ProfessorBainbridge.com

Brayden on Corporate Governance

Interesting post by a guest blogger at Conglomerate:

The shareholder primacy norm, as stated on paper, seems like a straightforward decision-making criterion.  Corporate directors should make decisions that benefit the shareholders (and by benefit, we mean increase shareholder value).  The norm seems to cut through the haze when directors begin discussing other ways to expend corporate resources.  The norm is often used as a justification for actions or as a restraint on efforts like charitable giving, improving worker conditions, or doing things that might be seen as "socially responsible."  Besides being straightforward, the norm is often thought of as universal and unquestioned.  Stephen Bainbridge wrote that the shareholder primacy norm "has been fully internalized by American managers."  My own experience with managers does not contradict this view (at least on the surface).  In interviewing managers during the research phase of my dissertation on corporate acquisitions, several told me that the first question they asked themselves when deciding whether to pursue an acquisition was, "how does this increase our shareholders' value?"

The problem with the shareholder primacy norm, as I see it, isn't that directors are unsure of what their goal should be.  Rather, it is often completely unclear to managers and directors what is the best way to achieve that goal. ...

Instead, if the literature on decision-making is correct (see this paper), directors base their choices on heuristics and institutionalized norms that allow directors to avoid taking undue risks while still attempting to be seen as oriented towards value-maximization. 

I agree with most of Brayden's comments; I just don't see this issue as a problem.

Obviously, due to bounded rationality, people often have to rely on heuristics to make decisions. Judges do it (see my paper on that topic), and so do business people.

What the shareholder wealth maximization does in that context is to encourage directors and managers to adopt heuristics intended to be shareholder wealth maximizing. In order not to chill director decision making and risk taking, however, the business judgment rule precludes judicial review of most decisions.

As I explained in my paper, The Bishops and the Corporate Stakeholder Debate, moreover, the shareholder wealth maximization norm does have real legal teeth in those contexts in which management divergence from that norm is most likely-i.e., conflicted interest transactions:

The business judgment rule, however, has no application where the board of directors is disabled by conflicted interests. In such cases, concern for director accountability trumps protection of their discretionary authority. In corporate takeovers, for example, a well-known conflict of interest taints target company director decisionmaking. Not surprisingly, therefore, the law denies directors discretion to consider the interests of nonshareholder constituencies in the takeover setting. To be sure, the interests of shareholders and nonshareholder may be consistent in takeover fights, just as they are in many settings. In light of the directors’ conflict of interest, however, we can no longer trust them to make an unbiased assessment of those competing interests. The conflict between management and shareholder interests requires skepticism when management claims to be acting in the stakeholders’ best interests. A board decision to resist a hostile offer may have been motivated by concern for potentially affected nonshareholder constituencies, but it may just as easily have been motivated by the directors’ and managers’ concern for their own positions and perquisites. Selfish decisions thus easily could be justified by an appropriate paper trail of tears over the employees’ fate. Consequently, in the takeover setting, rigorous application of the shareholder wealth maximization norm properly becomes the standard of judicial review.

In sum, the shareholder wealth maximization norm doesn't require directors and managers to get it right - it just requires them not to cheat.

Fiasco Reviewed

From the NY Times:

The title of this devastating new book about the American war in Iraq says it all: “Fiasco.” That is the judgment that Thomas E. Ricks, senior Pentagon correspondent for The Washington Post, passes on the Bush administration’s decision to invade Iraq and its management of the war and the occupation. And he serves up his portrait of that war as a misguided exercise in hubris, incompetence and folly with a wealth of detail and evidence that is both staggeringly vivid and persuasive. ...

Mr. Ricks’s narrative is based on hundreds of interviews and more than 37,000 pages of documents, and many of the book’s most scorching assessments of the White House and Pentagon’s conduct of the war come from members of the uniformed military and official military reports.

An after-action review from the Third Infantry Division underscores the Pentagon’s paucity of postwar planning, stating that “there was no guidance for restoring order in Baghdad, creating an interim government, hiring government and essential services employees, and ensuring that the judicial system was operational.” And an end-of-tour report by a colonel assigned to the Coalition Provisional Authority memorably summarized his office’s work as “pasting feathers together, hoping for a duck.”

