The Fed Tried to Reconcile Conflicting Numbers According to FOMC Minutes

The FOMC Minutes Shed More Light on the Pause

The Federal Reserve released the minutes of its last Federal Open Market Committee (FOMC) meeting. The minutes show the Fed was largely unified behind the pause (no change in monetary policy) decided at the last meeting. The new release also indicates that most members do not believe the Fed has yet tightened enough to reach a 2% inflation target over time, and that the monetary policy committee would eventually have to move rates higher.

The FOMC holds eight regularly scheduled meetings during the year and may call other meetings as needed. The minutes of regularly scheduled meetings are released three weeks after the date of the policy decision. Committee membership changes at the first regularly scheduled meeting of each year.

Synopsis of FOMC Decision

Buying time to assess the impact of the historically aggressive tightening since March 2022 was an overall message one can derive from the most recent Fed report, and inaction. While “some participants” would have agreed to a rate hike in mid-June, in order to assure the inflation fight headway doesn’t reverse, “almost all participants judged it appropriate or acceptable to maintain” the fed funds rate at the 5% to 5.25% level, to ascertain if more is actually needed.

The minutes provided economic projections not available before its release along with other details not provided in the policy statement or press conference after the meeting. Notable among these disclosures is the level of agreement among voting members to pause. “Most of those participants observed that leaving the target range unchanged at this meeting would allow them more time to assess the economy’s progress,” toward returning inflation to 2% from its current level more which is double the target.

The Fed staff forecasts still foresaw a “mild recession” beginning later in 2023, but those at the Federal Reserve actually responsible for policy were concerned with data that showed a continued tight job market and only modest improvements in inflation. Officials were challenged trying to reconcile economic numbers showing a strong economic trend with evidence of possible weakness, for example, household employment figures pointed to a weaker labor market than the payroll numbers indicated, or national income data that seemed weaker than the more stronger readings of gross domestic product.

It is perhaps easier to understand now after the minutes have been released why Federal Reserve  Chair Jerome Powell said just following the June meeting that the decision marked a switch in strategy. The U.S. central bank would now be focused more on just how much additional policy tightening might be needed, and less on maintaining a steady pace of increases.”Stretching out into a more moderate pace is appropriate to allow you to make that judgment” over time, Powell said.

While Powell also emphasized a united front among the 18 Federal Open Market Committee members, noting that all of them foresee rates staying at least where they are through the end of the year, and all but two see rates rising. That is confirmed again by the minutes, which show some misgivings among the more dovish policymakers. Atlanta Fed President Raphael Bostic, for instance, has said he thinks rates are sufficiently restrictive and officials can now back off as they wait for the lagged impact from the 10 hikes making their way through economy.

There are four more FOMC members scheduled in 2023, the next meeting on monetary policy will be held on July 25 and July 26.

Paul Hoffman

Managing Editor, Channelchek

https://www.federalreserve.gov/newsevents/pressreleases/monetary20230705a.htm

https://www.federalreserve.gov/monetarypolicy/fomcminutes20230614.htm

Bitcoin Versus Bitcoin Cash

Is Bitcoin Cash More Functional as a Currency than Bitcoin?

What cryptocurrency is performing better this year than Bitcoin?  

The other Bitcoin, that’s what.

Recent headlines related to BlackRock’s application for a Bitcoin ETF, followed by Citadel, Schwab, and Fidelity’s plans to create a joint crypto exchange, further legitimized the digital asset class at a time when it seemed under fire from the SEC. The combined news of such big players caused an epic rally in BTC. But it also put BCH (the lesser-known Bitcoin “step-child”) on the radar of crypto investors. Bitcoin Cash (BCH) experienced price gains far greater than BTC.

About Bitcoin Cash

Bitcoin Cash sprang to life in 2017 as the Bitcoin blockchain developers were torn between two directions. The divide was resolved with a split in order to address the disagreement. At issue was the scalability and transaction capacity of Bitcoin “classic”. There were two different schools of thought, the big blockers and the small blockers, each with different solutions. The big blockers felt strongly that larger blocks of transactions were best, in August 2017, a separate ledger for Bitcoin Cash was created, it has its own development team and uses big block design.

The split is often referred to as the Bitcoin Cash fork, it resulted in two separate blockchains, Bitcoin (BTC) and Bitcoin Cash (BCH). The larger block size of BCH allows for more transactions per second.

Recent plans to include Bitcoin Cash on a new platform, owned by big Wall Street firms has ushered in a shift in market perception of the “step-child” cryptocurrency. Despite its being born out of dispute, Bitcoin Cash’s recent performance suggests that it is gaining traction in the eyes of investors.

The ticker symbol is “BCH”. However, some exchanges use the ticker symbol “BCH.X” to distinguish between Bitcoin Cash and other cryptocurrencies with the BCH ticker symbol, similar to “BTC” and “BTC.X” for Bitcoin.

Source: Koyfin

Performance Drivers of BCH

Bitcoin Cash is up 138% so far in 2023, with much of that gain coming since the BlackRock SEC filing for a spot ETF, and the Citadel/Schwab/Fidelity exchange announcement. The exchange, called EDX Markets, backed by financial giants, is not registered with the SEC but carries significant weight due to its powerful partners. The platform lists only four cryptocurrencies: Bitcoin, Ether, Litecoin, and Bitcoin Cash.

This exclusive list has been interpreted by the market as a vote of confidence or an ordaining of sorts of those digital assets that will endure. This confidence has become even more important as the SEC has intensified its scrutiny of other blockchain projects.

BlackRock‘s application to the SEC isn’t the only one. It apparently has set off a wave of Bitcoin spot ETF applications. Bitcoin ETFs will allow greater participation in the asset class. Thus the sudden bullish sentiment across cryptocurrencies

Key Differences

Block size: Bitcoin Cash has a block size of 32 MB, while Bitcoin’s block size is 1 MB. This means that Bitcoin Cash can process more transactions per second than Bitcoin.

Development team: Bitcoin Cash is developed by a different team than Bitcoin. The Bitcoin Cash team is focused on increasing the scalability of the blockchain and making it more user-friendly.

Roadmap: Bitcoin Cash has a different roadmap than Bitcoin. The Bitcoin Cash roadmap includes plans to implement features such as Schnorr signatures and Segregated Witness.

Overall, Bitcoin Cash is a different cryptocurrency than Bitcoin. It has a larger block size, a different development team, and a different roadmap. Whether or not Bitcoin Cash is a better investment than Bitcoin is a matter of opinion and what it is to be used for.

Paul Hoffman

Managing Editor, Channelchek

Sources

https://www.bloomberg.com/news/articles/2023-06-26/bitcoin-offshoot-has-more-than-doubled-over-the-last-week

https://bitcoincash.org/

Could Bidenomics Better Build Your Portfolio?

Image: WH.goc

Should You Invest Alongside Washington?

The White House, on Monday, June 26, launched an effort to refresh and even rebrand the administration’s economic policies. “Bidenomics” is the latest name given to the White House initiatives to invest in the country’s future. The unveiling of the latest spending plans includes $42.5 billion that will be spread to benefit all 50 states.

While the largest details of what Bidenomics is expected to entail will be presented in Chicago on Wednesday, some of the plans were unveiled on Monday. Spokespeople, including President Biden and Vice President Harris, laid out an “internet for all” plan in a public address.

