Streetwise Professor

From day 1 of the Ebola episode in Dallas, the administration has been adamantly opposed to travel bans and quarantines, especially of health care workers who have been to West Africa. When New York and New Jersey implemented quarantines, the administration leaned on governors Cuomo and Christie very hard: Cuomo relented considerably. The administration argues that imposing restrictions on returnees from the Ebola-stricken region will impede efforts to control the outbreak there.

I’ve expressed skepticism about those arguments, but if you don’t give me any credence, what about the US Army?:

The U.S. general appointed to oversee America’s fight against Ebola in West Africa has been quarantined in Italy with at least 10 other Americans upon returning from the disease-stricken continent.

Major General Darryl A. Williams, who was appointed head of the U.S. command center in Liberia that coordinates the response to Ebola, was isolated along with several other Americans over the weekend, CNN reports.

The General’s “plane was met on the ground by Italian authorities ‘in full CDC gear,’” a U.S. official was quoted as telling CNN.

Williams and the others will now be monitored for 21 days at a U.S. military compound in Italy, according to the report.

To steal a phrase, the US military is pretty much the ultimate reality-based community–except when political pressure gets too hard to bear. But in most matters of life and death involving its areas of competence, the military doesn’t bend to political fashions, especially progressive ones. It balances risk and reward, based on its best understanding of the facts (which is often imperfect, admittedly) and decides accordingly.

So for the Army to decide, in the face of the obvious potential for fierce disagreement with the administration, that quarantine is the right thing to do, you can be pretty sure that decision is the result of a sober appraisal of the situation. Indeed, the willingness to buck administration preferences gives you an indication of the strength of the Army’s convictions.

The US military has always been more serious and squared away and apolitical with regards to biological and chemical threats. It should be assigned primary responsibility in dealing with the situation in the US too, but turf wars have ruled that out. (Hot Zone describes the turf fights between CDC and the Army during the Clinton administration during an episode involving infected monkeys in Virginia.)

The Army action is basically calling bull on the administration’s frantic anti-quarantine position. Between Dr. Barry and the US Army, I know whom I trust more.

That said, there are smart ways of doing a quarantine, and dumb ways. The measures initially adopted by New York and New Jersey seem to be  ham-fisted. The quarantined nurse in NJ has something of a legitimate beef (mixing meat metaphors!), although her claims that quarantines are totally unnecessary for returning health care workers comes off as entitled and clueless, especially given the infections of health care workers here in the US and Europe, and the large numbers of deaths among such workers in Africa. One would think that someone who is  selfless enough to risk contracting the disease in Africa would be willing to take prudent precautions to prevent it from spreading at home.

The Army way seems to be the right way. A special facility, outside the US, where those working in the afflicted region are quarantined  in a comfortable, secure facility before returning to the US.

@libertylynx pointed out to me that quarantine can be a financial burden and family hardship on aid workers, many of whom are missionaries without substantial financial resources. That problem is easily solved, as it involves only money, and not a lot at that. There is a way of balancing the need to attract people to West Africa to fight the disease, and limiting the possibility that they can spread the virus back to the states on their return.

Put differently, the cost of compensating the workers for the burdens of a quarantine pales in comparison with the cost of dealing with an outbreak in the US. Even if the probability that  returnee would spread the virus is small, given the huge cost of a US outbreak and the huge benefit of attracting workers to fight the disease the affected region, it is cheap at twice the price (or much more) to compensate them for the time and hardship a quarantine imposes. Pace Adam Smith: compensating differentials in action.

That said, the Army’s action speaks many volumes. It is saying that from a medical perspective, quarantine is a prudent measure. If the administration is concerned about deterring the travel of needed workers to Africa, the costs of that prudence can be easily paid. Rather than stubbornly fighting quarantines and travel bans, the administration should focus its efforts on designing and getting passed financial compensation measures that balance risk and reward.

Bloomberg’s Matt Levine is usually very insightful about markets, and about financial skullduggery. Alas, in his article on developments in the copper market, Matt is passing off a bad penny.

The basic facts are these. A single firm, reportedly well-known (and arguably infamous) metals trading fund Red Kite, has accumulated upwards of 50 percent (and at times as much as 90 percent) of copper in LME warehouses that is deliverable against LME futures contracts. Such an accumulation can facilitate a corner of the market, or could be a symptom of a corner: a large long takes delivery of virtually the entire deliverable stock (and perhaps all of it) to execute a corner. So the developments in LME copper bear the hallmarks of a squeeze, or an impending one.

What’s more, the price relationships in the market are consistent with a squeeze: the market is in backwardation. I have not had time to determine whether the backwardation is large, controlling for stocks (as would occur during a corner), but the sharp spike in backwardation in recent days is symptomatic of a corner, or fears of a corner.

