Designing better futures

the ABX index continues to slide

The ABX index has 20 components in it and tries to reflect the value of complex pooled assets that have been securitized and traded between 16 of the largest banks.  This is a small world specialized market, but very important to showing what is going in the world of more exotic forms of u s debt.  I wrote about this awhile back and said it would be getting worse.  It is.  Here are 2 pictures.  The first picture is for junk rated AAA just like US govt. bonds.  The second picture is for the really toxic debt rated BBB.  It isn't pretty.  Basically a loss of 7% and 45% respectively.  Hmm a few more hedge funds are facing some real problems and the CDS and guys aren't happy either.  Considering that some of these guys will leverage this stuff 5-20 times.

Predict anything...kind of

 

Now here is a neat trick, using Gott's interpretation of a Copernican observation.  You can predict the likelihood of almost any event terminating based on how long it has been happening so far.  Gott made a famous observation about the Berlin wall falling and got it right :) 

I took Gott's math and converted into a handy predictor excel sheet for you.  This is sure to wow your friends.  To read about the estimates behind the end of mankind (no kidding) check out this new york times article. 

Gott is a pretty interesting astro physicist at Princeton university and deals with the anthropic nature of cosmology and universe. 

Me, I am just a sucker for good probability and Bayesian type party tricks. Feel free to download the Nick Gogerty predictor Download observation.xls to wow your pals with.  Please don't pull this out on a first date unless she is a math major.

Warning finance geek speak: If you are a quantitative hedge fund manager or event driven macro trader it may spark some ideas involving long dated Volatility and drift ;) as this allows one to tweak certain Volatility assumptions with event probabilities, such as extreme exogenous shocks or cessation of existing regimes.

Hidden Asset: culture

When I was in college and working at my first software start-up, my buddies (colleagues) and I were flown into a company to meet with some project managers etc. about collaborating.  This was a big deal for us, we were all in college (high school) or about to be and this would be our first major customer.

I was the "experienced" member of the team (CEO) being all of 21.  We introduced ourselves and backgrounds.  I explained, that I was studying anthropology, this got a laugh from the mid-level manager I was meeting with.  He wanted to know what "good" anthropology was. 

I explained to him that within 5 minutes of walking through his company, I had identified indicators of it values, belief system and organizational structure.  As I get older, I realize that a field anthropologists viewpoint can identify a lot of interesting things about a company that may be more important than the balance sheet. 

The book Less is More by Jason Jennings, is a study in productivity.  It is similar to Good To Great in that it seeks to capture the traits of winning companies.  Most of the you will have heard of.  The general consensus is that it is culture.  Whether it is NUCOR Steel, RyanAir, IKEA, or other world productivity champions, the final assessment is that culture and values are what allow these firms to win again and again.  The traits identified with runaway corporate success are:

1. Attention to Detail
2. High Moral Fiber
3. Embracing simplicity
4. Competitiveness
5. Long-Term Focus
6. Disdain of Waste
7. Coaching style of leadership
8. Humility
9. Rejection of Bureaucracy
10. Belief in others
11. Trust

Taken out of the full context of the book, they sound like obvious platitudes.  They aren't.  Think about it, how many b-school courses have these as titles.  How many companies acknowledge individuals for these attributes.

The companies highlighted in the book live and breath these values even when they appear out of fashion. Think of "Creative accounting", Greed is good ethos, EGO based leadership etc. 

There are some great quotes from the book:

Men stumble over the truth from time to time. But most pick themselves up and hurry off as if nothing happened.  Winston Churchill

Management is doing things right; leadership is doing right things. Peter Drucker

According to Less is more the average life of a corporation is 12 years.  The ones that count are the ones that instill values in people that extend to serving customers with humility and value.  I think thats important.  Reading this book combined with a bunch of other reading I have recently been doing has made appreciate the value of culture in a corporation. 
Recently I have been assessing the value of technology companies, I firmly believe that the only great competitive advantage a firm can have is its culture.  Patents, markets and brands come and go, but if a solid culture with the 11 traits mentioned above is lived and breathed by all the members of an organization, then they really have something powerful.