The plan is to spend, on average, $750 million in each state in a bidding process for high-speed internet projects where there is none.

The overall thinking is that internet availability is viewed as a utility, much like the electrification of all communities.  

President Biden indicated Made in America would be integral to the plan. Pointing out thousands of miles of fiber optic cable will be built and laid as part of the project.

Other investment areas that may see added demand is commodities such as copper. The metal is a key element in cables, routers, and switches. As a result, the demand for copper could be expected increase as more and more people connect to the internet.

Fiber optic cables were specifically mentioned in the announcement; manufacturers of not just the cable, but connections, and companies that install the cable could potentially benefit from the $42.5 billion being spread, for coast-to-coast high-speed internet.

While the project is to be completed over the next six years, for each new household or business that gains internet access along the way, a potential new customer for many types of businesses goes online. Beneficiaries could include telecommunications, media, education, online retail, and of course big tech. As the internet has more steady users, these industries will all see increased demand for their services.

Take Away

Investing in companies that benefit from changes in government policies or spending is a common strategy that has helped many portfolios.

A big announcement on what to expect from the new Bidenomics was made on June 26; the country is promised an even greater announcement on June 28. Investors should note, the government does not build out these projects themselves; it engages private companies. At times the US government quickly becomes a large customer of these companies’, adding stability of revenue and significant profit to bottom lines. The President promised a Made in America approach to the contract process.

Paul Hoffman

Managing Editor, Channelchek

Securities Rules Stalemate May Soon Be Resolved

The Importance Of Securities Research and Analysis May Inspire A Reversal in Regulations

The US Securities and Exchange Commission has avoided confrontation for a few years with European Union securities laws by extending exceptions to US brokers in the states that are subject to the EU’s MIFID II rules. The rules require that brokers charge clients separately for their analysis on stocks or bonds, and not provide it as an accommodation. In the US, charging for “advice” would cause brokers to have to register with FINRA as Investment Advisors – this opens up a new set of difficulties. The stand-off has been headed for a showdown for a while, and this coming July 3rd is when the SEC exception that exempts brokers expires.

Will Showdown be Averted?

The SEC exceptions to US brokers that have EU clients have been in place for five years, occasionally being extended –  but the last extension expiring in a few weeks, may not get pushed out. SEC Chair Gary Gensler has been emphatic that he does not intend to extend any longer. The EU’s Markets in Financial Instruments directive threw a monkey wrench into a long-held custom of sell-side research by banning the common practice of accommodating clients by not directly charging for bond or equity analysis. Instead, in effect, “bundling” the service with research costs covered by trading commissions.

During the time that the EU has had MiFID II in place, an explicit price tag for research to investors has resulted in reduced company stock coverage. The new and growing concern is that the rules are hurting Europe’s financial markets — especially its small-caps. This is an important driver for the EU to consider a different tack.

Until now, without the SEC exemption from domestic rules, brokers in the huge US economy would have had to figure out how to take payment for research from their clients bound by MiFID. Or, alternatively, their clients would do without this important investment tool. The timeline is tight, but the problem for US brokers may be averted if the EU lawmakers act.

Will Europe Change Course?

With the SEC’s no-action letter expiring, the timing couldn’t be better. Investment firms following the rules of both regulators would cause a situation where US firms stop providing as much investment research to buy-side investors. Equity research is not only important to investors evaluating companies, but it is important to the companies themselves that need to be understood in order to attract capital and have enough active trading in their company to maintain suitable liquidity. This is especially true of small-cap and microcap stocks.

According to Reuters, the  “states will seek a near total U-turn on the rules behind so-called unbundling.”   MiFID II reforms, in place since 2018, may be adjusted to not conflict with the US model that separates brokers and investment advisors, requiring different licensing and different responsibilities of each.

The proposals suggest that an investment firm would only have to inform clients whether they are paying for research along with trading jointly, and record the charges attributable to each. This is different from unbundling, where from the client’s perspective, the research is a separate product, and decided on and paid for as an add-on to any other business.

Investors Could Win

While it was unclear how the showdown might come to an end, the new proposal, a dramatic turnaround from the EU on its current regulations, could finally resolve the regulator’s game of chicken and, at the same time, create an environment where investors benefit from more available information.

The original EU rule was intended to separate what lawmakers thought could be conflicts of interest when the selling broker also provides research while at the same time may have other banking and business relationships with the company it is providing research on.

The EU’s answer was to separate the two. But over time, according to Reuters, “evidence suggests research provision across the region has suffered as a result.” It lead to less research being distributed, which is viewed as negative to investors and the investor process.

What’s the Next Step?

The EU States’ plan talks with the European Parliament. The final shape of any regulatory changes will be decided in the negotiations, and the exact timetable for a conclusion is not yet clear.

Take Away

The prospect of a flip-flop on the MiFID rules comes at a key moment for the brokerage and securities research industries. In the US, a waiver allowing brokers to charge European clients separately for trading and for research is about to expire. At expiration, they’d have to adapt to the regulatory mismatch or drop the clients.

The drama is set against a very tight timeline.

As an interesting note, Channelchek is a platform that houses quality equity research and data on small and microcap companies. The information is at no cost to investors and is in no way tied to securities transactions. If you haven’t signed up to view this research, do this now.

Paul Hoffman

Managing Editor, Channelchek

Gensler’s Predecessor Says SEC “Regulatory Whiplash” Bad for Investors

Image: Securities and Exchange Commission, March 2019 (Flickr)

Is this the Most Aggressive SEC Ever? Former Commission Head Thinks So

Gary Gensler was nominated head of the Securities and Exchange Commission just after SEC Chairman Jay Clayton stepped down on December 23, 2020. Cryptocurrency exchanges welcomed the incoming Chair’s appointment as “Gensler unites a pro-regulation history with a pro-crypto viewpoint, and could finally implement the regulatory clarity many in the industry have desired,” said an opinion piece published in Coinbase two months after. It has now been two years, and Chair Gensler’s predecessor, in his new role, shared his views and criticisms this week.

Former SEC chairman Jay Clayton, who is now working in the private sector, said he believes government regulators could do a much better job serving investors and the broader financial markets. The comments came during an address (June 7) in Orlando as he spoke at the BNY Mellon Pershing Insite 23 Conference. In his talk, Clayton highlighted big differences between the SEC under the Biden administration in comparison to the Trump presidency.

“I think it’s pretty clear we’re in a very highly business-skeptical and commercial-skeptical regulatory environment,” he said. “Any time you go to extremes, either way, you get more bad than good.”

Clayton, is now the nonexecutive chair at Apollo Global Management, a large alternative asset manager. He held the position of SEC chairman from May 2017 through December 2020. He believes the regulatory whiplash leaves anyone participating in the financial markets with more questions than answers.

“People don’t know what is really happening, how long it is going to last, and what they should do about it,” he said in reference to what has been described as the most aggressive SEC ever.

Clayton acknowledged that his business is with an alternative investment house, and that he might be accused of “talking his book” as a representative of a firm that manages private investments, but explained that he believes retail class investors are being locked out of suitable investments. He believes there should be a democratization of alternative investments, which has been an SEC focus. The accredited investor policies may not be best for the average person planning for the future.