Put simply, there is smoke here. But Matt Levine seems intent on denying that. Weirdly, he focuses on the allegations involving Goldman’s actions in aluminum:

Loosely speaking, the problem of aluminum was that it was in deep contango: Prices for immediate delivery were low, prices for future delivery were high, and so buying aluminum and chucking it in a warehouse to deliver later was profitable. So people did, and the warehouses got pretty jammed up, and other people who wanted aluminum for immediate use found it all a bit unsporting.

. . . .

The LME warehouse system is an interesting abstract representation of a commodity market, but you can get into trouble if you confuse it with the actual commodity market. One example of the trouble: Goldman and its cronies were accused of manipulating aluminum prices up by putting too much aluminum in LME warehouses.

Well, yes. But the point is that there are many different kinds of manipulation. Many, many different kinds. An Appeals Court in the US opined in the Cargill case that they number of ways of manipulating was limited only by the imagination of man. Too true. The facts in aluminum and the facts in copper are totally different, and the alleged forms of manipulation are totally different, so the events in aluminum are a red herring (although it is copper that is the red metal)

Levine also makes a big, big deal out of the fact that the amount of copper in LME warehouses is trivial compared to the amount of copper produced in the world, let alone the amount of copper that remains in the earth’s crust. This matters hardly at all.

What matters is the steepness of the supply curve into warehouses. If that supply curve is upward sloping, a firm with a big enough futures position can corner the market, and distort prices, even if the amount of copper actually in the warehouses, or attracted to the warehouses by a cornerer’s artificial demand, is small relative to the size of the world copper market.

Case in point. In December 1995 Hamanaka/Sumitomo cornered the LME copper contract holding a position in LME warrants that was substantially smaller than what one firm now owns. Hamanaka’s/Sumitomo’s physical and futures positions were small relative to the size of the world copper market, measured by production and consumption. But they still had market power in the relevant market because it was uneconomic to attract additional copper into LME warehouses.

Another example. Ferruzzi cornered the CBT soybean contract in July, 1989, owning a mere 8 million bushels of beans in Chicago and Toledo. But since it was uneconomic to move additional supplies into those delivery points, it was profitable for, and possible for, Ferruzzi to corner the expiring contract.

World supply may have an effect on the slope of the supply curve into warehouses, but that slope can be positive (thereby creating the conditions necessary to corner) even if the share of metal in warehouses is small. The slope of the supply curve depends on the bottlenecks associated with getting metal into warehouses, and the costs of diverting metal that should go to consumers into warehouses. These bottlenecks and costs can be acute, even if the amount of warehoused metal is small. Diverting copper that should go to a fabricator or wire mill to an LME warehouse is inefficient, i.e., costly. It only happens, therefore, if the price is distorted sufficiently to offset this higher cost.

Levine ends his post thus:

One example of the trouble: Goldman and its cronies were accused of manipulating aluminum prices up by putting too much aluminum in LME warehouses.The worries about copper — that it could be cornered, pushing prices up — stem from there being too little copper in those warehouses. Both of those things can’t be true.

Yes they can, actually. Different commodities at different times with different fundamental conditions are vulnerable to different kinds of manipulation. It is perfectly possible for it to be true that aluminum was vulnerable to a manipulative scheme that exploited the bottlenecks of taking the white metal out of warehouses starting some years ago, and that copper is vulnerable to a manipulative scheme that exploits the bottlenecks of getting the red metal into warehouses now. No logical or factual contradiction whatsoever.

I know you are better than this, Matt. Don’t let your justifiable skepticism of allegations of manipulation make you a poster child for the Gresham’s Law of Internet Commentary.

Today Putin appeared at the Valdai Discussion Forum, and gave a performance that raises serious doubts about his sanity.

He ranted against the west, and the US in particular:

“Statements that Russia is trying to reinstate some sort of empire, that it is encroaching on the sovereignty of its neighbours, are groundless,” the former KGB spy declared in a speech delivered standing at a podium, without a smile, in a ski resort in mountains above the Black Sea city of Sochi.

Listing a series of conflicts in which he faulted U.S. actions, including Libya, Syria and Iraq, Putin asked whether Washington’s policies had strengthened peace and democracy.

“No,” he declared. “The unilateral diktat and the imposing of schemes (on others) have exactly the opposite effect.”

He denied the US is a democracy, and expressed his befuddlement at the electoral college. (Note to Vlad: It’s worked for 225 years.) All that was missing was a rant about hanging chads. He accused the US of organizing a coup in Ukraine and supporting Islamic terrorists. He made not-so-veiled nuclear threats. And on and on and on.

