kept pace. Incomes also have stagnated for most families in the US.

We will change our behavior. We must.

The long-term investment implications are profound. In short our annual spend rate of $1.06 (as reflected by our balance of payments) must decline to $0.94 if we our to fund our future growth and prosperity. The transition will be painful while the outcome should be renewed prosperity and perhaps more social equity.

One dimension of this change will be the adoption of “green” as a normal way of life. Choose any resource that we use everyday and ponder our wastefulness. Gasoline and water are the most obvious items that can be (and will be) conserved easily. Why do we not require that automobiles get at least 40 miles per gallon? The technology is in place, we need only use it. So too our use of water is wasteful. One need not think hard to get started on a solution. The greening of America is (and will continue) opening many new investment opportunities while penalizing those who ignore these imperatives.

Not only will we save more income, we will develop new ways to conserve resources.


OSF
October 15 2007

The Benchmark investment posture, slow and steady, served clients well in the third quarter of 2007. The wild ride and strong headline performance of the large cap indices masked the damage done to small caps and speculative investments.

We continue to be wary of the risks seen and unseen in the US and Global economy as well in the financial markets world-wide. More liquidity provided by central bankers does not cure insolvency, rather it allows many to overlook
the underlying fundamentals.

Consumer spending is weak again in September after good numbers in July and August. We believe a weak fourth quarter is a strong possibility. We also think that a recession may have begun in August/September or at least a period
of no-growth. We retain our cautious investment stance. Broadly diversified portfolios did relatively better than stock-heavy portfolios in the period, and we continue to think that will be true off and on until fundamentals improve.

OSF
October 10, 2007

Ones daily life has a way of making you feel very small and at times inconsequential. Then there are days when your head is above the fray and you see that you can make a difference.

Just this Monday I had an opportunity to become part of something bigger. I participated with other members of my profession in a “lobbying” day on Capitol Hill. The issue at hand was whether the SEC will no longer allow shareholders of publicly traded companies to nominate board members. During the past year there has been a push to limit the nomination process to company managers only, and just allow shareholders the right to vote for the management’s candidate. A style of election that an article in today’s LA Times called “soviet style”!

During our day on the Hill organized by the Social Investment Forum (www.socialinvest.org), we largely met with staff of the House Financial Services and Senate Banking Committees (unfortunately, you rarely get to see the actual representatives or senators). We emphasized how more people own public equities than ever before through retirement plans and mutual funds, and this new “ownership society”, to borrow a phrase from the Bush administration, had the right to be true owners; not just rubberstamp voters.

Our visits did seem to help. The house will be holding hearings on this matter this week (Thursday September 27th) and hearing our point of views was timely. I believe that congress and the senate now realize that this is not just some policy wonk discussion, but a matter that affects most people in this country.

To learn more, go to the Social Investment Forum website. And more importantly, if you want to offer your opinion, call your representative and senator. They need to hear from you.

John Campagna
09272007

Much reporting this week on housing.

Home builder earnings along with existing home sales likely will change the perception of the US economy to a "glass half empty" from the more optimistic view. Job cuts in home construction are accelerating and confidence is low.

Are we already in recession?

OSF Sept 25 2007