Broker, Trader, Lawyer, Spy (22 page)

O
NE CLIENT OF
GeoEye is Lanworth, a thirty-person firm in Itasca, Illinois, about forty minutes east of Chicago.
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This company uses images from GeoEye and other satellite providers to beat the U.S. Department of Agriculture at its own game. To understand how, you need to know a bit about how the commodities market is closely linked with the government.

Each week, the Department of Agriculture (USDA) releases several reports on the prospects for different types of farm products, such as soybeans, chicken, eggs, and farm-raised catfish. The reports detail prices, harvesting progress, inventory, and other information that goes into calculating the prices of commodities futures on Wall Street. (Commodities futures are simply contracts to buy or sell a given product.)

In a hilarious movie from 1983 starring Eddie Murphy and Dan Aykroyd,
Trading Places
, the climactic scene involved Murphy’s and Aykroyd’s characters intercepting a crop report on orange juice in an attempt to corner the futures market on Wall Street.
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Traders buy and sell futures all day long, without ever touching an actual farm product. Much like trading stocks, the game is all about predicting the future price of the contract. If you think it’s going up, buy. If you think it’s going down, sell. Or you can short a commodity, selling its futures contracts at a high price now, and then buying them back later when the price is low. You pocket the difference as profit. It’s not easy: if you guess wrong and prices increase, you’re on the hook.

In the movie, Aykroyd’s character explains the drama: “One minute you’re up half a million in soybeans and the next, boom, your kids don’t go to college and they’ve repossessed your Bentley.”
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The movie’s heroes get an advance look at the USDA crop report on oranges. With that information, they know which way the market will move and position themselves to make a fortune and wipe out their rivals.

In real life, people are trying to do something similar. They, too, want to be able to send their kids to college and buy a Bentley. Because the USDA crop reports are a key element in moving the commodities markets up and down, the ability to predict what’s in the reports has become an enticing prospect. And now that satellite
technology is available to anyone, the government doesn’t have as much of an advantage in predicting crop yields as it used to.

Lanworth uses satellite data to put together reports on the prospects for various agricultural products. Using satellite imagery of the fields, weather data, and other information that the USDA forecasters themselves use, Lanworth works up predictions of what the government will say in its reports. The company sells those predictions to commodities traders desperate for any information on what the market might do next.

Lanworth’s cofounder Shailu Verma says his customers include giant agricultural companies, real estate investment companies, hedge funds, and financial firms. “It’s not our objective to steal USDA’s thunder,” Verma says. “But if we are good, we’re generating the same information as the USDA, just a little bit earlier.”

Lanworth reportedly charges $100,000 per year for its reports,
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but the information those documents provide can be worth millions in the commodity markets. “Our customers are trying to figure out if there’s a deviation between what Lanworth is telling them and what the market expects. If there is, that’s a monetizing opportunity,” says Verma. He, too, is a fan of the movie
Trading Places
: he calls Lanworth’s business plan “the Eddie Murphy strategy.”

Here’s how it works in the real world.

In June 2008, Lanworth gathered all the data it could on the corn crop in the United States. Disastrous flooding in Iowa that month had caused more than $200 million in damage, and had thrown into question the size of the nation’s corn crop for the entire year (since Iowa normally produces a large proportion of that crop). The USDA’s annual report on crop acreage was due to be issued on Monday, June 30, at 8:30
A.M.

As the report was being prepared, the mid-June floods threw the government’s counting process into disarray, and the diligent bureaucrats at USDA went back to reinterview 1,150 farmers to find out how much the floods had affected the crops. But while
the government was working its way through that tedious process, Lanworth’s analysts were poring over images from satellites high overhead. The company uses relatively low-resolution Japanese, Indian, and U.S. government satellites, and calls in high-resolution, more expensive GeoEye and DigitalGlobe images for spot checks.

What Lanworth found was surprising. Despite the flooding, the corn crop appeared to be in good shape. Some areas that had been flooded weren’t a total loss. And although the markets were bidding up the price of corn futures—traders expected corn prices to go up as supply went down after the flood—Verma and his team knew better. The price should come down from where it was, because the corn supply wasn’t damaged as badly as most traders in the market assumed. Corn futures, which are contracts to purchase 5,000 bushels of corn, were trading at about $7.50. Verma and his team reported their findings to their clients, who made new bets in the market.

On Monday morning, right on schedule, the USDA put out its report. The first sentence of this press release was all most traders needed to know: “Despite the recent flooding in the Midwest, U.S. farmers expect to harvest nearly 79 million acres of corn,” said the USDA release.
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Prices began to fall. The government report meant that corn futures were overvalued, and traders rushed to dump them as fast as possible. Ultimately, corn futures dropped nearly $2 in value. But Verma’s hedge fund clients were well positioned to profit from the fall. They didn’t tell Verma exactly how much they earned—“These guys are very cagey,” he says—but such a sharp price collapse could have been worth millions to a trader who made a big enough bet on it.

It turns out that Iowa is not the best place to use satellite technology, despite Lanworth’s success there in 2008. After all, the state is readily accessible, and the USDA already does a rigorous job of reporting what’s going on there. Satellite technology comes in most handy to measure crops overseas, where supply affects global prices but governments don’t do as good a job reporting the details as the
USDA does. “In India, the question always is, How correct are the government estimates?” says Verma. “Are there political pressures that make them say one thing and do another?”

With a satellite, it doesn’t matter what kind of pressure the local bureaucrats are under. Verma says Lanworth makes some of its most valuable predictions on crop yields in India, China, Kazakhstan, and Russia.