My favorite was his statement that Occupy Wall Street was “choked in its cradle.” He’s just pissed that his influence op fizzled. (I remind you that The News Agency Formerly Known as Russia Today, AKA Putin’s Agitprop Network, was constantly hyping Occupy. As was his pilot fish-or is it more than that?-Zero Hedge.)

It was truly a bizarre performance, chock full with paranoia and resentment.

It follows soon after an interview by former FSB head Nikolai Petrushev that blamed the CIA for everything under the sun, most notably events in Ukraine, which he said was a coup by “self-described Nazis”(!). Fellow ex-KGB mouth breather (but hey, he did sport some bitchin’ flairs back in the 70s) Sergei Ivanov has made similar statements lately.

Thus the question (which I have posed before): is Putin genuinely mad, or is he, pace Machiavelli, “simulating madness at the right time.” Is he pissing purple, or chewing the scenery in an attempt to intimidate a feckless west, who could use his insanity as a justification for leaving hime a wide berth?

Although I don’t discount embellishment, I think he is unhinged at his core.

First, he is under tremendous pressure. Crimea was a bloodless triumph, but the follow on in the rest of Ukraine has turned into a bloody, expensive, and largely unsuccessful mess. Instead of sweeping to an easy victory that would net him all of Novorossiya and subject Ukraine to his control, he has had to fight a nasty campaign that has netted him only the blasted remnants of an already shambolic rump piece of Sovokistan, also known as the Donbas. He has earned the intense enmity of the vast bulk of the Ukrainian population. At best, by freezing the conflict he can prevent Ukraine from developing into a “normal” (i.e., westernized) country (something that horrifies Putin), but he cannot incorporate it into a New Russian Empire, except at ruinous cost.

What’s more, Russia’s already creaking economy is under tremendous stress. Part of that stress is due to the inexorable working of sanctions, which have deprived his cherished national champions of access to western capital, and his energy companies access to needed technology. A bigger part of that stress is attributable to a global growth slowdown that has caused oil prices to fall by about 20 percent. These economic stresses deprive him of the resources needed to underwrite his ambitions. Moreover, they create tremendous divisions and anger within the elite, thereby complicating his task as the chief balancer. If they go on long enough, they will create another front: popular anger, or at least resentment and a piercing of the perception of universal popularity.

Second, Putin comes by his paranoia and anti-US resentment honestly. It has been on display for years, too long and too often to be an act. It comes naturally to a KGB man, and was reinforced by relentless indoctrination in the service: read the Patrushev interview to see a rather comprehensive statement of this world view.

Third, dictators and autocrats almost inevitably succumb to madness and paranoia. They are surrounded by sycophants whose obsequiousness feeds a sense of omnipotence and omniscience. Cults of personality feed this sense even more. They rule by intimidation and fear, and hence hear no dissenting voices. There is no institutional check on their power. All of this means that there is no pushback on crazy, so craziness metastasizes.

Such a man is unlikely to be appeased, and difficult to deter. Reducing the dangers he poses requires chipping away at his capabilities, and confronting him with power that he cannot overcome.

Recently an (incredibly campy) art exhibition in Moscow compared Putin to Hercules. (Given Hercules’ goatish omnisexuality and Putin’s homophobia, this is rather amusing.) But I think another ancient parallel is likely to be more apt: Sampson. Putin is unlikely to go quietly into that dark night, and if he is doomed he is likely to try to bring down everything around his ears. The problem is that backing off will just create a vacuum that he will fill, and just defer the inevitable reckoning. It is unlikely that conflict with him can be avoided, because he will seek it out. How do you appease the paranoid?

As bad as the Middle East is, the real existential threat in the world right now is Putin. (Heaven forfend, but I actually agree with George Soros.) He has 4,500 nukes, and he knows how to use them.

That he’s mad, or at the very least wants to be viewed as being mad, makes that the most daunting challenge the United States and the West face. Given the Lilliputian leaderships in the US and Europe, that is not a comforting thought.

Due to the five year gap in 30 year bond issuance, in mid-September the CME revised the deliverable basket for the June 2015 T-bond contract. It deleted the 6.25 of May, 2015 because its delivery value would have been so far below the values of the other bonds in the deliverable set. This would have made the contract more susceptible to a squeeze because only that bond would effectively be available for delivery due to the way the contract works.

The CME issued a memo on the subject.

Somebody obviously didn’t get it:

It looks like a Treasury futures trader failed to do his or her homework.

The price of 30-year Treasury futures expiring in June traded for less than 145 for about two hours yesterday before shooting up to more than 150. The 7.3 percent surge in their price yesterday, on the first day these particular contracts were traded, was unprecedented for 30-year Treasury futures, according to data compiled by Bloomberg. Volume amounted to 1,639 contracts with a notional value of $164 million.

