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The Skyscraper Indicator

By Victor Niederhoffer
Saturday, July 15, 2006

Far too often, a company, country, or civilization builds a tall, lavish building and experiences disaster shortly thereafter. Start in Babylon, circa 2800 B.C., when the conqueror Nimrod attempted to build “a tower that reaches to the heavens, so that we may make a name for ourselves.” The Lord, we are told in the “Book of Genesis,” threw the builders into confusion, halting construction permanently.

Right up to modern days, the landscape is littered with disastrous examples of the tendency to build high before a fall. The soaring towers of Southeast Asia, completed before the 1997 crash, come to mind. The world’s current tallest buildings, the Petronas Towers, were completed in Kuala Lumpur in 1997, the year the Malaysian stock market fell 50 percent. The December 28, 1999, christening of the world’s largest video display, the Nasdaq’s $37 million MarketSite Tower in Manhattan’s Times Square, came just three months before a 70 percent, 18-month crash in the Nasdaq Composite Index. Enron had almost completed a lavish 40-story tower designed by celebrity architect Cesar Pelli when it filed for bankruptcy in 2002.

John Newbegin, who runs a Web site called nycskyscrapers.com, wrote us: “I was totally fooled as to Enron’s true financial condition] by the beautiful building... They appeared to be by far the most prosperous of all the energy companies I saw, judging from the appearance of the edifice. I was convinced that they were huge and had all kinds of innovative assets and infrastructure all over the U.S.”

On October 10, 2002, Enron’s brand-new skyscraper, complete with an eight-story-high trading floor, was sold for one-third of its $300 million cost to help pay off some $50 billion owed to creditors.

As we write in 2002, the new “tallest” building, the Shanghai World Financial Center, is under construction in China. Even higher towers are proposed for India and New York. Investors should beware.

Our friend Don Siskind, one of the most respected real estate attorneys on Wall Street, singled out the Lloyds of London building, Drexel Burnham Lambert’s 7 World Trade Center offices, and David Paul’s savings and loan in Miami as prime examples. “All of the foregoing took more or less the shape of a phallic symbol,” he noted.

For further insight into the phenomenon, we consulted William Mitchell, dean of the School of Architecture and Planning at the Massachusetts Institute of Technology, in an interview and series of e-mail exchanges. In a seminal December 1997 Scientific American article titled “Do We Still Need Skyscrapers?” Mitchell had argued that the computer and telecommunication revolutions have reduced the need to keep centralized paper files and assemble office workers in expensive downtown locations. After the destruction of New York’s World Trade Center on September 11, 2001, his ideas seem remarkably prescient.

We found Professor Mitchell in an office stacked with skyscrapers of bookshelves twice his height. (The intensive use of capital in the form of book stacks in the very valuable and limited space available in the office provides a nice metaphor of one of the major findings in urban economics: The more valuable the land, the more economical it is to build higher buildings, so as to concentrate capital and labor.) It turned out that the professor is a man of many hats as well as provocative theories. He writes a book every year or two, serves as dean of the school, teaches a few classes, and serves as architectural advisor to the president of MIT on a massive half-billion-dollar center for computer, information, and intelligence sciences.

The World Trade Center attack, Mitchell said, highlighted yet another argument against skyscrapers: security concerns. Vulnerability to natural disasters also argues for decentralization.

We pressed Mitchell for examples that support his assertion that skyscrapers were becoming dysfunctional. Since his daughter is attending New York University’s Stern School of Business Administration, we asked him to imagine what he might say to her graduating class about the lessons architecture holds for investors.

“Skyscrapers,” Mitchell said, “exist essentially to exploit concentrations of infrastructure and population in urban centers.” Downtown land is expensive, so there is a motivation to build as high as possible to reap the maximum return on investment. “But, the higher you build, the greater the proportion of each floor that must be devoted to structure (holding the building up and providing resistance to wind) and to vertical circulation (elevators, pipes, and ducts). No matter how valuable the site, you eventually reach a point where it makes no economic sense to add another floor. It is technologically possible to go beyond this point, but the reasons for doing so are ones of pride and prestige, or bragging rights about being “the tallest.” Manhattan’s World Trade Towers and Kuala Lumpur’s Petronas Towers are clear examples of skyscrapers that were pushed higher than the point of rationality in order to gain attention and prestige.”

Investors, he went on to say, should take a good look at organizations that seek the title of “the tallest.” “I suspect you would find that going for the title of ‘tallest’ is a pretty good indicator of CEO and corporate hubris. I would look not only at ‘tallest in the world,’ but also more locally—tallest in the nation, the state, or the city. And I’d also watch out for conspicuously tall buildings in locations where the densities and land values do not justify it; skyscrapers make a lot more sense in Hong Kong than they do in Omaha.”

“When it comes to buildings,” he concluded, “bigger may be better, but biggest usually isn’t best.”

Good investing,

Victor Niederhoffer and Laurel Kenner
-From Practical Speculation, Copyright © 2003 By Victor Niederhoffer and Laurel Kenner. Reprinted by arrangement with John Wiley & Sons, Inc.

Editor’s Note: Victor Niederhoffer’s storied career as a speculator spans more than twenty-five years. Niederhoffer is the author of two critically acclaimed books on markets and speculation - Education of a Speculatorand Practical Speculation with Laura Kenner - as well as numerous groundbreaking academic articles about markets. A magna cum laude graduate of Harvard, he holds a doctorate in economics from the University of Chicago Graduate School of Business. He is a five-time national champion in squash and claimed the world title in 1976.

You can order a copy of Practical Speculation here.





Market Notes


ANOTHER CONSUMER SPENDING LEADER BITES THE DUST

To a long-time shareholder, Whole Foods Markets Inc. is like a member of the family.

From its IPO in the mid 90s, the high-end grocery chain has been one of the stock market’s biggest winners, gaining an average of 26% per year.

In addition to a brilliant business model, Whole Foods owes its success to the growth of American wealth. After all, most people don’t really need to drop $200 at the grocery store.

As you can see from this week’s chart, Whole Foods has joined “spending sensitive” stocks like Tiffany’s (jewelry), Martha Stewart (media & home furnishing), Barns & Noble (books), XM Satellite Radio (entertainment), and Wal-Mart (everything) on the list of stocks at new lows for the year.

We usually ignore analysts who predict the death of the American consumer. They’ve been wrong for over thirty years. But right now, bears on consumer spending are having their day…

Whole Foods breaks down and hits a new low for 2006



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