“Capital formation these days largely comes from outside the public markets, yet the investing public is largely held outside those private markets,” he said. “All investors should have access to a portfolio that looks like a well-managed pension fund. With the help of a lot of the people in this room, I think we’re going to be able to do it,” he optimistically said addressing the large group from the wealth management industry.

He called on investment management firms to do their part to help regulators by making an effort to create products that are more broadly suited to the full universe of investors. Clayton took particular issue with the current accreditation rules. Saying the 40-year-old accredited investor rule doesn’t jive with today’s reality, an environment where individual investors are largely responsible for their own retirement income.

The former SEC head pointed out what he thought to be absurd, mentioning qualified retirement accounts (401k, 403b, IRAs) that give retail investors access to highly liquid mutual funds and perhaps ETFs, but not less liquid investments that would be better suited for long-term investing objectives.

“You’re paying for liquidity that you don’t need and can’t access,” Clayton said. “Pick a target-date fund, for example, why wouldn’t there be a sliver of privates or alternatives in there? If I’m a 401(k) investor, I should be able to get something that looks like a Calpers portfolio. Why wouldn’t you have a 10% slice of privates in your retirement portfolio when you’re 50 years old?” He said referring to the large institution managing the California teachers retirement portfolio.

Take Away

The former SEC head Jay Clayton believes that the sharp move from lowering  regulatoryinvestment  hurdles, to erecting the most aggressive in history under the current leadership of Gary Gensler, is bad for investors. He doesn’t argue strongly for either side, as much as he is against sudden changes and the impact it has on investors.

Clayton also supports alternative funds for the average retail investor, especially as it relates to long-term savings such as retirement accounts.

Insite23, the investor conference Jay Clayton was addressing in Orlando, FL, draws wealth management professionals from across the US. This coming December, the Channelchek-sponsored investor conference, NobleCon19 will be held in Boca Raton, Fl. This annual conference, in its 19th year, draws institutional and self-directed investors from beyond the US, who wish to attend presentations, breakout sessions, and panel discussions with CEOs, and even former government leaders. Those attending this year’s NobleCon will get to assess lesser-known investment opportunities along with the current investment climate. Attendees can look forward to two days filled with actionable opportunities explained by those with direct knowledge at the company’s helm.

For information on attending Nobecon19, sponsoring, or presenting, click here.

Paul Hoffman

Managing Editor, Channelchek

Sources

State of Crypto: How SEC Chair Gary Gensler Could Differ From Predecessor Jay Clayton

Apollo Capital

Former SEC Chair Clayton makes case for democratizing alternative investments

BNY Mellon Insite

SEC Charges Against Binance and Binance’s Sharp Response

Gary Gensler’s SEC  Files 13 Charges Against Changpeng Zhao and His Company Binance

In a pair of press releases, one from the Securities and Exchange Commission, and the other from Binance, the world’s largest cryptocurrency exchange, there were charges, allegations and answers fired back and forth. The SEC named the founder and CEO of Binance, Changpeng Zhao as a defendant in the suit. Binance quickly shot back how disappointed Binance is that 13 complaints were filed against the company.

Allegations

The SEC press release indicates that they are suing Binance and founder Changpeng Zhao for misusing customers’ funds and for diverting funds to a trading entity that Zhao controlled called Sigma Chain. It further charges Sigma Chain for engaging in fraudulent trading that made Binance’s volume appear larger than it actually was.

Among the charges, Binance is also supposed to have concealed that it commingled billions of dollars in customer assets, sending them to a third-party, Merit Peak, which was owned by Zhao.  

The SEC filed the case in federal court in the District of Columbia. Binance engaged in “blatant disregard of the federal securities laws and the investor and market protections these laws provide,” the regulator wrote in its court complaint.

Source: SEC.Gov

Binance Response

Binance said in a written statement that it intends to defend its platform and denied allegations that user assets on the Binance.US platform were ever at risk. “All user assets on Binance and Binance affiliate platforms, including Binance.US, are safe and secure, and we will vigorously defend against any allegations to the contrary,” the company said. Binance.US also said it would defend itself against the litigation.

Source: PRNewswire

Binance alleges that because of their size, they are a target for the US regulator. The company expressed concerns through a press release that despite cooperating with the SEC, that a reasonable amount of time was not given on the most recent 26 different requests, and that they may have been intentionally burdensome. Binance said that despite its willingness to do whatever was necessary to address the US regulator’s concerns and take whatever reasonable steps they could, the SEC would not share any evidence it might have regarding its purported concerns, and the SEC rejected attempts at engagement, instead going straight to court. “It is now clear to us that the SEC’s goal here was never to protect investors, as the SEC has claimed—if that were indeed the case, the SEC would have thoughtfully engaged with us on the facts and in our efforts to demonstrate the safety and security of the Binance,” according to a company statement.

Channelchek will continue to follow and report on major news impacting this case and others of interest to the investment world. Various sources indicate that there does not appear to be any type of a run by customers from Binance, there are some reports that it is business as usual. Register here to receive our daily emails.

Paul Hoffman

Managing Editor, Channelchek

How to Keep AI on the Right Path

How Can Congress Regulate AI? Erect Guardrails, Ensure Accountability and Address Monopolistic Power

OpenAI CEO Sam Altman urged lawmakers to consider regulating AI during his Senate testimony on May 16, 2023. That recommendation raises the question of what comes next for Congress. The solutions Altman proposed – creating an AI regulatory agency and requiring licensing for companies – are interesting. But what the other experts on the same panel suggested is at least as important: requiring transparency on training data and establishing clear frameworks for AI-related risks.

Another point left unsaid was that, given the economics of building large-scale AI models, the industry may be witnessing the emergence of a new type of tech monopoly.

This article was republished with permission from The Conversation, a news site dedicated to sharing ideas from academic experts. It represents the research-based findings and thoughts of Anjana Susarla, Professor of Information Systems, Michigan State University.

As a researcher who studies social media and artificial intelligence, I believe that Altman’s suggestions have highlighted important issues but don’t provide answers in and of themselves. Regulation would be helpful, but in what form? Licensing also makes sense, but for whom? And any effort to regulate the AI industry will need to account for the companies’ economic power and political sway.

An Agency to Regulate AI?

Lawmakers and policymakers across the world have already begun to address some of the issues raised in Altman’s testimony. The European Union’s AI Act is based on a risk model that assigns AI applications to three categories of risk: unacceptable, high risk, and low or minimal risk. This categorization recognizes that tools for social scoring by governments and automated tools for hiring pose different risks than those from the use of AI in spam filters, for example.

The U.S. National Institute of Standards and Technology likewise has an AI risk management framework that was created with extensive input from multiple stakeholders, including the U.S. Chamber of Commerce and the Federation of American Scientists, as well as other business and professional associations, technology companies and think tanks.

Federal agencies such as the Equal Employment Opportunity Commission and the Federal Trade Commission have already issued guidelines on some of the risks inherent in AI. The Consumer Product Safety Commission and other agencies have a role to play as well.

Rather than create a new agency that runs the risk of becoming compromised by the technology industry it’s meant to regulate, Congress can support private and public adoption of the NIST risk management framework and pass bills such as the Algorithmic Accountability Act. That would have the effect of imposing accountability, much as the Sarbanes-Oxley Act and other regulations transformed reporting requirements for companies. Congress can also adopt comprehensive laws around data privacy.