The Economics of an iPod Killer

CNN Money reports that Microsoft is about to unveil its "iPod killer":

"Under the Zune brand, we will deliver a family of hardware and software products, the first of which will be available this year," said Chris Stephenson, general manager of market for entertainment and services at Microsoft, in an statement. "We see a great opportunity to bring together technology and community to allow consumers to explore and discover music together."

In economics, there is a concept known as "first mover advantage," which is defined as the "edge that a company gains by entering a particular market before any competitors." In particular, first entry confers a first mover advantage where there are some resulting barriers to entry that prevent competition. All of which leads up to my question: Does the iPod have a first mover advantage?

To be sure, the iPod was not the first mp3 player on the market, but it has taken a huge lead in that market. As a result, it seems fair to say that while Apple was not the first mover, it was the first competitor to obtain a first mover-like advantage.

In any case, there are various ways in which a first mover can create barriers to entry. The one that seems most relevant to the iPod is a form of path dependence:

Switching costs: The first mover has the opportunity to create large switching costs which (once critical mass is achieved) have the effect of excluding competitors. Strong network effects, as in the case of eBay, can enhance this effect. Another example of switching costs is Microsoft Office, which has created lock-in through its proprietary closed formats and erected formidable consumer re-education barriers.  (Link)

Apple has managed to create a proprietary system in which music downloaded from iTunes can be played only on iPods (hence, France's recent attempt to legislate opening the iPod format). If you've been an iTunes user for some years, as I have, you've got a huge investment in downloaded music. The costs of buying all that music over again so as to use it on a Microsoft Zune strike me as prohibitive. (I suppose there might be third party hacks that would let me convert my iTunes collection into generic mp3s. Are they legal? Moral? Useful?)

Toss in herd behavior, whether you call it a fad or brand cachet, and Apple looks to have pretty serious lock-in effect. It's hard to think of any other Microsoft competitor that had such a built-in protection against competition. Netscape didn't. WordPerfect didn't. In both cases, there were few barriers to switching. Perhaps Sony's Playstation is the only comparable example, and in that case while the xBox has dented Playstation, it surely hasn't been a Playstation "killer." So it's very hard for me to believe Zune will prove an iPod killer.

Nationalize Audits?

Over at Discourse.net, George Mundstock proposes a radical change in corporate accounting and audits:

The accounting rules would be set by a government agency (the SEC), not a private group, as today (the Financial Accounting Standards Board). ... The SEC, not private firms hired by the audited company, would do all audits. In appropriate cases, the SEC might even comment publicly on a stock price range that is appropriate in light of what is learned during the audit.

George anticipates several objections, most notably cost, but fails to acknowledge other serious problems with this idea (which, by the way is not new; it's been run up the flagpole several times and always lost):

• Despite SOX, auditors can still provide some non-audit services to corporate clients, which the government couldn't.
• Public sector wages are much lower then private sector, making it hard to attract and retain competent people. The accounting firms already have a hard time attracting auditors because the work sucks and the pay is low by comparison to, say, consulting. On a government wage, only the real dregs of the accounting profession would do it.
• Paying for the enormous expansion of the SEC could be done in various ways, such as a form of user fee, but would still be characterized by the oppositon as a tax increase, which is always politically unpopular.
• The fees paid to finance the system would be attractive targets of budget cutters. As Joel Seligman has obsevered, "Commission budgets have been erratic and have often left the Commission unable to effectively address its required functions." 59 Business Lawyer 1347, 1384.
• Socialized accounting would be a tough political sell. The ability of the stock exchanges, accountants, lawyers, and the like to remain largely self-regulated private sector entities despite numerous attempts to federalize one or more of them demonstrates the considerable political power of these entities.

Seligman observes that: "our securities markets today are the most active, transparent, and successful in capital formation in the world. Any significant change to market structure or self-regulation potentially could enhance or reduce our securities markets' liquidity, transparency, and capital formation." For reasons of both policy and politics, Mundstock's proposal thus looks like a nonstarter.