And the company is moving on to other sectors. Verma is looking at ways to help the insurance industry. He’s held several meetings with investment banks hoping to use satellite surveillance to spy on Chinese factories. With a good enough picture, Verma says, his team could count the number of trucks going into or out of any factory in China, and get a good sense of that facility’s production rates. Those rates will affect the costs of products in the United States and the stock prices of any number of companies around the world. Verma predicts that Lanworth will be selling such analyses soon.

I
N MANY CASES
though, companies aren’t spying into foreign countries, or even looking at competitors. They’re spying on themselves. Take Wal-Mart, the world’s largest retailer. This company hired GeoEye’s predecessor several years ago to take satellite pictures of its stores. Wal-Mart knew where its best-performing stores were, but it wanted to know why they were doing so well. What made these stores so profitable?

The satellite company took pictures of the locations and analyzed the images.

GeoEye recruits many of its employees from the military and intelligence agencies. Walking down the halls at any time, you can bump into veterans who were trained in the military in battle damage assessment (BDA). The same skills they used to decipher images of blown-up Iraqi military hardware can be used to interpret pictures of Wal-Mart’s parking lots.

The satellite analysts looked to see what it was about the placement of the stores in their communities that made them successful. What were the housing demographics? How close was the nearest high school? What were the road patterns? They dug deeper. Did the parking lots have room for trailers, where RV owners could plug in and charge up their vehicles? Did the doors face north, south, east, or west? How many entrances did the parking lot have? Were there islands with trees in the parking lots, or were the lots just large expanses of asphalt?

From the detailed analysis, Wal-Mart was able to create templates of success: a list of all the things that successful stores had in common, such as the neighborhoods where they were located and the configurations of their parking lots. And then the company could make sure that all its new locations had as many of those features as possible

For all its sophistication, this kind of analysis is not very expensive.

Imagery from the company’s extensive archive costs $7 per square kilometer, with a minimum order of fifty square kilometers. That makes the minimum purchase price $350. At the top end, accurate 3-D map images can cost as much as $30 per square kilometer. A few thousand dollars will generate the highest-quality images of any relatively large location in the world. A company can also pay extra fees to keep the images it seeks out of GeoEye’s archive for several months, or indefinitely.

With a GeoEye satellite, companies can see objects the size of home plate on a baseball diamond, and with GPS technology, they can plot that object’s location anywhere on the planet to within nine feet. It’s a spy’s dream.

S
PY SATELLITE TECHNOLOGY
wasn’t available at all to private individuals until 1972, when NASA launched the first civilian remote sensing satellite, Landsat-1. The images that this satellite delivered
back were eighty-meter resolution, too rough for much commercial use. The technology remained largely in the hands of scientists and teachers.
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Early on, the U.S. government established a key principle called “nondiscriminatory access.” Landsat images would be available to anyone who requested them, for a price.
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In 1979, President Carter transferred authority over the Landsat program from NASA to the National Oceanic and Atmospheric Administration (NOAA) and pushed NOAA to help expand the civilian satellite market. But the corporate world was slow to realize the potential of the available satellite images, and Congress had to act again in 1984 to push satellite images into the private sector. The legislators did this by turning the entire Landsat program over to a private contractor, Earth Observation Satellite Company (EOSAT), a joint venture of RCA Corporation and Hughes Aircraft Company.

But the government didn’t come through with expected federal subsidies, and the venture faltered. Without much federal cash flowing into the program, prices soared to a point where one image could cost $4,000 or more. Academics and many scientists were priced out of the market, and the number of orders dwindled. EOSAT limped along for the next several years as a cobbled-together public-private partnership. It had to go hat in hand to Congress for funds.

By the early 1990s Congress and the Pentagon had begun to panic. The French had launched two satellites of their own, which were selling more pictures than the Landsat program was. And in 1991 the Gulf War in Kuwait showed the Pentagon how helpful satellite imagery could be during a land war—planners began to realize that a thriving commercial satellite system could be a national security asset if another war broke out.

Congress weighed in with the Land Remote Sensing Policy Act of 1992, which shuttled the troubled Landsat program back into the purview of NASA and the Department of Defense, and streamlined the licensing process for potential corporate satellite
operators. That move, and the end of the cold war, helped lift the culture of secrecy from the satellite community. Companies began to issue optimistic predictions of the size of the future commercial market.

In early 1993, WorldView, Inc., became the first company licensed to operate a commercial land view satellite. WorldView’s corporate descendant is DigitalGlobe, which is still going strong today. Since then, NOAA has issued seventeen licenses.
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As the 1990s went on, advances in computing technology and the availability of broadband Internet access meant that a much wider audience had the means to access and process satellite images instantly. And in 2006, Google introduced its GoogleEarth application, bringing instant satellite images into the home of anyone in the world with an Internet connection.

But even as the government pushed for two decades to get satellite technology into the private sector, it placed restrictions on how far that technology could go. Today, companies like DigitalGlobe and GeoEye operate under several federal constraints.
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First, image resolution is limited to 0.5 meter and higher. That means that the U.S. military and intelligence agencies still maintain an edge in picture clarity. By some accounts, American military satellites can see images as small as ten centimeters, but their true ability is classified.

The U.S. government also maintains what’s known as “shutter control” over American satellite imaging companies. This means that at any time, for national security reasons, the feds can declare any part of the world off-limits for U.S. commercial satellites. This provision was written into federal law in the mid-1990s when defense experts began to worry about the implications of having such sophisticated spy technology available in the private sector. They were thinking of General Norman Schwartzkopf’s famous “left hook” maneuver in the Gulf War, in which American armored units swept hundreds of kilometers to the west of the location where Iraqi forces were expecting them. Surprise meant
everything in such a situation. What if Saddam Hussein’s forces could simply have downloaded satellite images of the American positions from the Internet? That would have been a disaster for Schwartzkopf’s troops.