What sets these futures apart from others is they’re the first ones where the U.S. government’s decision to stop issuing 30-year bonds from 2001 to 2006 must be accounted for when valuing the derivatives. The size and speed of yesterday’s jump indicates the initial traders of the contracts hadn’t factored in the unusual rules governing these particular products, said Craig Pirrong, a finance professor at the University of Houston.

“That is humongous,” said Pirrong, referring to the 7.3 percent jump. “We’re talking about a move you might see over weeks or a month occur in a day.” Pirrong said he suspected it was an algorithmic trader using an outdated model. “I would not want to be that guy,” the professor said.

Here’s a quick and dirty explanation. Multiple bonds are eligible for delivery. Since they have different coupons and maturities, their prices can differ substantially. For instance, the 3.5 percent of Feb 39 sells for about $110, and the 6.25 of 2030 sells for about $146. If both bonds were deliverable at par, no one would ever deliver the 6.25 of 2030, and it would not contribute in any real way to deliverable supply. Therefore, the CME effectively handicaps the delivery race by assigning conversion factors to each bond. The conversion factor is essentially the bond’s price on the delivery date assuming it yields 6 percent to maturity. If all bonds yield 6 percent, their delivery values would be equal, and the deliverable supply would be the total amount of deliverable bonds outstanding. This would make it almost impossible to squeeze the market.

Since bonds differ in duration, and actual yields differ from 6 percent, the conversion factors narrow but do not eliminate disparities in the delivery values of bonds. One bond will be cheapest-to-deliver. Roughly speaking, the CTD bond will be the one with the lowest ratio of price to conversion factor.

That’s where the problem comes in. For the June contract, if the 6.25 of 2030 was eligible to deliver, its converted price would be around $142. Due to the issuance/maturity gap, the converted prices of all the other bonds is substantially higher, ranging between $154 and $159.

This is due a duration effect. When yields are below 6 percent, and they are now way below, at less than 3 percent, low duration bonds become CTD: the prices of low duration bonds rise less (in percentage terms) for a given decline in yields than the prices of high duration bonds, so they become relatively cheaper. The 6.25 of 2030 has a substantially lower duration than the other bonds in the deliverable basket because of its lower maturity (more than 5 years) and higher coupon. So it would have been cheapest to deliver by a huge margin had CME allowed it to remain in the basket. This would have shrunk the deliverable supply to the amount outstanding of that bond, making a squeeze more likely, and more profitable. (And squeezes in Treasuries do occur. They were rife in the mid-to-late-80s, and there was a squeeze of the Ten Year in June of 2005. The 2005 squeeze, which was pretty gross, occurred when there was less than a $1 difference in delivery values between the CTD and the next-cheapest. The squeezer distorted prices by about 15/32s.)

The futures contract prices the CTD bond. So if someone-or someone’s algo-believed that the 6.25 of 2030 was in the deliverable basket, they would have calculated the no-arb price as being around $142. But that bond isn’t in the basket, so the no-arb value of the contract is above $150. Apparently the guy* who didn’t get the memo merrily offered the June future at $142 in the mistaken belief that was near fair value.

Ruh-roh.

After selling quite a few contracts, the memo non-reader wised up, and the price jumped up to over $150, which reflected the real deliverable basket, not the imaginary one.

This price move was “humongous” given that implied vol is around 6 percent. That’s an annualized number, meaning that the move on a single day was more than a one-sigma annual move. I was being very cautious by saying this magnitude move would be expected to occur over weeks or months. But that’s what happens when the reporter catches me in the gym rather than at my computer.

This wasn’t a fat-finger error. This was a fat-head error. It cost somebody a good deal of money, and made some others very happy.

So word up, traders (and programmers): always read the memos from your friendly local exchange.

*Or gal, as Mary Childs pointed out on Twitter.

As you might guess, I’m usually not a big Frontline fan, given its rather monotonous lefty line on most issues. But I have to take my hat off to Frontline’s Losing Iraq. It presents a very balanced retrospective on events beginning with the fall of Saddam’s statue in Baghdad in 2003. Given the divisiveness of the topic, this is quite an accomplishment.

It is, unsurprisingly, a depressing picture. The bulk of the program focuses on the Bush years, but the most damning parts address the Obama administration’s willful mishandling of a bad but improving situation.

There are few heroes here. Generals Keene and Petraeus come off quite well. Perhaps because they tell their own stories. Rumsfeld and Bremmer come off terribly, which is only accurate. The picture on Bush is very mixed. His misjudgments and mistakes are discussed in full, and there were many: the de-Baathification and disbanding of the Iraqi army stand out. Yes, these were mainly Rumsfeld moves, but Bush signed off. But he is given credit for his courageous decision to double down-or as Petraeus put it, go all in-on the Surge. This redeemed a seemingly hopeless situation, and created the possibility for a good outcome in Iraq. Good by Middle Eastern standards, anyways. Overall, Bush comes off flawed, but human and earnest, and dedicated to doing the best for the country, by his lights. One odd thing is that Colin Powell is completely absent: I don’t even recall his name being mentioned.