Regulating AI should involve collaboration among academia, industry, policy experts and international agencies. Experts have likened this approach to international organizations such as the European Organization for Nuclear Research, known as CERN, and the Intergovernmental Panel on Climate Change. The internet has been managed by nongovernmental bodies involving nonprofits, civil society, industry and policymakers, such as the Internet Corporation for Assigned Names and Numbers and the World Telecommunication Standardization Assembly. Those examples provide models for industry and policymakers today.

Licensing Auditors, Not Companies

Though OpenAI’s Altman suggested that companies could be licensed to release artificial intelligence technologies to the public, he clarified that he was referring to artificial general intelligence, meaning potential future AI systems with humanlike intelligence that could pose a threat to humanity. That would be akin to companies being licensed to handle other potentially dangerous technologies, like nuclear power. But licensing could have a role to play well before such a futuristic scenario comes to pass.

Algorithmic auditing would require credentialing, standards of practice and extensive training. Requiring accountability is not just a matter of licensing individuals but also requires companywide standards and practices.

Experts on AI fairness contend that issues of bias and fairness in AI cannot be addressed by technical methods alone but require more comprehensive risk mitigation practices such as adopting institutional review boards for AI. Institutional review boards in the medical field help uphold individual rights, for example.

Academic bodies and professional societies have likewise adopted standards for responsible use of AI, whether it is authorship standards for AI-generated text or standards for patient-mediated data sharing in medicine.

Strengthening existing statutes on consumer safety, privacy and protection while introducing norms of algorithmic accountability would help demystify complex AI systems. It’s also important to recognize that greater data accountability and transparency may impose new restrictions on organizations.

Scholars of data privacy and AI ethics have called for “technological due process” and frameworks to recognize harms of predictive processes. The widespread use of AI-enabled decision-making in such fields as employment, insurance and health care calls for licensing and audit requirements to ensure procedural fairness and privacy safeguards.

Requiring such accountability provisions, though, demands a robust debate among AI developers, policymakers and those who are affected by broad deployment of AI. In the absence of strong algorithmic accountability practices, the danger is narrow audits that promote the appearance of compliance.

AI Monopolies?

What was also missing in Altman’s testimony is the extent of investment required to train large-scale AI models, whether it is GPT-4, which is one of the foundations of ChatGPT, or text-to-image generator Stable Diffusion. Only a handful of companies, such as Google, Meta, Amazon and Microsoft, are responsible for developing the world’s largest language models.

Given the lack of transparency in the training data used by these companies, AI ethics experts Timnit Gebru, Emily Bender and others have warned that large-scale adoption of such technologies without corresponding oversight risks amplifying machine bias at a societal scale.

It is also important to acknowledge that the training data for tools such as ChatGPT includes the intellectual labor of a host of people such as Wikipedia contributors, bloggers and authors of digitized books. The economic benefits from these tools, however, accrue only to the technology corporations.

Proving technology firms’ monopoly power can be difficult, as the Department of Justice’s antitrust case against Microsoft demonstrated. I believe that the most feasible regulatory options for Congress to address potential algorithmic harms from AI may be to strengthen disclosure requirements for AI firms and users of AI alike, to urge comprehensive adoption of AI risk assessment frameworks, and to require processes that safeguard individual data rights and privacy.

Trading With Artificial Intelligence – Benefits and Pitfalls

ChatGPT-Powered Wall Street: The Benefits and Perils of Using Artificial Intelligence to Trade Stocks and Other Financial Instruments

Artificial Intelligence-powered tools, such as ChatGPT, have the potential to revolutionize the efficiency, effectiveness and speed of the work humans do.

And this is true in financial markets as much as in sectors like health care, manufacturing and pretty much every other aspect of our lives.

I’ve been researching financial markets and algorithmic trading for 14 years. While AI offers lots of benefits, the growing use of these technologies in financial markets also points to potential perils. A look at Wall Street’s past efforts to speed up trading by embracing computers and AI offers important lessons on the implications of using them for decision-making.

This article was republished with permission from The Conversation, a news site dedicated to sharing ideas from academic experts. It represents the research-based findings and thoughts of, Pawan Jain, Assistant Professor of Finance, West Virginia University.

Program Trading Fuels Black Monday

In the early 1980s, fueled by advancements in technology and financial innovations such as derivatives, institutional investors began using computer programs to execute trades based on predefined rules and algorithms. This helped them complete large trades quickly and efficiently.

Back then, these algorithms were relatively simple and were primarily used for so-called index arbitrage, which involves trying to profit from discrepancies between the price of a stock index – like the S&P 500 – and that of the stocks it’s composed of.

As technology advanced and more data became available, this kind of program trading became increasingly sophisticated, with algorithms able to analyze complex market data and execute trades based on a wide range of factors. These program traders continued to grow in number on the largely unregulated trading freeways – on which over a trillion dollars worth of assets change hands every day – causing market volatility to increase dramatically.

Eventually this resulted in the massive stock market crash in 1987 known as Black Monday. The Dow Jones Industrial Average suffered what was at the time the biggest percentage drop in its history, and the pain spread throughout the globe.

In response, regulatory authorities implemented a number of measures to restrict the use of program trading, including circuit breakers that halt trading when there are significant market swings and other limits. But despite these measures, program trading continued to grow in popularity in the years following the crash.

HFT: Program Trading on Steroids

Fast forward 15 years, to 2002, when the New York Stock Exchange introduced a fully automated trading system. As a result, program traders gave way to more sophisticated automations with much more advanced technology: High-frequency trading.

HFT uses computer programs to analyze market data and execute trades at extremely high speeds. Unlike program traders that bought and sold baskets of securities over time to take advantage of an arbitrage opportunity – a difference in price of similar securities that can be exploited for profit – high-frequency traders use powerful computers and high-speed networks to analyze market data and execute trades at lightning-fast speeds. High-frequency traders can conduct trades in approximately one 64-millionth of a second, compared with the several seconds it took traders in the 1980s.

These trades are typically very short term in nature and may involve buying and selling the same security multiple times in a matter of nanoseconds. AI algorithms analyze large amounts of data in real time and identify patterns and trends that are not immediately apparent to human traders. This helps traders make better decisions and execute trades at a faster pace than would be possible manually.

Another important application of AI in HFT is natural language processing, which involves analyzing and interpreting human language data such as news articles and social media posts. By analyzing this data, traders can gain valuable insights into market sentiment and adjust their trading strategies accordingly.

Benefits of AI Trading

These AI-based, high-frequency traders operate very differently than people do.

The human brain is slow, inaccurate and forgetful. It is incapable of quick, high-precision, floating-point arithmetic needed for analyzing huge volumes of data for identifying trade signals. Computers are millions of times faster, with essentially infallible memory, perfect attention and limitless capability for analyzing large volumes of data in split milliseconds.

And, so, just like most technologies, HFT provides several benefits to stock markets.

These traders typically buy and sell assets at prices very close to the market price, which means they don’t charge investors high fees. This helps ensure that there are always buyers and sellers in the market, which in turn helps to stabilize prices and reduce the potential for sudden price swings.