Leiter Evaluates - UCLA Rising

Brian Leiter evaluates the comings and goings of faculty at the top 20-odd law schools and concludes that UCLA, along with several others, "probably gained some ground (not just in total numbers, but in quality)." He also predicts that, as a result of the various changes, "UCLA [will] be more squarely top ten" in law and philosophy. Although he doesn't predict it, based on my eyeballing of the data and knowledge of the field, I would predict that UCLA will go from a tie for 11th in law and business to somewhere in the 8-10 range. We've suffered no faculty losses in that area since Leiter's last reputational survey and added Mark Grady (antitrust), Michael H. Schill (real estate), and Sam Thompson (corporate and securities). With UCLA ranked 5th among law schools by SSRN downloads and three of our top 4 most often downloaded faculty being in the business law area (yours truly, Lynn Stout, and Lynn LoPucki), we're making significant progress in this area even against some stuff stiff competition.

Backdated Options at Brocade

UIUC law professor and blogger Larry Ribstein has been one of the leaders in pointing out the extent to which the US legal system has far too often invoked the criminal law to deal with routine corporate governance problems. Indeed, I believe Larry was the one who coined the apt phrase "criminalizing agency costs."

In general, I'm on Larry's side on this issue, for reasons I explained in this TCS column. In addition, as I argued in another TCS column, the only real problem with the current media scandal over backdating options is lack of disclosure.

Having said all that, however, I don't agree with Larry's analysis of the criminal indictments at Brocade.

Here's what the SEC alleges happened at Brocade:

According to the criminal complaint and the Commission’s civil complaint, Reyes, 43, of Saratoga, Calif., and Jensen, 48, of Los Altos, Calif., regularly caused Brocade to grant “in-the-money” options (i.e., the exercise price is below the stock’s market price on the day of grant, giving the recipient an immediate paper gain) to both new and current employees between 2000 and 2004, but backdated documents to make it appear that the options were “at-the-money” (i.e., the exercise price is the same as the stock’s market price on the day of the grant) when granted, thus concealing millions of dollars in expenses from investors. Under well-settled accounting principles applicable at the time, options granted “at-the-money” did not need to be expensed. In contrast, options granted “in-the-money” needed to be recorded as a compensation expense.

Unlike what happened at Tyco (yet another TCS column), this isn't a case in which the government turned a simple related party transaction into a criminal case. Nor is this a case in which the government indicted an entire company for the wrongdoing of a few managers.

The indictment in this case narrowly focused on two Brocade managers - Gregory L. Reyes, the former CEO, and Stephanie Jensen, the former Vice President of Human Resources - whose conduct resulted in Brocade making corporate disclosures that apparently contained extensive material misrepresentations over a period of several years, requiring "restatements of hundreds of millions of dollars of Brocade’s financial results." The indictment also alleges "that these defendants altered and backdated Board of Director meeting minutes and employment offer letters in a scheme to defraud in connection with the pricing and granting of stock options."

In my TCS column on the Tyco case, I concluded that "shareholders deserve protection from theft, but not from risk taking, even when the risk in question is how much to pay an executive." The Brocade case looks like the former to me. It's a simple case of fraud and unless you think we shouldn't use the criminal law to punish fraud, it's hard to see why these indictments are a problem.

Executive Compensation

This week's Economist has some interesting data:

Steven Kaplan, an economist at the University of Chicago, calculates that measured ex ante (valuing options using the Black-Scholes formula, rather than by what they later turn out to be worth when they are exercised) and in real terms, for firms in the S&P 500 index, average chief-executive compensation peaked in 2000, and has since fallen by about a third.

In other words, being CEO is still a great deal, but it's not quite as good a deal as the critics of executive pay would have you believe. To get the whole story, you need to subscribe, but since the Economist is far and away the best news weekly you ought to be doing that already.

executive compensation SEC

Social Conservatives using Shareholder Proposals

Left-leaning social activists have long used Securities and Exchange Commission Rule 14a-8 to advance their various agendas. Under the rule, a qualifying shareholder may submit a proposal and short supporting statement to be voted on at the next shareholder meeting and, more important, to be included in the corporation's own voting materials sent to shareholders. It is thus a cheap and easy way for activist shareholders to get their message out to a lot of other investors and get a vote.

I have long wondered why right-leaning social activists have not made similar use of the shareholder proposal process. If liberal shareholders were proposing that tobacco companies limit advertising, why weren't social conservatives proposing that media companies limit family unfriendly programming? If liberal shareholders were proposing divestment of defense-related lines of business, why weren't right-leaning shareholders proposing divestment of abortion-related lines of businesses and so on.