Amazing battle and hero of the war against Smallpox

A fantastic video 25 minutes with Larry Brilliant who now heads up google.org, the charity arm of Google.  Next to the Bill and Melinda Gates foundation, this is probably one of the most important organizations that you have never heard of.  They will never be recognized by most people.  These are real hero's.  Forget sports stars, Paris, posh, Becks and Lindsay Lohan etc. I want to be surrounded by people like Larry Brilliant. Smart, effective and changing the world for the better.  A very interesting insight into how a web search engine can fight and mitigate disease

?'s are the most important thing.

I just finished reading Change your Questions change your life.  It is an interesting book which is all about a questioned centered approach to life. 
For many people this might sound frightening as it presumes they don't have answers.  From my perspective there is nothing more interesting or intriguing than a good question.  A question centered approach to life allows one the ability to learn, listen and grow.  It also implies a degree of humility and ignorance.  Acknowledging ignorance is a far more powerful position than positioning oneself via expertise. 
The most interesting and best scientists, leaders and managers I have worked with always had questions curiosity and a desire to discover and learn.  Experts fear being "found out" to not have all the answers.  If you have a chance pick up the book Change your Questions change your life, it is a fun read.  Its proposition is to not judge, but to question and then listen others and yourself.  This falls very much in line with Carol Dwecks' excellent approach to leadership and education.    Learning, listening and questioning makes people far more interesting and capable to lead and grow.   I have two ears and one mouth, I try to use them proportionally.

Buy Zero Coupon Euro Denominated Bonds

OK, this blog is getting very financial, here is why.  Things in the subprime mortgage and US financial markets are nasty.  Forget last weeks 5-7% decline in equities, that is just noise.  The real story is in the US housing market and the securities riding on the back of it namely the CDO's and CDS's (collatorolized Debt obligations and Credit Default Swaps.  These esoteric sounding things don't show up on newspaper, but the trust me they are important.  Here is an interesting article entitled Subprime could create global crisis, economist says

My own personal suggestion for those who may have a money market mutual fund or cash in the US, don't dump your equities, they are a long term play, but your cash or debt should shift to zero coupon govt. debt denominated in Euro's, try a fund or ETF if possible and try get something with a duration of at least 8 years.  If there is a flight to quality, it will be govt, bonds and they won't be $ denominated.

Genes, Toys and genius

Craig Venter the man who really sequenced the human genome attributes his use of Shotgun sequencing which allowed him achieve this feat to his use of Tinker Toys as a child. 

Venter almost flunked High School, but scored in the top 1,000th percent on a military IQ entrance exam. In true scientific tradition the Noble Prize winner Watson, said what he wanted to do couldn't be done.  Venter went ahead and did it.  He proved the NIH  National institute of health wrong.  A classic case of rogue genius overcoming the establishment to make things happen. 
Never underestimate the value of creativity, play and determination to change the world. 
If you want to watch Venter in video check him out being interviewed by Charlie Rose.

Asset Allocation & the magic question

Asset Allocation is the sport of kings.  Ok not really, but in terms of returns allocating between Cash, bonds and equities it is more important in determining investor returns than the individual securities you hold.  For those of you not versed in asset allocation etc. or aware of the nature of risk associated with Market timing.  please buy an S&P 500 index fund.  Generally if you are under 65 years of ago. You should put all of your assets into it.

Ok The interesting fact is that your asset allocation strategy determines over 93% of your long term portfolio returns.  It was more important than sector, security etc.  If you don't believe me check out the paper here.

Ken Fisher's firm has the right approach, here is a diagram I lifted from his site.

I first came across the importance of asset allocation while reading an earlier edition  of Asset Allocation in by Gibson while writing my masters thesis on hedge funds.  I just re-read my copy for fun today.  The central tenants still hold true.  People who focus significant amounts of time on securities should instead scale their efforts in proportion to the determinant factors of return. Think about your asset allocation a lot.
In general people are under weighted in equities and over weighted in either cash or real estate.  If you want to become a professional money manager read Asset allocation. 

Another important thing to remember as a money manager/investor is that money flows out at all the wrong times.  When I was designing quant hedge funds in the late 90's, I discovered an interesting phenomenon that you won't hear about from your stockbroker etc., almost every investor under-performs the investments they are in.  If you study the flow of money's into funds people buy high and sell low.  Say a great hedge fund has yielded 22% net of fees over the last 5 years.  You will discover the majority of investors will under perform the fund.  People will have purchased the fund when it was hot and dumped it when it was cold, the exact opposite behaviour they should have done.  Ideally of course the sit and hold. 