High-frequency trading can also help to reduce the impact of market inefficiencies by quickly identifying and exploiting mispricing in the market. For example, HFT algorithms can detect when a particular stock is undervalued or overvalued and execute trades to take advantage of these discrepancies. By doing so, this kind of trading can help to correct market inefficiencies and ensure that assets are priced more accurately.

Stock exchanges used to be packed with traders buying and selling securities, as in this scene from 1983. Today’s trading floors are increasingly empty as AI-powered computers handle more and more of the work.

The Downsides

But speed and efficiency can also cause harm.

HFT algorithms can react so quickly to news events and other market signals that they can cause sudden spikes or drops in asset prices.

Additionally, HFT financial firms are able to use their speed and technology to gain an unfair advantage over other traders, further distorting market signals. The volatility created by these extremely sophisticated AI-powered trading beasts led to the so-called flash crash in May 2010, when stocks plunged and then recovered in a matter of minutes – erasing and then restoring about $1 trillion in market value.

Since then, volatile markets have become the new normal. In 2016 research, two co-authors and I found that volatility – a measure of how rapidly and unpredictably prices move up and down – increased significantly after the introduction of HFT.

The speed and efficiency with which high-frequency traders analyze the data mean that even a small change in market conditions can trigger a large number of trades, leading to sudden price swings and increased volatility.

In addition, research I published with several other colleagues in 2021 shows that most high-frequency traders use similar algorithms, which increases the risk of market failure. That’s because as the number of these traders increases in the marketplace, the similarity in these algorithms can lead to similar trading decisions.

This means that all of the high-frequency traders might trade on the same side of the market if their algorithms release similar trading signals. That is, they all might try to sell in case of negative news or buy in case of positive news. If there is no one to take the other side of the trade, markets can fail.

Enter ChatGPT

That brings us to a new world of ChatGPT-powered trading algorithms and similar programs. They could take the problem of too many traders on the same side of a deal and make it even worse.

In general, humans, left to their own devices, will tend to make a diverse range of decisions. But if everyone’s deriving their decisions from a similar artificial intelligence, this can limit the diversity of opinion.

Consider an extreme, nonfinancial situation in which everyone depends on ChatGPT to decide on the best computer to buy. Consumers are already very prone to herding behavior, in which they tend to buy the same products and models. For example, reviews on Yelp, Amazon and so on motivate consumers to pick among a few top choices.

Since decisions made by the generative AI-powered chatbot are based on past training data, there would be a similarity in the decisions suggested by the chatbot. It is highly likely that ChatGPT would suggest the same brand and model to everyone. This might take herding to a whole new level and could lead to shortages in certain products and service as well as severe price spikes.

This becomes more problematic when the AI making the decisions is informed by biased and incorrect information. AI algorithms can reinforce existing biases when systems are trained on biased, old or limited data sets. And ChatGPT and similar tools have been criticized for making factual errors.

In addition, since market crashes are relatively rare, there isn’t much data on them. Since generative AIs depend on data training to learn, their lack of knowledge about them could make them more likely to happen.

For now, at least, it seems most banks won’t be allowing their employees to take advantage of ChatGPT and similar tools. Citigroup, Bank of America, Goldman Sachs and several other lenders have already banned their use on trading-room floors, citing privacy concerns.

But I strongly believe banks will eventually embrace generative AI, once they resolve concerns they have with it. The potential gains are too significant to pass up – and there’s a risk of being left behind by rivals.

But the risks to financial markets, the global economy and everyone are also great, so I hope they tread carefully.

Is Your Bank Prepared for a US Debt Default?

War Rooms and Bailouts: How Banks and the Fed are Preparing for a US Default – and the Chaos Expected to Follow

When you are the CEO responsible for a bank and all the related depositors and investors, you don’t take an “it’ll never happen” approach to the possibility of a U.S. debt default. The odds are it won’t happen, but if it does, being unprepared would be devastating. Banks of all sizes are getting their doomsday plans in place, and other industries are as well, but big banks, on many fronts would be most directly impacted. The following is an informative article on how banks are preparing. It’s authored by John W. Diamond the Director of the Center for Public Finance at the Baker Institute, Rice University, and republished with permission from The Conversation.  – Paul Hoffman, Managing Editor, Channelchek

Convening war rooms, planning speedy bailouts and raising house-on-fire alarm bells: Those are a few of the ways the biggest banks and financial regulators are preparing for a potential default on U.S. debt.

“You hope it doesn’t happen, but hope is not a strategy – so you prepare for it,” Brian Moynihan, CEO of Bank of America, the nation’s second-biggest lender, said in a television interview.

The doomsday planning is a reaction to a lack of progress in talks between President Joe Biden and House Republicans over raising the US$31.4 trillion debt ceiling – another round of negotiations took place on May 16, 2023. Without an increase in the debt limit, the U.S. can’t borrow more money to cover its bills – all of which have already been agreed to by Congress – and in practical terms that means a default.

What happens if a default occurs is an open question, but economists – including me – generally expect financial chaos as access to credit dries up and borrowing costs rise quickly for companies and consumers. A severe and prolonged global economic recession would be all but guaranteed, and the reputation of the U.S. and the dollar as beacons of stability and safety would be further tarnished.

But how do you prepare for an event that many expect would trigger the worst global recession since the 1930s?

Preparing for Panic

Jamie Dimon, who runs JPMorgan Chase, the biggest U.S. bank, told Bloomberg he’s been convening a weekly war room to discuss a potential default and how the bank should respond. The meetings are likely to become more frequent as June 1 – the date on which the U.S. might run out of cash – nears.

Dimon described the wide range of economic and financial effects that the group must consider such as the impact on “contracts, collateral, clearing houses, clients” – basically every corner of the financial system – at home and abroad.

“I don’t think it’s going to happen — because it gets catastrophic, and the closer you get to it, you will have panic,” he said.

That’s when rational decision-making gives way to fear and irrationality. Markets overtaken by these emotions are chaotic and leave lasting economic scars.

Banks haven’t revealed many of the details of how they are responding, but we can glean some clues from how they’ve reacted to past crises, such as the financial crisis in 2008 or the debt ceiling showdowns of 2011 and 2013.

One important way banks can prepare is by reducing exposure to Treasury securities – some or all of which could be considered to be in default once the U.S. exhausts its ability to pay all of its bill. All U.S. debts are referred to as Treasury bills or bonds.

The value of Treasurys is likely to plunge in the case of a default, which could weaken bank balance sheets even more. The recent bank crisis, in fact, was prompted primarily by a drop in the market value of Treasurys due to the sharp rise in interest rates over the past year. And a default would only make that problem worse, with close to 190 banks at risk of failure as of March 2023.

Another strategy banks can use to hedge their exposure to a sell-off in Treasurys is to buy credit default swaps, financial instruments that allow an investor to offset credit risk. Data suggests this is already happening, as the cost to protect U.S. government debt from default is higher than that of Brazil, Greece and Mexico, all of which have defaulted multiple times and have much lower credit ratings.

But buying credit default swaps at ever-higher prices limits a third key preventive measure for banks: keeping their cash balances as high as possible so they’re able and ready to deal with whatever happens in a default.

Keeping the Financial Plumbing Working

Financial industry groups and financial regulators have also gamed out a potential default with an eye toward keeping the financial system running as best they can.