Perhaps the one-sided nature of the shareholder proposal system is changing. American Express recently reported receiving the following shareholder proposal:

The Proposal requests that the Company "form a committee to explore ways to formulate an equal employment opportunity policy which complies with all federal, state and local regulations but does not make reference to any matters related to sexual interests, activities or orientation." The Proposal's supporting statement indicates that "while the legal institution of marriage should be protected, the sexual interests, inclinations and activities of all employees should be a private matter, not a corporate concern."

The obvious intent of the proposer is to exclude sexual orientation as a protected class from AmEx's EEO policies. The company argued this would be potentially detrimental in terms of liability exposure and was an intrusion on management decision-making prerogatives:

Companies manage risk through the implementation of various policies and procedures that specify the best accepted practices in many areas, such as environmental policy, quality assurance policy, health and safety policy and securities trading policies. Due to the complexity of federal, state and local employment laws, and the risk to the company of non-compliance, most prudent company managements develop policies to govern equal employment opportunity practices.

The Proposal seeks to take risk-management decisions regarding the Company's equal employment opportunity policy away from management and put them in the hands of shareholders. Specifically, the Proposal seeks to amend the policy to exclude reference to sexual interest, activities or orientation. The decision regarding whether to remove reference to sexual interest, activities or orientation from the equal employment opportunity policy is a risk management decision that falls within the purview of ordinary business operations. Discriminating on the basis of sexual orientation or preferences is illegal in many states in which our Company has employees and does business .... Further, more than 100 cities include sexual orientation as a protected category .... The Proposal, if adopted, would expose the Company to increased risk of employment-related lawsuits from those who believe their employment at the company was terminated or refused due to their sexual orientation--a situation which would be illegal in many jurisdictions. Should such an employment-related lawsuit be filed against the Company, the fact that the Company removed any reference to non-discrimination on the basis of sexual orientation from its equal employment opportunity policy would be a critical piece of evidence that the plaintiff could use against the Company. In fact, removal increases the Company's exposure to charges that it is implicitly sanctioning this discriminatory conduct. For these risk management reasons, along with other reasons, the Company has made a decision to include sexual orientation in its equal employment opportunity policy.

The SEC nevertheless declined to authorize exclusion of the proposal from AmEx's proxy statement.

None of which is to say that I think anybody ought to be using the shareholder proposal rule to propose any such things. To the contrary, as explained in detail in the shareholder voting chapter of my Corporation Law and Economics text, my dog in this fight is that the shareholder proposal rule shouldn't be used in this way by any social or political interest group.

Sound policy requires that the shareholder proposal rule - if it is to exist at all, itself a debatable proposition - should be limited to matters directly relating to corporate governance rather than social issues.

Think about your least favorite political cause. Do you really want companies in which you invest to have to provide a free platform for proponents of that cause to advance their agenda?

Yet, as we've seen, many proposals have less to do with a company’s economic performance than with providing a soap-box for the proponent’s pet political cause.

To limit the use of the rule by social activists, the SEC ought to adopt a rule that would exclude shareholder proposals unless a reasonable shareholder of the specific corporation in question would regard the proposal as having material economic importance for the value of his shares.

This standard is based on the well-established securities law principle of materiality. It is intended to exclude proposals made primarily for the purpose of promoting general social and political causes, while requiring inclusion of proposals a reasonable investor would believe are relevant to the value of his investment. Such a test seems desirable so as to ensure that an adopted proposal redounds to the benefit of all shareholders, not just those who share the political and social views of the proponent.

Absent such a standard, the shareholder proposal rule becomes nothing less than a species of private eminent domain by which the federal government allows a small minority to appropriate someone else’s property—the company is a legal person, after all, and it is the company’s proxy statement at issue—for use as a soap-box to disseminate their views. Because the shareholders hold the residual claim, and all corporate expenditures thus come out of their pocket, it is not entirely clear why other shareholders should have to subsidize speech by a small minority.

If proposals like the one made at American Express become more common, maybe we'll finally have a bipartisan constituency for limiting the shareholder proposal rule once and for all.

Two cheers for New York gay marriage decision

My Examiner column:

New York’s Court of Appeals recently refused to resolve the issue of gay marriage as a constitutional matter; instead, albeit over sharp dissent, the court’s majority threw the issue back to the legislature.

"We hold that the New York Constitution does not compel recognitionof marriages between members of the same sex. … Whether such marriages should be recognized is a question to be addressed by the Legislature," the court said.