One fascinating part relates to Bush and Maliki. Maliki was the accidental leader of Iraq, dredged from obscurity by an administration desperate for an Iraqi face to lead a government so that America could cede control of the country to the locals. Maliki demonstrated some of the tendencies that would later contribute to the current catastrophe, but through a combination of carrots and sticks, and perhaps most importantly, Bush’s personal attention, he was nudged in a more constructive direction and did not indulge his worst sectarian impulses. He wasn’t great, but by the standards of the Middle East, he could have been a lot worse.

Everything changed once Obama assumed office. The most telling scene in the film is from Obama’s speech at Camp Lejeune a mere 4 weeks after assuming  office. Obama acknowledged that Iraq had become a passably peaceful place. But instead of understanding that this peace had been hard-won,  was incredibly fragile, and required continued American military and political engagement to sustain, Obama asserted that the conditions were now right for the US to withdraw. He treated the peace as an inheritance, an endowment, rather than a tender thing that required continued nurturing.

One could spend much time contemplating why he arrived at this conclusion. It was a convenient excuse for him to do what he wanted-to get shed of Iraq, like yesterday. Moreover, to conclude otherwise would have required him to acknowledge that Bush had been right about the Surge, but as we know, Obama reflexively believed-believes-that everything Bush did was wrong, and perhaps evil.

The documentary points out that everyone in the national security establishment opposed Obama’s decision. Everyone believed that it was imperative for the US to retain military force in the country. But Obama decided otherwise and overruled them all.

The chagrin of the military is vividly captured in the face of Robert Gates when Obama completed his remarks and walked over to shake Gates’s hand. Those on stage during a presidential speech, especially one delivered in triumphal tones, are usually smiling and happy. But Gates’s face was stern and tense. You know he hated  being there. You know he believed that Obama was making a tragic mistake. You also know that Obama made a point of seeking him out first to assert his authority, and to make plain to the world that the defense department and the military were going to salute and execute, even though they believed to a man that the policy was a disaster in the making.

The most damning part of Losing Iraq is the recapitulation of the failed attempt to negotiate a Status of Forces agreement with Maliki. Well, failed attempt is not the right phrase, for the documentary makes it clear that Obama had no intention of getting an agreement. He made a demand-that the Iraqi parliament vote to immunize American troops against prosecution-that he knew-knew-could not be met. He made an offer that Iraq had to refuse, which is exactly what Obama wanted, because he wanted out of Iraq, come what may. Iraq of course did refuse, and we are witnessing what has come.

The film quickly covers the aftermath of the American withdrawal. Left completely on his own, Maliki indulged his sectarian devils. He gutted  the Iraqi military by placing reliable Shia cronies in all major command posts: the objective was not creating an effective military force, but creating one that would not pose a coup threat. Most crucially, he cut off the Sunni tribes in Anbar, thereby undoing what Petraeus had achieved at such cost. Into that chaos, ISIS plunged, to its profit.

This is why we are where we are. Yes, the invasion of Iraq was a blunder of historic proportions. But after doing the typical American thing of doing the right thing after trying everything else, the situation was stabilized and showed some promise. But Obama threw it all way out of arrogance, pique, and ideological blindness.

Losing Iraq is painful watching, but it is necessary watching if you want to know why we are where we are, and why that is not a good place to be.

There is no better illustration of the wildly different cultural perspectives of the combatants in Kobane than what occurred today on a barren hill two miles from the city. The hill of Tel Shair, 2 miles from the town, has changed hands several times in the past weeks. In the morning, ISIS seized the hill from the Kurds. As soon as I read about it, I said to myself: The hill is barren and offers no cover, and is far from any civilians. ISIS might as well hold up huge “BOMB US” signs with arrows pointing to the top of the hill. There is no possible way that they could hold it. Once clear of Kurds, it was destined to be a bomb magnet.

And indeed, that was the case. A few hours after the seizure was reported, I saw a Vine video depicting events on the hill. An couple of ISIS fighters had just planted a flag on the summit, and were walking down the hill: the fact that they left the flag and were hotfooting down the hill  tells you they knew what was coming. And sure enough, when they were about halfway down the hill, two bombs explode. I swear, one hit the f*cking flag: a high explosive hole-in-one. The shot is so accurate that I suspect it was laser guided. Apropos what Norman Schwarzkopf said when describing a video of a precision strike during Gulf War I, the two guys survived, and hence were the luckiest men in Syria at that minute. (Here’s another, somewhat longer, video.)