The Securities Industry and Financial Markets Association, for example, has been updating its playbook to dictate how players in the Treasurys market will communicate in case of a default.

And the Federal Reserve, which is broadly responsible for ensuring financial stability, has been pondering a U.S. default for over a decade. One such instance came in 2013, when Republicans demanded the elimination of the Affordable Care Act in exchange for raising the debt ceiling. Ultimately, Republicans capitulated and raised the limit one day before the U.S. was expected to run out of cash.

One of the biggest concerns Fed officials had at the time, according to a meeting transcript recently made public, is that the U.S. Treasury would no longer be able to access financial markets to “roll over” maturing debt. While hitting the current ceiling prevents the U.S. from issuing new debt that exceeds $31.4 trillion, the government still has to roll existing debt into new debt as it comes due. On May 15, 2023, for example, the government issued just under $100 billion in notes and bonds to replace maturing debt and raise cash.

The risk is that there would be too few buyers at one of the government’s daily debt auctions – at which investors from around the world bid to buy Treasury bills and bonds. If that happens, the government would have to use its cash on hand to pay back investors who hold maturing debt.

That would further reduce the amount of cash available for Social Security payments, federal employees wages and countless other items the government spent over $6 trillion on in 2022. This would be nothing short of apocalyptic if the Fed could not save the day.

To mitigate that risk, the Fed said it could immediately step in as a buyer of last resort for Treasurys, quickly lower its lending rates and provide whatever funding is needed in an attempt to prevent financial contagion and collapse. The Fed is likely having the same conversations and preparing similar actions today.

A Self-Imposed Catastrophe

Ultimately, I hope that Congress does what it has done in every previous debt ceiling scare: raise the limit.

These contentious debates over lifting it have become too commonplace, even as lawmakers on both sides of the aisle express concerns about the growing federal debt and the need to rein in government spending. Even when these debates result in some bipartisan effort to rein in spending, as they did in 2011, history shows they fail, as energy analyst Autumn Engebretson and I recently explained in a review of that episode.

That’s why one of the most important ways banks are preparing for such an outcome is by speaking out about the serious damage not raising the ceiling is likely to inflict on not only their companies but everyone else, too. This increases the pressure on political leaders to reach a deal.

Going back to my original question, how do you prepare for such a self-imposed catastrophe? The answer is, no one should have to.

The Limits to the Artificial Intelligence Revolution

What Will AI Never Be Good At?

Artificial intelligence (AI) is a true disruptive technology. As any informed content writer can tell you, the technology creates efficiencies by speeding up data gathering, research, and even graphics that specifically reflect the content. As an example, it is arguably quicker to use ChatGPT to provide a list of ticker symbols from company names, than it is to look them up one by one. With these small time savers, over the course of a week, far more can be produced as a result of AI tools saving a few minutes here and there.

This presents the question, what are the limits of AI – what can’t it do?

Worker Displacement

Technological revolutions have always benefitted humankind in the long run; in the short run, they have been disruptive, often displacing people who then have to retrain.

A new Goldman Sachs report says “significant disruption” could be on the horizon for the labor market. Goldman’s analysis of jobs in the U.S. and Europe shows that two-thirds of jobs could be automated at least to some degree. In the U.S., “of those occupations which are exposed, most have a significant — but partial — share of their workload (25-50%) that can be replaced,” Goldman Sachs’ analysts said in the paper.

Around the world, as many as 300 million jobs could be affected, the report says. Changes to labor markets are therefore likely – although historically, technological progress doesn’t just make jobs redundant, it also creates new ones. And the added productivity allows the masses to live wealthier lives. This clearly was the end result of the  industrial revolution, and years after the computer revolution, we are at a high rate of employment and have at our fingertips much which we never even dreamed.

The Goldman report says the use of AI technology could boost labor productivity growth and boost global GDP by as much as 7% over time.

There are few reasons to expect that the AI revolution won’t also provide more goods and services per person for a richer existence. But, what about the disruption in the interim? I was curious to know what artificial intelligence is not expected to be able to do. There isn’t much information out there, so I went to an AI source and fed it a bunch of pointed questions about its nature. Part of that nature is to not intentionally lie, I found the responses worth sharing as we will all soon be impacted by what the technology can and cannot do.

Limitations of AI that Will Persist

Artificial intelligence has come a long way in recent years and the speed of progression and adoption is accelerating. As a result, applications have become increasingly sophisticated. But, there are still many things that AI cannot do now and may never be able to do.

One thing that AI cannot do now and may never be able to do is to truly understand human emotions and intentions. While AI algorithms can detect patterns in data and recognize certain emotional expressions, they do not have the ability to experience emotions themselves. This means that AI cannot truly understand the nuances of human communication, which can lead to misinterpretation and miscommunication.

Another limitation of AI is that it cannot replicate the creativity and intuition of humans. While AI can generate new ideas based on existing data, it lacks the ability to come up with truly original and innovative ideas. This is because creativity and intuition are often based on a combination of experience, emotion, and imagination, which are difficult to replicate in a machine.

AI also struggles with tasks that require common sense reasoning or context awareness. For example, AI may be able to identify a picture of a cat, but it may struggle to understand that a cat is an animal that can be petted or that it can climb trees. This is because AI lacks the contextual understanding that humans have built up through years of experience and interaction with the world around us.

In the realm of stocks and economics, AI has shown promise in analyzing data and making predictions, but there are still limitations to its abilities. For example, AI can analyze large datasets and identify patterns in market trends, but it cannot account for unexpected events or human behavior that may affect the market. This means that while AI can provide valuable insights, it cannot guarantee accurate predictions or prevent market volatility.

Another limitation of AI in economics is its inability to understand the complexities of social and political systems. Economic decisions are often influenced by social and political factors, such as government policies and public opinion. While AI can analyze economic data and identify correlations, it lacks the ability to understand the underlying social and political context that drives economic decisions.

A concern some have about artificial intelligence is that it may perpetuate biases that exist in the data it analyzes. This is the “garbage in, garbage out” data problem on steroids. For example, if historical data on stock prices is biased towards a certain demographic or industry, AI algorithms may replicate these biases in their predictions. This can lead to an amplified bias that proves faulty and not useful for economic decision making.

Take Away

AI has shown remarkable progress in recent years, but, as with everything that came before, there are still things that it cannot do now and may never be able to do. AI lacks the emotional intelligence, creativity, and intuition of humans, as well as common sense reasoning and social and political systems. In economics and stock market analysis, AI can provide valuable insights, but it cannot assure accurate predictions or prevent market volatility. So while companies are investing in ways to make our lives more productive with artificial intelligence and machine learning, it remains important to invest in our own human intelligence, growth and expertise.

Paul Hoffman

Managing Editor, Channelchek

Sources

OpenAI. (2021). ChatGPT [Computer software]. Retrieved from https://openai.com

https://www.cnbc.com/2023/05/16/how-generative-ai-chatgpt-will-change-jobs-at-all-work-levels.html

How to Determine When a Biotech Stock Could Expect Market-Moving News

Does the FDA Provide Information that Helps Pharmaceutical Stock Investors?