Whether or not that was the right decision as a matter of constitutional interpretation can be debated, but as a prudential matter it was almost certainly correct. Judicial resolution of hot button cultural issues has all too often contributed to polarization and social division.

Consider the case of abortion rights. Former Democratic Congressman, Clinton Administration White House Counsel and federal judge Abner Mikva once explained that: "I support the result of Roe v. Wade. … But … in retrospect, I wish the court had stayed its hand and allowed the political process to continue, because we would have legislated the effect of Roe v. Wade in most states — not all of them, but in most states — and we wouldn’t have had to pay the political price we’ve had to pay for it being a court decision. The people who are angry at that court are angry beyond measure. As far as they are concerned the whole system is rotten because they’ve lost their opportunity to slug it out."

Justice Ruth Bader Ginsburg has likewise stated that "Roe v. Wade ... halted a political process that was moving in a reform direction and thereby, I believe, prolonged divisiveness and deferred stable settlement of the issue."

Because it is custom, tradition, and long familiar patterns that enable people to live together peaceably, social change needs to come slowly. Change and progress are necessary, of course, but sudden change disrupts social bonds, induces stress and engenders controversy as old and vested interests are upset.

Sudden change by a cabal of unelected and largely unaccountable judges is particularly likely to engender controversy. Again, I’ll let Judge Mikva explain: "I don’t think it’s an accident that our founders put the legislative branch in the first article of the Constitution. The reason is that they perceived it to be the first among equals. Most of the people who’d been in Philadelphia had been members of the colonial legislatures, had been members of the Continental Congress, of the early congresses, and they understood the legislative process. They knew how it worked, and they recognized that there was a direct tie between where the people were and where the legislative branch was. They … were nervous about the judges because the English judges had not been an unmixed blessing as far as the colonies were concerned."

The founders knew, like Spiderman, that "with great power comes great responsibility." They ensured that Congress and the President could be held to account. If you don’t like what Congress is doing, you can vote for legislators you like better. You can contribute to candidates all over the country who share your views (of course, your ability to do so is limited because our judges have decided that political campaign contributions deserve less First Amendment protection than, say, child porn). You can give to 527 organizations that will promote your agenda. And so on.

Unfortunately, perhaps because they could not envision the extent to which modern judges would assert control over virtually all aspects of society and culture, the Founders failed to provide adequate accountability mechanisms. If you don’t like what the Supreme Court does, tough. All you can hope is that you can elect leaders who will eventually replace enough of those nine unelected old men and women with individuals whose views are more to your liking.

Abraham Lincoln saw the problem coming. He said of the Supreme Court’s Dred Scott decision that: "If the policy of the government upon vital questions affecting the whole people is to be irrevocably fixed by decisions of the Supreme Court, the instant they are made in ordinary litigation between parties in personal actions the people will have ceased to be their own rulers,having to that extent practically resigned their government into the hands of that eminent tribunal." And so it is today.

The time is fast approaching when the preservation of democracy will require the creation of new mechanisms for holding judges to account. Term limits might be a good place to start. Until then, however, we must rely on judges to exercise self-restraint. We must hope that judges can tell the difference between cases where intervention is necessary and appropriate, like Brown v. Board of Education, and cases that should remain in the political arena.

So whether you agree with the N.Y. Court or not, they at least deserve our thanks for a rare display of judicial modesty. Now if only we could get those nine oldsters in Washington to emulate their northern counterparts.

CalPERS' return on shareholder activism

A new paper by Brad Barber of US Davis reports that shareholder activism by CALPERS (the main California public employee pension fund and the largest pension fund in the US) "has resulted in total wealth creation of $3.1 billion between 1992 and 2005." To put that figure into perspective, that's about $240 million per year. Which is just 0.1% of CalPERS $211.1 billion assets under management. Of course, more is better than less, I suppose. Still, it suggests that shareholder activism is not the investor panacea some claim. So I stand by the case against shareholder activism I made at length, inter alia, in The Case for Limited Shareholder Voting Rights and, in brief, in Pension Funds Play Politics.