The magic question for investment owners.
Many people ask my opinion about selling this or that share, security or investment they have.  I usually know very little about these individual investments much less what is going to happen in the future to them.  I can start a conversation on Price vs. Value etc.  But the single best question I ask of someone is the following.

"Given everything you know today about the price and value of the investment, If given the opportunity would you buy more today."

If the answer is no then sell it.  Simple really, but an interesting twist on psychology and it usually gives people an interesting perspective on something they already own.  Framing a question can be big help in coming to an answer.  By the way 99% of the time the answer should be hold onto it.

Wrongful Life.. and genetic testing

A legal term called Wrongful birth has been used in conjunction with the failure to use a genetic test for screening an infant.  A couple has a child, the child is mis-diagnosed.  Child #1 has an inherited genetic disorder.  The family has Child #2 who has the seem severe condition.  Family sues for lack of genetic testing.  Read the blog entry from Hsien Hsien Lee here.  The ethical implications are large and another point for debate.  I will just address the technology and business issues at this point.  I try to keep politics out of my blog. 
Genetic screening will become mandatory in the near future 4-7 years.  This will be caused by doctors wishing to Mitigate liability. 

The active filtering of who lives and who dies will be determined by genetic tests more and more.  Today technology keeps alive individuals who wouldn't be here, it also contributes to their deaths.  Think of incubator's, anti-biotics etc.  "Technology" in the form of sonograms combined with infanticide is one of the causes indicated by Amartya Sen for the missing 100 million Asian females. 
Genetic screening is going to be a vertical market as people clamor to know more and choose how to respond.  The power of life and death in all forms brings with it huge responsibility, let's hope it is used wisely and compassionately.  We are on the verge of learning more about our own mortality than any other generation ever.  This will shape us as never before.

Mortgage mess

The graph shows the price of a CDO index rated AAA.  full info is here.

I have been a bear for 5 years on real estate and been wrong for 5 years.  The graph shows some of the prices for CDO's which are bundled securities.  this particular index has securities from Morgan Stanley, Merill Lynch and other big houses in it.  The scary thing is that this shows a market trying to price in anticipated default risk at the quality end of the market.  Any PHD doing VaR modelling or other standard stochastic modeling wouldn't really have seen this coming, especially in the "high grade paper".  This market will most likely get over sold in the near future as sellers start dumping paper to cover margin calls and get their risk capital positions back in place.  In the mean time spreads will widen in this space.   So far this is a Wall Street event, but it may be a predictor of a main street event in the next 9-12 months when many ARM's reset and the reality of negative equity sets in.

invite the virtual world into your home

Virtual world's will become important.  Nintendo which understands that gaming is about fun and not pixels (sorry Sony and MSFT XBOX) is on a rampage.  More people will be inviting Nintendo into their homes to work-out and play.  It will be interesting to see what happens when the Wii links up with social networks and virtual environments in the years to come.  Your Tennis partner may be be in mumbai.  Our experiences and world is getting richer in choice all the time.  Nintendo is a company going places ADRs are here still need to assess the fundamentals:

The only 3 questions that count.

  The only three questions that count, by Ken Fisher is probably one of the best investment books I have read in the last 10 years.

Ken Fisher is the son of Phillip A Fisher and a great investor.  He manages $30 billion and is personally a member of the Forbes 400.

His theses on investing make a lot of sense.  I have been reading his column for years in Forbes.  Fisher is the only columnist, I ever recommended to anyone as being worth reading.   He is  fond of empirical data, questioning assumptions and trying to discover new things.  This requires a degree of curiousity and humility which is deeply refreshing.
  I was reminded of reading Karl Popper's thoughts on Science and Thomas Kuhns work on the importance of the falsifiability of a hypothesis, while finishing Fisher's book.
Fisher likes to think things that others haven't thought or at least thought through.  He discounts the crowd and looks where others don't.  He isn't a simple contrarian, but rather suggestes using original thought and empirical analysis before investing in an idea.  I like this.  It is amazing how little people actually study money and their own investments. 

One concept many held true in the U.S. was that home prices across the country in aggregate couldn't go down, because they never had.  This is unfortunately proving false.