And ISIS could not hold the hill. Predictably so. Within a few hours, the WSJ reported that the Kurds/FSA had retaken it.

To my eyes-western eyes-this illustrates the absurdity of the battle in Kobane. From an objectively-or perhaps materialistic is the better word-military perspective, it was idiotic for ISIS to expend one fighter to take the hill. They could never hold it in the face of an American bombing, and would just suffer more casualties if they tried. So what was the point?

But as one unidentified American official said in a WSJ article yesterday (or the day before), this is a war of flags. For ISIS, planting its flag is a victory, even if the banner gets blown to smithereens within minutes. It is the Arab equivalent of a Sioux counting coup on an adversary. The Arabs are an honor/shame culture, and the planting of the flag, as militarily pointless as it is to western eyes, confers honor on ISIS, and shames the Kurds and the Islamic Front from whom they seized the hill. I am sure that ISIS will be circulating videos of the planting, if they haven’t already. Stories of the deed will spread around the world, at the speed of Internet. To ISIS eyes, and the eyes of their acolytes, each of these flag raisings is as pregnant with meaning as Suribachi was to Americans of earlier generations.

John Keegan, in his History of Warfare, emphasizes that war is a cultural endeavor, that every war has its cultural context, and different cultures wage war differently and account for victory in different ways. Intercultural conflicts are often particularly chaotic, because each side miscalculates the effects of its actions on its enemy, and actions cause unexpected reactions.

Defeating ISIS requires us to understand their cultural frames. Such an understanding will help us predict what they will try to do, and to design counters. Such an understanding is necessary for us to know how the adversary defines defeat, which in turn is necessary for us to determine how to defeat it, for no victory is truly complete unless the enemy believes, in his own mind, that he is vanquished.

ISIS believes that it’s banners make it terrible. Or, perhaps, that its banners strike terror in its adversaries, because they know what happens under those flying flags.

Kobane has become a matter of honor to ISIS. The absurdity (to western eyes) of the events on Tel Shair demonstrate that. As I noted yesterday, we can use ISIS’s honor against it by making it pay a high price whenever it attempts to achieve honor by engaging in an open fight. But as I also noted, this approach has its limits.  Attrition limits ISIS’s capabilities, but does not defeat it psychologically.

The US needs to see things through ISIS’s eyes to determine how to defeat it. Perhaps the best way of doing so is to exploit the flip side of honor: shame. I can’t say that I know how to do that as I sit here, but that seems to be a more profitable “indirect approach” than playing whac-a-flag.

There’s been some chin pulling about whether Kobane is strategic for the US. Methinks that some of this is encouraged by nudges from people in the administration, who really don’t want to be involved there.

Truth be told, it is strategic, but it isn’t. Paradoxically, it is strategic because of the lack of a US strategy.

That’s not quite right, exactly. Obama has a strategy to achieve an objective defined by what he wants to avoid, rather than what he wants to achieve. But he has to do something, so he has effectively fallen back onto the last refuge of the strategically bankrupt, or those lacking the capability (or unwilling to use the capability) to take the initiative and succeed: attrition. When a campaign is focused on body counts, it is likely to be strategically barren.

Famous battles of attrition throughout history (think Verdun) have been hideously costly to both sides. US airpower allows it, under certain circumstances, to attrit its enemy at virtually no risk of casualties. The problem is that those circumstances are largely under the control of the enemy. An enemy that disperses and burrows into urban terrain is relatively immune, although by doing so it can hold what it has but can’t take more.

What is remarkable about Kobane is that IS has eschewed those tactics, and has concentrated large numbers of men and equipment, thereby presenting a target to American airpower. Given the American attrition strategy, these concentrations have become a strategic objective by default. It’s in that sense that a lack of strategy beyond attrition makes Kobane strategic, but then only because for some unfathomable reason ISIS decided to expose itself there.

As this Max Boot article argues, using Khe Sanh as an example, this can inflict large losses and keep even an isolated position from falling. But it cannot inflict a real defeat on ISIS (although the morale and propaganda effects of a failure to take Kobane would inflict some damage on it).

There are concerns that going after Kobane is limiting American ability to influence the battle in other, more important locations, like Mosul and Anbar. But this must be a consequence of self-imposed limitations on the resources committed to the theater. To put things in comparison, the shambolic Syrian air force is mounting far more sorties in Syria than US forces are in Iraq and Syria combined. For Syria, this is an existential conflict and it is pulling out all the stops. For the US, this is a conflict entered grudgingly with many strings attached. Gulliver is tying himself down.

