The question came up about China being both a recipient and giver of foreign aid. Actually this happens with many countries. On the face of it, this seems like an absurd and illogical situation, but it brings up interesting questions about these funny money flows. To understand this, we need to look at these transactions beyond the mere exchange of money in the bank, and we need not stop with foreign aid.

When countries or individuals give, it is not a simple money transaction, but it is to fulfill some economic, political, social, or moral directive. Economically, a household or a country may be both an investor and a borrower, as this may improve the rate of return. Politically, a country may use aid for leverage, and aid in this case is simply a mediator of complicated leverage relationships that happen to have cycles. Socially, much the same happens, except in this case it is a mediator of social cohesion and community. Morally, the decision to give may be completely independent of one’s own financial condition, and hence there is no dilemma; an excellent example is that a street-begger may also give, and in fact people are often moved by this. Something less dramatic is more evident: by living in a community, everyone is receiving some form of services of value, but that does not prevent that person from giving.

Sometimes, direct money transactions given in numeric terms tend to obscure the above points that, in retrospect, seem fairly obvious.

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This guy proposes the use of a 2x leveraged market ETF to “beat” the market in the long term, assuming the market goes up in the long term (that is, the value of the mean path at a much later time is higher, or, perhaps just the marginal expected value is higher at a much later time).

It seems like a nice idea, but something is off. Firstly, these are leveraged portfolios with forced daily rebalancing, so depending on the amount of daily price variability, there is a non-trivial loss of several percent a year on top of costs. If a long-term leveraged position is wanted, one may as well buy the appropriate derivatives that underlie these ETFs, if that can be done.

Secondly, leverage is not free. This WSJ article nails the fixation on returns …

Until recently, public companies, mutual funds and pension funds generally steered clear of such risks. But the lines between risk takers and mainstream investors are blurring. In part, that’s because stock-market returns aren’t what they were a few years back. Between 2000 and 2006, the average annual return on the S&P 500 stock index was 2.5%, down from 28.7% between 1995 and 1999. Using derivatives and borrowed money is one way to try to boost returns.

… but although the return is better, the risk-adjusted return is more useful to look at. With true 2x leverage, only the risk premium is doubled at best, not the total return. On the other hand, if true 2x total return is supplied as they say, the implied leverage, and hence risk, has to be much higher than 2x. That’s something to look out for. Granted, the amount of leverage can be adjusted by weighting with the 1x portfolio.

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