SEC Caves to Hollywood

The SEC recently proposed adding to the required corporate compensation disclosures a rule that would require disclosure of the compensation paid the three most highly paid non-executive officers of a company. The rule would mostly hit firms like Wall Street trading houses, where top traders often can make more than the CEO. It also, however, would have hit Hollywood very hard - so hard that the proposal was known as the Katie Couric clause (since Couric likely will be the most highly paid employee of CBS). I still think there's a plausible argument for requiring such disclosure:

In some industries, of which Hollywood is the leading but not only example, there are key employees who don't technically meet the statutory definition of a corporate officer, but who are very highly paid and critical to the success or failure of the firm. Why then should be disclosure limited to statutory officers?

The chief counter-argument is that the salary of folks like Couric is much more likely to be the product of market forces and arms-length bargaining than is a CEO's salary.

In any case, it looks like Hollywood's won this fight. The W$J reports that the SEC "is expected to scrap or significantly alter" the proposal.

Chairman Chris Cox is setting out the sound policy argument:

Chairman Christopher Cox said he is less concerned about pay for actors and athletes than executives, because the stars' pay is set by market forces. "The difference with executive compensation," Mr. Cox said, crediting two professors, "is that boards of directors of public companies don't always negotiate at arms' length with their executives. And as a result, the executives are often able to influence the level of their own compensation."

There's something curious about the arguments being advanced by other SEC Commissioners:

Democrat Roel Campos said the provision no longer seemed necessary to include. "Investor groups did not see this as very important to them in their need to analyze executive compensation," he said.

What's curious about Campos' argument is that the SEC traditionally has been a very paternalistic agency: It has been concerned with mandating the kinds of disclosures the SEC thinks investors should want rather than with identifying disclosures that investors actually want. Is Campos signalling that SEC policy making might actually become more market-responsive? Or is it just smoke and mirrors to cover caving into Hollywood?

Kudos to my Tax Colleagues

Paul Caron reports that, as measured by the number of all-time SSRN downloads, the UCLA tax law faculty ranks second to Harvard. As measured by the number of recent downloads, the UCLA tax faculty is #1. Congratulations. (Do people still say "shoutout to my peeps"?)

In the spirit of self-promotion, however, I can't resist pointing out that I have more all-time SSRN downloads than all my tax colleagues combined (32,427 to 7,613) and more recent downloads (9,475 to 2,023). As Will Sonnet used to say, "No brag. Just fact."

Technical Analysis: The Big Picture

The blogger at Big Picture has been ragging on Larry Ribstein and I over our view that the so-called 9/11 options aren't exactly a scandal. He's challenged us to put our money where our mouths are. Larry's done a fine job of answering him, which I'll just "ditto." But I should add that it's hard to take seriously anybody who would hawk technical stock market analysis.

Larry and I might be wrong about the 9/11 options. It's a matter of opinion. What isn;t a matter of opinion is the validity of technical analysis. It has NONE. Zero. Nada. Zilch.

Charting does NOT work, because securities markets are weak form efficient. The weak form of the Efficient Capital Market Hypothesis posits that all information concerning historical prices is fully reflected in the current price. Put another way, the weak form predicts that price changes in securities are random. Randomness does not mean that the stock market is like throwing darts at a dart board. Stock prices go up on good news and down on bad news. If a company announces a major oil find, all other things being equal, the stock price will go up. Randomness simply means that stock price movements are serially independent: future changes in price are independent of past changes. In other words, investors cannot profit by using past prices to predict future prices. Consistently, empirical studies have demonstrated that securities prices move randomly and, moreover, have shown that charting is not a long term profitable trading strategy. For an accessible defense of this proposition see Burton Malkiel's Random Walk Down Wall Street.

To the extent behavioral economics calls the ECMH into question, it is mainly the semi-strong form that is implicated. The weak form - which is the form that disproves charting a.k.a. technical analysis or whatever name its proponents want to run out this week - remains essentially unchallenged. 

Indeed, even younger and less developed stock markets than the US capital market have been shown to be weak form efficient. See, e.g., http://papers.ssrn.com/sol3/papers.cfm?abstract_id=551102 (United Arab Emirates). 

