The auto industry’s recent troubles have shoved normally secretive private equity firm Cerberus Capital into the spotlight, as its portfolio company, Chrysler, heads to Washington to ask for a bailout. Much has been written decrying Chrysler’s audacity, claiming Chrysler is less deserving than Ford or GM because it is privately held, or with headlines like “If Cerberus will not invest further in Chrysler, why should the taxpayers?”

I strongly disagree with this argument, and the general one that just because Chrysler is not public, it is less deserving of a bailout than Ford and GM. You may be surprised at the actual ownership of Ford and GM – the majority of their shares are held by investment houses similar to Cerberus.71% of Ford’s outstanding equity is institutionally owned, and in addition, 40% of its voting rights are controlled by the Ford family. GM is 78% institutionally owned.

Also, why is the public not aghast that Ford and GM cannot raise additional equity from their existing shareholders? If Ford and GM cannot float additional equity on the public market, why should the taxpayer invest? The answer is that none of the Big 3 can raise additional equity because their market cost of capital is astronomical. This is why the government has to step in – neither the private nor public markets are willing to make any sort of further bet on these companies.

In addition, Cerberus has agreed to forfeit any profit it may make on its Chrysler investment if it receives government money. Ford and GM’s public shareholders have clearly made no such promise.

To be clear – I am in no way in favor of a bailout for any of the Big 3. These are sick companies, and they need to die. However, discriminating against Chrysler because they are privately held is really inappropriate.

I had an amazing experience tonight on Facebook that I thought I would share.

Barack Obama is coming to Wake Forest tomorrow. Limited tickets were available for free on a first come, first serve basis to the student body. Unfortunately, I wasn’t quick enough, and didn’t get a ticket, and neither did my two roommates. After four years at Wake, I’ve missed the chance to see a number of big name political speakers, and I wanted to make sure I got to see at least one before graduation.

I tried emailing my fraternity’s listserv to see if anyone had any extra tickets they weren’t using – no luck. I emailed the president of the campus College Democrats – no tickets left, the event is sold out. However, I was determined to get a ticket, so I turned to the best medium I knew to contact as many college students as possible – Facebook.

At 11pm tonight, approximately 10 hours before the doors were scheduled to open for Obama’s speech, I created a Facebook ad offering $25 to anyone with extra tickets. I was easily able to target it to all students at Wake Forest (though I could have customized it further – by interests, class year, major, and many other criteria). I chose to pay per click, and set a maximum budget of $5. After I pressed “Create my ad”, it was a matter of minutes before Facebook had shown my ad over 6,000 times. Within the hour, I received messages from 4 separate people offering to sell me their tickets. The entire thing cost me $4.97 – that’s only about 8/100ths of a cent per impression. (As a side note – this is incredibly low as far as online advertising goes – a problem for Facebook that has been mentioned before as one of their biggest weaknesses)

Tomorrow morning both of my roommates and I will see Barack Obama speak in a sold out coliseum that I didn’t even have tickets to until less than 10 hours before the event.

Now that’s the power of the internet and social networks – and it’s those kinds of results and precise targeting that make Facebook worth $15 billion (though I do think that’s a bit high, considering their monetization difficulties).

As the presidential elections approach, we’re hearing more and more (especially from the Democrats) about raising or eliminating wage caps for social security taxes (as a side note – this would represent the largest tax hike in American history), repealing President Bush’s tax cuts for the rich, or other various plans that would further increase taxes on the top 25% of American wage earners.

I was forwarded the following parable, written by David R. Kamerschen, Ph.D. Professor of Economics at the University of Georgia entitled “Barstool Economics”. I think that while it is a bit simplistic, it is definitely timely and interesting.

Suppose that every day, ten men go out for beer and the bill for all ten comes to $100. If they paid their bill the way we pay our taxes, it would go something like this:

The first four men (the poorest) would pay nothing.
The fifth would pay $1.
The sixth would pay $3.
The seventh would pay $7.
The eighth would pay $12.
The ninth would pay $18.
The tenth man (the richest) would pay $59.

So, that’s what they decided to do.

The ten men drank in the bar every day and seemed quite happy with the arrangement, until on day, the owner threw them a curve. “Since you are all such good customers,” he said, “I’m going to reduce the cost of your daily beer by $20.” Drinks for the ten now cost just $80.

The group still wanted to pay their bill the way we pay our taxes so the first four men were unaffected. They would still drink for free. But what about the other six men – the paying customers? How could they divide the $20 windfall so that everyone would get his ‘fair share?’