ISIS is apparently mounting attacks elsewhere. These provide additional opportunities for American airpower. Outside of Mosul in particular, the US can cooperate with a reasonably competent ground force. But none of this is likely to prove decisive. ISIS has the luxury of fighting and running away with little fear of aggressive pursuit or the loss of territory (much of it desert waste anyways) from troops following in the wake of their retreat. It continues to have the initiative.

So the likely outcome is stalemate. US airpower, working with available local ground forces, can contain ISIS, and inflict some serious casualties. But that’s about it.

Austin Bay’s verdict is about right:

The battle for the Syrian Kurd town of Khobane has emerged as an opportunity to deal the Islamic State a military and political defeat. Maximizing the opportunity, however, requires what has been most grievously missing from the struggle against the terrorists and their so-called caliphate: persuasive, coherent and steadfast American leadership.

Not happening. Not going to happen.

Yesterday the WaPo reported that the US was planning to sell to Iraq 46,000 HEAT rounds for 120mm M1A1 Abrams tank guns. I was scratching my head at reading this. Although HEAT rounds can be used against buildings, and hence could be of some use in an attack against ISIS in places like Fallujah, it hardly seems that this is a priority for the Iraqi Army. The priority for the Iraqi Army is to get it to stand and fight rather than flee. An attack against a place like Fallujah is a long, long way away. What’s the point of giving Iraq more tank rounds, when its tankers bail out at the first opportunity?

Since this didn’t make sense militarily the only explanation I had is that  this is really  about giving General Dynamics more than half-a-billion dollars under the cover of the (relatively) popular campaign against ISIS. Then @libertylynx pointed out that General Dynamics’ largest shareholder (and once-upon-a-time controlling shareholder) is the Crown family. The Crowns have about 10 percent of GD, and about 50 percent of their $7.5 billion fortune is invested up in the company.

So what? you might say. Who are the Crowns, anyways? Well, they are a Chicago family that has  been a longtime supporter of Obama: they gave $128K for his 2006 senate campaign. According to the WaPo, they are part of the inner circle of Chicago Friends of Barack, and as the paper notes, Chicago ties are the ones that bind. And when Michelle goes skiing at Aspen, she crashes at the Crowns’. (“She likes it there!”)  In 2008, Crown elder Lester (briber of politicians-hey, he is from Chicago, you know-whose security clearance the Pentagon wanted to yank) did Barack a boon service by writing a letter aimed at Jewish voters assuring them of Obama’s “stellar record on Israel” and promising that as president Obama would be a great friend of the Jewish state. (How’s that working out, by the way?)

So the Crowns have been there for Obama, early and often (as the Chicago phrase goes), with money and a kind word to the right constituencies. It’s nothing of a stretch to conclude that the $600 million of love showered on General Dynamics is the least Barry can do in return. So spare me any shrieking about the Kochs or Dick Cheney and Halliburton. Obama is well-versed in Chicago ways, and this has Chicago written all over it, in more ways than one. There is no plausible military case to be made for putting $600 million in HEAT rounds at the top of military aid for Iraq, so there must be something else. Occam’s Razor suggests that this military aid is just (domestic) politics carried out by other means.

Four weeks ago I gave the keynote talk at Energy Risk Asia in Singapore. My talk was a look back at commodity market developments in the past year, followed by a look forward.

The theme of the look back was “A Perfect Calm.” I noted that volatility levels across all markets, not just commodities, were at very low levels. Equity vols, as measured by the VIX, had been in the 10 percent range in August and had only ticked up to around 12 percent by late-September. Commodity volatilities were even more remarkable. Historically, the low level of commodity volatilities (the 5th percentile) have been around the median of equity vols and well above currency and bond vols. During the first half of the year, however, commodity vols were below the 5th percentile of equity vols, and below the 95th percentile of currency and bond vols. Pretty amazing.

I argued that this reflected a happy combination of supply and demand factors. In energy and ags in particular, abundant supplies put a drag on volatility. But volatility from the demand side was low too. The low VIX levels are a good proxy for macro uncertainty, or the lack thereof. Put both of those together, and you get a perfect calm.

But perfect calms are the exception, rather than the rule. The last slide in my talk looked forward, and cribbed a movie cliche: It was titled “It’s Quiet Out There. Too Quiet.” I noted that periods of very low volatility frequently bear the seeds of their destruction. When risk measures are low, firms and traders lever up and increase position sizes. A bit of economic turbulence increases volatilities, which leads to breaches in risk limits, which forces deleveraging and reductions in positions. This tends to lead to reduced liquidity, exaggerated price moves, yet higher volatility, leading to more deleveraging and repositioning, and on it goes. That is, there can be a positive feedback loop. Transitions from low to high volatility can be very abrupt.