Even studies that claim to have found one or more weak form inefficiencies in the US stock market. See, e.g., http://papers.ssrn.com/sol3/papers.cfm?abstract_id=7129) concede that "with real transaction costs no significant abnormal return can be obtained from investment strategies that take advantage of this effect." Even studies of less efficient capital markets than the US (e.g., Russia) find "insufficient evidence to suggest that it would lead to a profitable trading rule, once transaction costs and risk are taken into account." http://papers.ssrn.com/sol3/papers.cfm?abstract_id=302287 

A comprehensive study of the question by Amsterdam economist Gerwin Griffioen concludes that: "for the U.S., Japanese and most Western European stock market indices the recursive out-of-sample forecasting procedure does not show to be profitable, after implementing little transaction costs. Moreover, for sufficiently high transaction costs it is found, by estimating CAPMs, that technical trading shows no statistically significant risk-corrected out-of-sample forecasting power for almost all of the stock market indices." http://papers.ssrn.com/sol3/papers.cfm?abstract_id=566882.

 In sum, no matter what you call it, it doesn't work. Period.

Just War for the Sake of Argument

Last week, Vatican Secretary of State, Cardinal Angelo Sodano announced that the Holy See condemned "both the terrorist attacks on the one side and the military reprisals on the other," arguing that Israel's right to self-defense "does not exempt it from respecting the norms of international law, especially as regards the protection of civilian populations." "In particular,' Sodano added, "the Holy See deplores the attack on Lebanon, a free and sovereign nation."

The Vatican statement triggered a hostile reaction from popular blogger (and Catholic) Ed Morrissey:

"The Vatican has the same fallacious notion that a nation attacked in an act of war should only respond in proportion to the original attack. Unfortunately for the dreamers at the Vatican, nations do not fight wars in that manner unless they want to lose them. When one nation attacks another, the path to victory comes with an application of overwhelming force, the kind of attack that strips the antagonist of any ability to wage war."

Let's assume for sake of argument that Hezbollah's attack on Israel was an act of war, as my fellow TCS columnists Peter Pham and Michael Krauss argued last week. Even so, Israel is still bound by the moral and legal obligations of the just war doctrine.

As Catholics, Morrissey and I are bound to evaluate Vatican pronouncements in this area under the just war standard. Paragraph 2309 of the Catechism states that war is proper only when:

• the damage inflicted by the aggressor on the nation or community of nations must be lasting, grave, and certain;
• all other means of putting an end to it must have been shown to be impractical or ineffective;
• there must be serious prospects of success;
• the use of arms must not produce evils and disorders graver than the evil to be eliminated. The power of modem means of destruction weighs very heavily in evaluating this condition.

Although Catholic scholars and theologians have thus made valuable contributions to the just war tradition down through the centuries, the principles of that doctrine apply to everyone, not just Catholics. Just war is a part of both the natural law and the positive international law. Hence, the Vatican is quite correct in holding Israel to the standards of just war.

Kidnapping two soldiers arguably is not a sufficiently grave offense to satisfy the first prong. Likewise, Israel's immediate resort to force may not satisfy the second. Yet, as Morrissey points out, If Israel had not responded with force, we might well have seen an "unending tit-for-tat volley that favors the smaller forces; it's the perfect recipe for asymmetrical warfare. Instead of limiting the damage, it guarantees that low-level war will continue indefinitely, killing and maiming people for decades." Accordingly, for the sake of argument, I'll assume that the conditions set forth by just war doctrine for initiating combat are satisfied.

The Need for Proportionality

Even so, Israel also remains bound by the fourth condition -- namely, the need for proportionality. Morrissey's statement that war justifies "an application of overwhelming force, the kind of attack that strips the antagonist of any ability to wage war," flies in the face of centuries of just war tradition.

So, for that matter, does the facially more measured analysis offered by Peter Pham & Michael Krauss in their latest TCS column:

"With respect to the jus in bello, or justice in war, proportionality means that the amount and type of force used must be such that unjust consequences do not exceed the legitimate objectives. Compliance with this principle requires an affirmative answer to the question: "If I take this military action, will more good than harm result from it?" To this equation, one must not forget -- as the critics tend to -- the many lives that will be protected by acting vigorously and decisively against the aggressor. Our response to Taliban-launched mayhem in America, massive military responses against an unrelenting and fanatical aggressor in Afghanistan, was proportionate."

Pham and Krauss' effort to turn just war theory into a gross cost-benefit analysis obscures several pertinent points. The proportionality prong of jus in bello requires that belligerents attain their legitimate military objectives with no greater use of force than is militarily justified and avoid disproportionate collateral damage to civilian life and property. In particular, civilians not be the object of direct attacks and that belligerents must take due care to avoid and minimize indirect harm to civilians.