They realized that $20 divided by six is $3.33. But if they subtracted that from everybody’s share, then the fifth man and the sixth man would each end up being paid to drink his beer. So, the bar owner suggested that it would be fair to reduce each man’s bill by roughly the same amount, and he proceeded to work out the amounts each should pay.

And so:

The fifth man, like the first four, now paid nothing (100% savings).
The sixth now paid $2 instead of $3 (33% savings).
The seventh now pay $5 instead of $7 (28% savings).
The eighth now paid $9 instead of $12 (25% savings).
The ninth now paid $14 instead of $18 (22% savings).
The tenth now paid $49 instead of $59 (16% savings).

Each of the six was better off than before. And the first four continued to drink for free. But once outside the restaurant, the men began to compare their savings.

“I only got a dollar out of the $20,” declared the sixth man. He pointed to the tenth man – “but he got $10!” “Yeah, that’s right,” exclaimed the fifth man. “I only saved a dollar, too. It’s unfair that he got ten times more than I!”

“That’s true!!” shouted the seventh man. “Why should he get $10 back when I got only two, the wealthy get all the breaks?”

“Wait a minute,” yelled the first four men in unison. “We didn’t get anything at all. The system exploits the poor!”

The nine men surrounded the tenth and beat him up.

The next night the tenth man didn’t show up for drinks, so the nine sat down and had beers without him. But when it came time to pay the bill, they discovered something important. They didn’t have enough money between all of them for even half of the bill!

And that, boys and girls, journalists and college professors, is how our tax system works. The people who pay the highest taxes get the most benefit from a tax reduction. Tax them too much, attack them for being wealthy, and they just may not show up anymore. In fact, they might start drinking overseas where the atmosphere is somewhat friendlier or not reinvest in the community.

Just some food for thought…

The effects of the subprime mortgage crisis are all over the news – foreclosures are up, the stock market is down, investment banks are failing, and politicians are making empty promises to fix the problem.

But how did we get here? Why are people defaulting on their mortgage payments? And what effect does this have on the markets and economy?

The explanation begins with a description of a special kind of loan employed by many homeowners with less than perfect credit, or those that may be borrowing more than they can afford – an adjustable rate mortgage (ARM). These mortgages often come with a low introductory “teaser rate” that makes the loan seem cheap. However, after a certain period of time, the loan’s interest rate “resets” to a much higher rate (often higher than the borrower can afford to pay).

So why would a borrower agree to an adjustable rate mortgage, knowing that the higher rate is more than they are able to afford? Many times, these loans are made to people with poor credit, and are the only kind of loan they can get. They’ll often take a short-term view and sign the loan, hoping to be able to refinance before the higher interest rate takes effect.

Another major contributing factor has been the United States housing bubble. In 2005, home prices were higher than they’d ever been, and seemed to have nowhere to go but up, having experienced price appreciation of 10% or more in each of the previous 4 years. Real estate was the hot, “sure thing” investment. Home buyers had no problem signing an ARM, because they assumed that as the price of their home continued to rise, they could either refinance or flip the house before the higher interest rates kicked in.

Just one problem – bubbles burst. By 2006, housing prices had peaked. Throughout the year, they corrected downward, and by the end of the year, had experienced double digit declines in some markets.

By this time, all those ARMs signed in 2005 are beginning to “reset” to much higher interest rates – often more than doubling peoples monthly payments. Faced with payments far too high for their budgets, people normally would sell the house and “buyout” the mortgage with the proceeds. However, real estate prices are substantially lower than they were in 2005 – meaning that selling the home would not net nearly enough to cover the amount of the mortgage it was purchased with (at inflated 2005 prices). So, unable to meet their monthly payments, and unable to sell their homes for enough to buyout their mortgages, this leaves the homeowners only one option – default.

When homeowners default on their loans, banks do the only thing they can to recover their money – seize the property pledged as collateral (the home). However, this does not solve the problem. Now the bank is stuck with a home that is a.) very illiquid, and b.) still not worth enough to cover the amount of the loan. So, the bank does the only thing it can – sells the house at auction, usually for a price far lower than what it is worth, in order to recover some of its money. This has the side effect of increasing the supply of houses on the market, which further depresses home prices, creating a vicious cycle.