I would urge anyone who is investing to read Fisher's book, it is one of the best around.  The only thing he hints at that I would have liked more insight into is Asset allocation (allocating between bonds, equities and cash).  His advice is that this is market timing and most of the time for most people a full equities situation is best.  Fortunately I am going to re-read my old copy of Asset Allocation from Gibson. 

If you don't have time to read Ken Fisher's book and have less than $300k to invest, please go buy an S&P 500 Index Mutual fund from Vangaurd and sit with it for a long time.  Remember, even if your are 50 today, your investment horizon is probably 30-35 years.  Park your money in an S&P 500 index mutual and don't look at it.

Accounting tricks...not for kids

According to a recent article in the Economist 1,000 hedge funds are estimated to have used "mark to model" techniques to smooth out returns according to Risk DATA.  This is a dangerous and foolhardy game.  Many buyers could argue (legally) that the "risk" component of their investment was mis-represented by this smoothing. 
My own opinion is that funds should report results on a mark to market, mark to model, VaR and Cost basis.  If they can't mark to market, then mark to cost or provide data for others to make their own conclusions. Many managers complain this would tip their hands to competitors.  My own belief is that the hedge fund universe will be contracting a bit in the future as too many entrants pursued it as a compensation class and not an asset class.  Hopefully a little economic Darwinism makes things better for everyone else.  We can also hope this is a "wall street" issue and not a "main street" issue.

The CDS and CDO market are just the most visible areas of abuse, but may actually have performed their function of transferring real estate default risk away from overly concentrated poor geographic neighborhoods.  Now if Greenwich and Manhattan can just take the economic heat from these poor investments. 
Soros among other doesn't like barrier options and some of the other more esoteric instruments that are more about taking a bet than really transferring risk or providing some useful economic function.  My own bias is to keep it simple, if you have to call higher powers than algebra or a black scholes (Thorpe Bachelier ask Taleb) model to price something, you may have entered voodoo economics.

Homer Simpson offends pagans in Dorset

Homer Simpson offends pagans in Dorset Tuesday, 17 July 2007 Pagans have pledged to perform "rain magic" to wash away cartoon character Homer Simpson who was painted next to their famous fertility symbol - the Cerne Abbas giant.

The 17th century chalk outline of the naked, sexually aroused, club-wielding giant is believed by many to be a symbol of ancient spirituality.

Pretty hilarious if you ask me.  The original one was marketing as well, it just lacked the irony :)

Volatility Caveo : volatility beware

A lot of people don't realize how bad losing can be.  Behavorial economists, show that we psychologically feel loss about 2.5 times greater than gain.  Thus finding $10 and losing $10 isn't the same thing.  If you lose $10 it feels like a $25 loss. This is psychological.
In investments and fund management a mathematical truism is in place.  If you buy a share in a company or fund and it loses 50% of its value, that same share has to gain 100% from that point onward for you  to be at break even.  This relationship of the  "extra" effort required by an investment is shown  in the graph.   Basically after 12% the extra return required is climbs fast.  The first objective for an investor is to not lose.  Seek safety and think long term.  Another interesting fact is that most fund losses and points of maximum loss (peak to trough extremes) sometimes referred to as drawdowns are highly correlated with the volatility of a funds monthly returns.  Years ago I did work in studying hedge funds and found this correlation between volatility and maximum drawdowns held true statistically.  This makes sense as a hedge fund manager can't predict their own monthly or yearly returns.  If they could they would control for it.  Thus if you are selecting a fund, a recommendation is to look for a fund with a  monthly volatility of less than 25%.

Meeting Dr. Fractal and good dinners

Way back in the past, a long, long time ago when dinosaurs roamed the earth and I still had a bit of hair, I was involved in a financial modeling workshop on behalf of Starlab.

Here is a picture of myself with Dr. Keith Still (far left), Benoit Mandelbrot (middle) and me.

We were working together at conference in Texas in 2001 over a weekend.

One of my favorite things to do is have a good dinner conversation over a bottle of wine.  When I worked at Starlab, I lived on site and used to do just that.  I considered myself fortunate if I could rope  people together for a meal.  I found myself surrounded by PHd's in Math, Physics, Biology, Robotics, Artificial Intelligence etc.  This is a fantastic way to spend an evening, just listening to learn how each of them viewed how their world works or could in the future.  Some of my other friends were sociologists, architects, musicians, designers etc.  Most were from all over the globe, usually I was the token American :)  Great meals and great conversation. 