It looks like that’s what has happened in the weeks since my return. Equity markets are down substantially. Commodities, notably energy, have slumped: Brent is down to around $88. Volatilities have spiked. The VIX reached over 31 percent last week, and the crude oil VIX went from about 15 percent at the end of August to over 37 percent last week.

The spark appears to have been mounting evidence of a slowdown in Europe and China. Ebola might have been a contributing factor in the last week or two, but in my view the economic weakness is the main driver.

I admit to being like the title character in My Cousin Vinnie. He had difficulty sleeping in the Alabama country quiet, but slept like a lamb in a raucous county jail. Times like these are more interesting, anyways.

So it turns out it was too quiet out there.

And remember. Today is the 27th anniversary of the ’87 Crash (one of the formative experiences of my professional life). Octobers are often . . . interesting (the most dangerous word in the English language). So the markets bear watching closely. If you aren’t interested in them, they may well be interested in you.

Russia has been hyper-aggressive of late in probing the defenses of neighboring countries, including the US and Canada, mainly by aircraft. Sweden has been a frequent target as well.

Now Sweden may be the subject of another probe, this one from under the sea in the Stockholm Archipelago. Anomalous underwater activity was detected, as have been communications (some encrypted) from a point in the region to the Russian naval base at Kaliningrad. The comms purportedly include a distress call. A Russian tanker (under the Liberian flag with an English name, the Concord) has been circling suspiciously in the Baltic: some suspect it is the mother ship of a mini-sub. A Russian research ship, the Professor Lugachev, has suddenly set sail from Saint Petersburg.

Given history, and current events, the Occam’s Razor solution to this mystery is that a Russian sub, maybe a mini-sub, has run into trouble while probing Swedish waters.

The Russians, of course, deny everything:

A defence ministry spokesman in Moscow told reporters that the Russian navy’s submarines and surface ships were “performing tasks… according to plan”.

“There has been no irregular situation, let alone emergency situation, involving Russian navy vessels,” he said.

Again given history, the best thing to do is to assume the opposite is true. Consider the case of the Kursk:

In the days after the incident, the Navy and the government issued a blizzard of non-information, mis-information and dis-information.  At first, the Navy denied that anything was amiss, acknowledging a mere “technical difficulty.”  The government denied the problem for some time; it took two entire days to even admit that the ship “was in serious trouble,” and then lied about when the incident had occurred.  Indeed, the day after the sinking, the Navy commander told the press that the exercise had been flawless.  Yes: flawless.

They never used the word “sink.”  They claimed the entire crew was alive.  They claimed they were in communication with the crew, and that the ship was supplied with air and power from the surface.  The Navy excused its evident lack of preparation for a rescue by bewailing the weather conditions and strong currents, even though the weather was fine and the currents benign.  All complete and outrageous fabrications.

Enraged by the duplicity, at one Navy press conference, the mother of a Kursk officer, Nedezhda Tylik, launched into a screaming denunciation of official dishonesty.  In an event captured on film, a nurse was seen to move up behind Tylik, and inject her with a hypodermic needle.  Tylik collapsed and was taken from the room.  (A still photo is available here; I have not found the video online for free despite a diligent effort; there is a documentary that has the film that can be purchased here.)  She first claimed she had been sedated against her will, and the Navy said that it had indeed given her a sedative; in an Orwellian way, it acknowledged the “solicitous administration of needed tranquilizers.”

Then, remarkably, in the aftermath of a domestic and international outcry, the Navy denied that it had sedated her, and Tylik also recanted, claiming that she had only been given her heart medication at her husband’s request.  Yeah, sure.  Who you gonna believe?  Them or your lying eyes? (Tylik maintains this version in the documentary.  But why did neither she nor her husband make that statement initially?)

And how can we forget Russia’s dodgy naval safety record? I’ve often mocked how its carrier Kuznetsov, such as it is, never leaves home without a salvage tug bobbing along in its wake. The Russian naval curse even inflicts those dumb enough to buy its cast offs and then spend billions trying to fix them up. The Indians found this out to their cost when they bought the Admiral Gorshkov. Now the Chinese are having problems with the Liaoning, ex-Varyag. No biggie. Just that steam is flooding out of its boiler compartment. But it’s not a boiler explosion, apparently! So there’s that.

Given the combination of recent Russian truculence and the long record of Russian naval mishaps, the most likely explanation is that a Russian naval intelligence operation has come to ruin. Let’s hope that the crew survives-though given the track record one doubts that Putin and the Russian high command give a crap about that. Indeed, they would probably prefer that the crew die undiscovered than survive to be captured. Let’s also hope that the facts come out, and prove very embarrassing to VVP.

But one thing for sure: pay zero attention to what the Russians say about this. Well, that’s not right, exactly. Take what they say, and assume the exact opposite and you might be within visual range of the truth.