Investors with a “Stocks on the Move” or “Market Movers” window open sometimes witness a stock climb double or triple digits during a single trading day. It often turns out that it’s a drug company that just passed an FDA milestone. When this happens, these companies have the potential for large movements. The natural question investors ask is, how does one become more aware that there may be an extreme movement in a biotech, or pharmaceutical stock? For wisdom on this subject, I turned to Robert LeBoyer, the Senior Life Sciences Analyst at Noble Capital Markets. Below, cutting through many complex details and variables, is what I discovered from the veteran equity analyst.

The key is to first understand the framework of the FDA approval process. This will help an investor understand the significance of activity and even where to find key dates and imminent decision periods. Especially toward the end of the process, it is especially then when there are events that could rocket the company stock or cause it to retreat. These are PDUFA calendar deadlines and advisory panel meeting dates. Below is an outline of the process and key dates that may allow investors to position themselves to take advantage of any big jump (or even sudden decline) in a biotech’s stock price.

Understanding The FDA Approval Process

The FDA is responsible for regulating the safety and efficacy of drugs and medical devices in the United States. The review process for new drug applications falls under the legally required format called the Prescription Drug User Fee Act (PDUFA).

PDUFA requires the FDA to collect fees from drug developers to fund the review process, in exchange, the FDA has an obligation to answer the application within ten months. The PDUFA legislation has improved the process for companies seeking FDA approval helping to speed the review process. The fees collected are used to hire additional staff and overall improve the FDA’s review process. This avenue has many benefits. It accelerates the process for the companies that are seeking approval as the FDA can afford greater resources, it benefits the taxpayers as the FDA is then subsidized by those that use its service to review potential products, and it helps those with medical conditions that may benefit from a new drug or class of therapy coming to market sooner as a result of the FDA having greater resources.

The first step is pre-clinical testing in animals for indications of effectiveness and toxicity in a laboratory. If satisfactory, it clears the way for the company to submit an investigational new drug application (IND) to the FDA. The overriding goal of pre-clinical testing is to demonstrate that the product safe to then be tested in humans. The IND application outlines what the sponsor of the new drug proposes for human testing in clinical trials. Once reviewed and granted the company can move to clinical trials.

Clinical Trials

Clinical Trials are done in three phases designed to determine the drug candidate’s safety, characterization, and proof of efficacy.

Phase 1 studies (typically involves 20 to 80 people).

This phase involves testing the drug candidate on a small group of healthy volunteers to assess the drug’s safety and determine the appropriate dosage range. The primary goal is to verify safety and to identify any potential side effects.

Phase 2 studies (typically involve a few dozen to about 300 people).

This phase involves testing the drug on a larger trial group of patients that have the condition the drug is intended to treat. In this phase, the developer determines the drug’s efficacy, optimal dosage, and potential side effects. The primary goal is to assess and characterize the drug’s effectiveness in treating the targeted condition. Stocks will sometimes move on Phase 2 effiacy results.

Phase 3 studies (typically involve several hundred to about 3,000 people).

This final clinical study phase involves testing the drug on an even larger and intentionally diversified group of patients with the very condition the drug is intended to treat. These clinical trials are randomized and controlled to confirm the drug’s safety and efficacy in comparasin to existing treatments, a placebo, or both. The primary goal is to demonstrate statistically significant benefit, as defined by the trial parameters.

The announcement of Phase 3 results is a huge milestone, and by itself ordinarily impacts a stock’s price.

According to the Congressional Budget Office (CBO) only about 12 percent of drugs entering clinical trials are ultimately approved for introduction by the FDA. But it is costly; estimates of the average R&D cost per new drug range from less than $1 billion to more than $2 billion per drug. So in addition to being expensive, it’s an uncertain process – many potential drugs never make it to market. This is why full FDA approval, which isn’t automatic after a successful Phase 3 clinical trial, can create an huge upswing, even when expected.

Several things can go wrong during the three phases; these include unexpected side effects or toxicity, lack of efficacy, or failure to meet the primary endpoints of the clinical trial. The developer may even find that it is less effective than current medications. These issues can lead to delays in the approval process, additional studies, or even the termination of the drug’s development.

However, if the clinical trials are successful, the company is ready to file a New Drug Application with the FDA.

FDA Panels are experts with knowledge specific to what is being reviewed (Source: FDA)

New Drug Application (NDA)

There is a pre-NDA period, just before a new drug application is submitted to the FDA. At this time the company may seek guidance from the FDA on the new drug process.

The Submission of an NDA is the formal step that asks the FDA to consider the drug for approval to market. The FDA then has 60 days to decide whether the application gets filed for review. If the FDA files to review the NDA, an FDA review team is assigned to evaluate the sponsor’s research on the drug’s safety and effectiveness.

The FDA review includes a product label approval which includes how the drug can be used. This is very important because the drug can only be marketed within the label indications. The FDA also will inspect the facilities where the drug will be manufactured as part of the approval process.

FDA reviewers will either approve the application or instead issue a complete response letter.

PDUFA Calendar

The FDA PDUFA calendar is a schedule of dates for upcoming PDUFA decisions. These dates are important to investors in biotech and pharmaceutical companies because they represent the time period when the FDA will make a decision about a new drug application. If a drug is approved, it can eventually generate significant revenue for the company, while rejection can lead to a decline in the stock price as investors are disappointed.

Updates direct from the FDA on their calendar and meeting schedule can be subscribed to here.

Advisory Panel

In addition to PDUFA dates, there are other FDA events that can trigger movement in biotech and pharmaceutical stocks. These events include advisory committee meetings, which are meetings where a panel of experts provides recommendations to the FDA on whether to approve a drug or not. These meetings can provide insight into the FDA’s thinking and can influence the stock price.

A schedule of FDA Advisory Panel meetings can be found here.

Advisory committees make non-binding recommendations to the FDA, which generally follows the recommendations but is not legally bound to do so.

Other events that can impact the stock price include Complete Response Letters (CRLs), which are letters from the FDA that outline deficiencies in a drug application and can delay approval. Additionally, FDA inspections of manufacturing facilities can impact the stock price if there are concerns about quality control or manufacturing processes.

Take Away

Investors looking to grow their watch list to include biotech stocks that are in line to receive positive news that could drive the stock value way up or even disappointing news that would weigh on the price, could pay attention to the FDA approval process.

The process is an important tool for biotech and pharmaceutical companies, investors, and analysts. PDUFA dates represent the time when the FDA will make a decision about a new drug application, and can have a significant impact on the stock price. However, there are other FDA events that can also impact the stock price, such as advisory committee meetings, CRLs, and manufacturing facility inspections. It is helpful to stay informed about these events to make knowledgeable investment decisions in the biotech and pharmaceutical industry.

Paul Hoffman

Managing Editor, Channelchek

Sources

https://www.fda.gov/advisory-committees/advisory-committee-calendar/april-28-2023-meeting-oncologic-drugs-advisory-committee-meeting-announcement-04282023

https://www.fda.gov/drugs/information-consumers-and-patients-drugs/fdas-drug-review-process-continued#:~:text=Phase%201%20studies%20(typically%20involve,application%20(NDA)%20is%20submitted.

https://www.fda.gov/about-fda/fda-track-agency-wide-program-performance/fda-track-pdufa-meeting-management#subscribe

Taming AI Sooner Rather than Later

Image: AI rendering of futuristic robot photobombing the VP and new AI Czar

Planning Ahead to Avoid an AI Pandora’s Box

Vice President Kamala Harris wasted no time as the newly appointed White House Artificial Intelligence (AI) Czar. She has already met with heads of companies involved in AI and explained that although Artificial intelligence technology has the potential to benefit humanity, the opportunities it allows also come with extreme risk. She is now tasked with spearheading the effort to preemptively prevent a Pandora’s box situation where, once allowed, the bad that results may overshadow the good.