The US Catholic Council of Bishops has specifically argued that "the targeting of civilian infrastructure, which afflicts ordinary citizens long after hostilities have ceased, can amount to making war on noncombatants rather than against opposing armies." It isn't just ivory tower academicians or left-leaning churchmen who take this view. In a 2001 issue of the US my War College's Parameters journal, for example, Brigadier General Ronald S. Mangum raised doubts about whether NATO complied with just war doctrines in deliberately targeting Serbia's civilian infrastructure during the 1999 bombing campaign.

Neither Morrissey nor Pham and Krauss acknowledge these restrictions, which leaves their arguments both morally and legally suspect.

An Historical Parallel

The current war is not the first time that some have sought to loosen the strictures of just war theory so as to permit "massive military responses" or "application of overwhelming force," of course. Indeed, there is a direct historical parallel between the arguments made by commentators such as Morrissey's or Pham and Krauss and the moral justifications offered for strategic bombing during World War II.

Historian and pundit Niall Ferguson writes that:

"... the destruction caused by the British and American air forces in their bombing campaigns against civilian populations in Germany and Japan is hardly something we can look back on with pride. Hamburg was destroyed in a firestorm code-named Operation Gomorrah; about 45,000 people died. Similar numbers perished when Dresden was bombed. Tokyo was literally incinerated in a raid that killed between 83,000 and 100,000 people -- maybe more.

Such bombing was precisely what the U.S. State Department had denounced as "unwarranted and contrary to principles of law and humanity" in 1937, when the Japanese bombed Chinese cities. And it was precisely what Neville Chamberlain, Winston Churchill's predecessor as prime minister, had dismissed as "mere terrorism," to which "His Majesty's government [would] never resort.""

Indeed, the so-called greatest generation had doubts about the morality of the strategic bombing campaign even in the midst of the war. The British denied Bomber Harris a peerage in 1946 (although they did offer him one in 1951, which he refused), even though they gave peerages to virtually all of the UK's other major World War II commanders at that time. Bomber Command did not get a separate campaign medal. And so on.

It now seems obvious, and should have been apparent than that the strategic bombing campaign violated the precepts of a just war. In particular, it violated the tenets of proportionality and discrimination. Proportionality holds that the response to aggression should not be disproportionate to the original aggression. Was the deliberate firebombing of Dresden or Hamburg, say, proportional to the Blitz? As for discrimination, there is no doubt that Bomber Harris and his US counterparts deliberately targeted German and Japanese citizens.

Waging a Just War Justly

While the Israelis have not yet resorted to carpet bombing of the Bomber Harris type, neither has their operation been as surgical as Pham and Krauss' column would have one believe. Pham and Krauss contend that:

"The Jewish state's counterattack, focused on targets such as Hezbollah TV and radio studios, and the infrastructure (airports, bridges, highways) used by Hezbollah to wage war, has been absolutely classical."

In fact, however, Israel clearly is targeting not just Hezbollah, but also Lebanon's official military, and, most important for our purposes, Lebanon's basic civilian infrastructure. The Beirut airport has been closed by Israeli attacks. Bridges, ports, roads, and power stations are all being targeted. As this column was being written, more than 100 civilian fatalities -- including some citizens of neutral countries, most notably Canada -- already had been reported. More surely will have occurred before this column is published.

In short, even a just war must be waged justly. Israel is entitled to defend itself, but is not entitled to do so disproportionately or to wage war on civilians. Yet, that is precisely what Israel appears to be on the brink of doing.

CLO Salaries

It used to be that going in-house was a second-best career choice for lawyers. Maybe not anymore.

ALMs Corporate Counsel magazine reported today that compensation for the top in-house lawyers at the nations largest corporations set new records last year.  The magazine's twelfth annual survey of the 100 best-paid chief legal officers in the U.S., published today, reveals that while salaries stayed flat at an average of $565,000, the average cash bonus and restricted stock grant received by the group approached $2 million.  In addition, more than half of the group cashed in stock options in 2005, with an average gain of $3.1 million. In comparison, the average profit taken home last year by an Am Law 100 partner at the nations 100 top-grossing firms was $1.1 million.

I can't help wondering how many of those options were either backdated or springloaded.