Though banks have lost millions of dollars in the above manner, it pales in comparison to the billions lost in mortgage backed securities. What is a mortgage backed security? Once a bank has made thousands of mortgage loans, they often package up all the loans together and sell them to investors as bonds. Initially, everyone on Wall Street thought that these bonds were very safe investments (AAA rated, the highest possible) with very little risk of default. After all, home prices were on the rise, and the banks could always seize the valuable real estate collateral if people defaulted. Investors bought these mortgage backed securities by the billions of dollars. Soon however, the forces detailed above began to take effect. Real estate prices began to fall, and homeowners began to default in larger than expected numbers. Quickly, these mortgage backed securities didn’t look quite so safe any more.

As uncertainty about borrowers ability to repay spread across Wall Street, ratings agencies began to downgrade groups of mortgage backed securities (to AA or even lower) – officially indicating that they were now perceived as more risky by the investment community. On Wall Street, when all other things are unchanged, a safe investment is preferred to a risky one. Thus, the newly downgraded mortgage bonds suddenly fetched much less on the open market. Overnight, a bank that thought it was holding $100 billion in safe assets found that those same assets could only be sold for $75 billion – if they could find a buyer at all. As fears spread about just how risky these mortgage bonds might actually be, no investors wanted to touch them until the risks became clear. Because of this, the market for mortgage bonds dried up rapidly, casting the true value of the bonds into even further doubt – after all, if you can’t find a buyer for something, is it really worth anything at all?

So, in summary:

• The real estate bubble is bursting
• Homeowners across the country are stuck with mortgages they cannot afford
• Many are losing their homes as they cannot make their payments
• Banks have lost billions of dollars through defaults and writedowns on mortgage backed securities

I hope I’ve done a decent job of laying out the reasons behind the current crisis, as well as explaining to the uninitiated how they interacted to cause a large amount of pain for homeowners, mortgage lenders, and investors. Next time, I’ll stray from the purely objective and give my opinions on the predicament of homeowners (they’re getting what they deserve), as well as my thoughts on the proposed “bailout” plans by the leading presidential candidates (unfair, economically unsound, and socialist). Stay tuned.

WhoBook MOBI is a version of Highrise optimized for mobile phones. If you haven’t heard of Highrise, 37Signals’ dead simple CRM web app, you should check it out. Basically it’s an online contacts database, with support for notes about contacts (“Left him a voicemail Tuesday”), tasks (“Follow up with John”), and cases (for organizing multiple people on a project). There are tons of uses for Highrise – it’s used by many small business to keep track of customer relationships, and even by one local pastor to keep track of interactions with his congregation. I used Highrise extensively in my job search – as I interviewed at multiple companies, in multiple rounds, all those faces started to blend together. I had amassed a huge stack of business cards with short handwritten notes on the back. I needed a way to organize it all.

Enter Highrise. I spent two hours one day typing all those contacts into Highrise. Now I can search by name, by company, or even by industry (I’ve tagged all my contacts with the industry they work in). Highrise also keeps track of every email I’ve ever exchanged with that contact, as well as any notes that I’ve added to help me remember who they are (“John loves the Giants” or “Steve has red hair and looks like Ron Howard”). In fact, my story and use case has been featured on the 37Signals Product Blog.

I became so dependent on having my Highrise contacts that I soon realized the biggest shortcoming of the application: no mobile version. Luckily, Highrise has a robust API, so I was able to program exactly the mobile version that I needed to get my Highrise contacts onto my cell phone.

The result is WhoBook MOBI. It’s built specifically for Blackberry and older mobile phones with WAP-based browsers, and provides read-only access to your Highrise contacts. Simply search for their name, and you’ll get back their contact information (with one-click dialing on the phone numbers) as well as any notes you’ve written about them. In addition to the mobile web interface, WhoBook MOBI also has SMS support – send a text to 41411 in the form “WHOBOOK john” and you’ll receive a text back with John’s phone number(s).

WhoBook MOBI is free, unlike some other websites out there that do similar things. I’m also pretty sure that it’s the only way to access your Highrise contacts via SMS that exists. If you find it useful or have any feature requests, I’d really appreciate any feedback at feedback@whobook.mobi or in the comments here.

UPDATE 4/11/2010: Since I wrote this post, 37Signals has released an iPhone app for Highrise. The official app works great for those with iPhones, but if you’re in the 90% of mobile phone users who don’t own an iPhone, there is still no official Highrise mobile app for you. That’s where WhoBook MOBI comes in – it’s entirely text-based and optimized for the basic WAP browsing available on old school Blackberries and “regular” mobile phones. I’ve just done a scrub of the codebase and added a few new features, so check out WhoBook MOBI if you’re not a member of the iPhone crowd and want to access your Highrise contacts on the go.