The plan that the administration is devising, overseen by the Vice President, calls for putting in place protections as the technology grows.

On May 4, Harris met with corporate heads of companies leading in AI technology. They included OpenAI, Google and Microsoft. In a tweet from the President’s desk, he is shown thanking the corporate heads in advance for their cooperation. “What you’re doing has enormous potential and enormous danger,” Biden told the CEOs

Image: Twitter (@POTUS)

Amid recent warnings from AI experts that say tyrannical dictators could exploit the developing technology to push disinformation, the White House has allocated $140 million in funding for seven newly created AI research groups. President Biden has said the technology was “one of the most powerful” of our time, then added, “But in order to seize the opportunities it presents, we must first mitigate its risks.”

The full plan unveiled this week is to launch 25 research institutes across the US that will seek assurance from companies, including ChatGPT’s creator OpenAI, that they will ‘participate in a public evaluation.’

The reason for the concern and the actions taken is that many of the world’s best minds have been warning about the dangers of AI, specifically that it could be used against humanity. Serial tech entrepreneur Elon Musk fears AI technology will soon surpass human intelligence and have independent thinking. Put another way; the machines would no longer need to abide by human commands. At the worst currently imagined, they may develop the ability to steal nuclear codes, create pandemics and spark world wars.

After Harris met with tech executives Thursday to discuss reducing potential risks, she said in a statement, “As I shared today with CEOs of companies at the forefront of American AI innovation, the private sector has an ethical, moral, and legal responsibility to ensure the safety and security of their products.”

The sudden elevation of artificial intelligence as needing to be managed came as awareness grew as to just how remarkable and powerful the technology has the potential to become. This broad awareness came as OpenAI released a version of ChatGPT which already had the ability to mimic humanlike thinking and interaction.

Other considerations, and probably many not yet conceived, is that AI can generate humanlike writing and fake images; there are ethical and societal concerns. As an example, the fabricated image at the top of this article was created within three minutes by a new user of an AI program.

Paul Hoffman

Managing Editor, Channelchek

Sources

https://www.whitehouse.gov/briefing-room/statements-releases/2023/05/04/statement-from-vice-president-harris-after-meeting-with-ceos-on-advancing-responsible-artificial-intelligence-innovation/

Fairness Opinions, Understanding a Transaction’s Full Value

Image Credit: Jernej Furman (Flickr)

Why Companies Get a Fairness Opinion Before Entering a Financial Transaction

How important is a fairness opinion (FO) when a company is evaluating a merger, acquisition, spin-off, buyback, carve-out, or other corporate change of ownership? Part of the due diligence of a large financial transaction is to engage for a fee, an experienced expert to create a fairness opinion that, among other things, advises on the valuation of the proposed transaction. And possibly recommends adjusting some terms to align the transaction with what the expert sees as fair. 

Understanding Fairness Opinions

When companies are considering impactful transactions, they may be required to get an objective opinion on whether the terms of the deal are fair. If it isn’t required, it is still a good idea to help reduce risks inherent in large transactions.

A fairness opinion is a professional assessment of the fairness of a proposed transaction. An independent third-party advisor, such as an investment bank, usually provides it. The goal of a fairness opinion is to provide an impartial evaluation of whether the transaction is fair to all parties involved based on various financial and strategic factors. The analysis involves evaluations of the impact of synergies, overall asset value, current market worth, dilutive effects, structure, and other attributes that a non-experienced executive may easily overlook.

Who Provides Fairness Opinions

Investment banks are the most common providers of fairness opinions. Choosing an institution that has extensive industry-specific experience and knowledge in valuing a transaction or strategic opportunity could save the client many times the cost of the service.

For example, Noble Capital Markets, an investment banking firm with 39 years of experience serving clients in a variety of industries, provides as one of its opinion services, FOs to companies considering a transaction. Francisco Penafiel, Managing Director and part of Noble’s investment banking & valuation practice, explained why getting an opinion from a reputable investment bank can avoid expensive problems.  Mr. Penafiel said, “FO’s should be provided by independent third parties, but it’s highly recommended for companies to have the assistance of advisors with a sound reputation, credibility, and significant industry experience.”

Why should the advisor have an intimate understanding of the industry? Penafiel explained, “it’s also important for the advisors to have knowledge of the regulatory compliance factors that affect the process as well as to be fully independent to avoid any conflict of interests.” He believes most often, investment banking firms, with platforms that include many years of experience, are best suited to run analysis that is deep and thorough, and are necessary when rendering these opinions

“Noble has helped clients over the years with their valuations needs, we’re now witnessing an increased demand for FOs because of the benefits they bring to the companies involved in a transaction. It also goes a long way to demonstrate that management and boards fulfilled their fiduciary duties, reducing risks of litigation,” said Penafiel.

The SEC has shown that they approve of and, in some cases, could require an FO. Recent regulations applying to de-SPAC transactions make fairness opinions the standard as de-SPAC transactions have an inherent conflict of interest between a SPAC’s sponsor and the stockholders. The third-party FO provider allows for impartiality and transparency to benefit all parties, especially investors.

Steps in Creating an FO

To provide a fairness opinion, an investment bank will typically conduct a thorough analysis of the deal’s financial and strategic aspects. This analysis may involve evaluating the company’s financial statements, projecting future earnings, analyzing the transaction structure, and reviewing comparable transactions in the industry. The investment bank will also consider the prevailing market conditions, economic climate and the impact on interest rates and the effects of any regulatory or legal issues on the transaction.

After completing its analysis, the investment bank will issue a formal report summarizing its findings and conclusions. The report will typically contain a detailed explanation of the fairness opinion, including the methodology used, the assumptions made, and the supporting evidence. It will also provide a valuation of the company, which may be used as a reference point for negotiating the deal’s terms.

It’s worth noting that a fairness opinion is not a guarantee that the proposed transaction is fair. Rather, it’s a professional opinion based on the information available at the time of the analysis. The ultimate decision about whether to proceed with the transaction lies with the parties involved, who must consider various factors beyond the scope of the fairness opinion.

Take Away

 Obtaining a fairness opinion is a critical step for companies considering major transactions. It provides an objective evaluation of the transaction’s fairness, which can help the parties involved make informed decisions. Investment banks are well-positioned to provide fairness opinions, given their extensive experience and expertise in financial analysis and valuation. By engaging an investment bank to provide a fairness opinion, companies can gain a valuable perspective on the proposed transaction, which can help them negotiate more effectively and ultimately achieve a better outcome.

Paul Hoffman

Managing Editor, Channelchek

Sources

https://noblecapitalmarkets.com/opinion-practice

https://core.ac.uk/download/pdf/160249385.pdf

https://www.investopedia.com/terms/f/fairness-opinion.asp

http://edgar.secdatabase.com/1680/121390023011399/fs42023ex23-4_heritage.htm