Today, I am lucky and so are my dinner guest in that my wife likes great conversation and is an amazing cook, this means better food for the guests. I do the dishes :)

Back to Mandelbrot, he is one of the most famous mathematicians alive today and I have a great deal of respect for him, he never sold out or allowed his name to be used improperly.  He discovered many interesting aspects of financial markets among his work in mathematics. To my knowledge he never allowed his "brand" to be used in a way that might mis-represent the truths he found in finance.  He was a nice and  bright man with a gracious wife. 

I had the pleasure of working with Dr. Keith Still in Brussels, again a bright man gifted in many areas of science and possessing an interesting ability to analyze and put things together.  He is one of the world's experts on movements in crowds and egress.  He has done work in modeling irregular heart beats, foreign exchange and a few other fields, truly a polymath, no pun intended.  He possesses a a great knowledge of modeling complex systems with multiple interacting agents.

One afternoon Keith introduced my to his mentor  Dr. Ian Stewart (Mathematician) and Dr. Jack Cohen  (biologist) I conjunction with Keith, Ian and Jack was a Stem Cell biologist.  We had a 3 hour lunch in an English pub in Warwick.  Great stuff, funny conversation and incredible opportunity to try and keep up with everyone.  We spent the whole time discussing morphogenesis and other fascinating topics.  A great afternoon. If you get the chance check out some of Stewart or Cohen's books they are great reads for the layman or sci-fi fan.

CDO's raining down. Get a Eurobrella!

Ouch the CDO situation is sadly going the way I thought it would. 
It won't be getting any better soon. Expect to hear a lot more noise in the future as hedge funds mark to market positions with some very ugly numbers. 

The fallout will continue and U.S. credit spreads will widen in the flight to quality.  My recommendation would be to invest in Sovereign Euro deonominated Zero Coupon Bonds.  If you don't know what that phrase means just do the following:

1. stick to index funds
2. Act long term.
3. and as they say in the hitchhikers guide to the galaxy.  Don't panic!  :)

The graph is taken from the big picture. Read it carefully.  It reflects AAA rated mortgage backed securities.  Houston we have a problem.

the $1.6b tech buyout you never heard about.

people don't really know about the technology behind genes etc.  The firm Digene was just acquired for $1.6b in early June.  It barely mentioned a rating in red herring etc. and most of the "tech" blogs.  Digene works in the diagnostics area, which is going to be huge in the future.  Digene specifically works in cervical cancer and its relationship to the Human papillomavirus. 

Prepare to hear about a lot of diagnostics companies getting bought out in the next few years. It is the wild west of diagnostics as DNA, biomarkers and precursors become huge business. 

The risk reward and potential ROI is higher than making molecules such as big pharma and the path to profitability significantly shorter and in most cases the market is larger and more consumer oriented.  Big pharma may be less topical an acquirer in these spaces than Johnson and Johnson and other types of FMCG's in the next years. 

Look out for someone to be building the P&G of in store/take home diagnostics, that via a mega roll-up. 
  The technology isn't quite there, but the regulatory shifts and advances will make it huge in 3-5 years.

It is official: Vista blows goats

Chris Pirillo has thrown in the towl  I know my next XP upgrade is going to be a mac.  Vista is by far the best advertising campaign Apple has ever had.  The enterprise won't wake up for 4-5 years and will explore Linux (Ubuntu anyone).  I told my development team the same thing in mid 2006 prior to release when we looked at the beta. 

For those of you invested in MSFT I predict a target of $20 by Q2 of 08,  and calls for Ballmer to be replaced by Ray Ozzie, that will unfortunately go unheeded due to Ballmer's ego and shareholding.

  and please change Steve Ballmer's meds: see Video... 

Stock selection method from Fisher

I just finished, Common Stocks and Uncommon profits by Phillip Fisher.  He is the father of highly successful money manager and Forbes 400 member Ken Fisher. 

When it comes to equity investment selection he knows his stuff.  Father and son are different in style (growth vs. value opportunity, but both interesting.

The book by Phillip is good for the investor looking into a technique he used which is simple, straightforward and involves hard work. 

Warning: If you are an amateur (someone who doesn't know the difference between a capital and operating lease) buy an index mutual fund and sit back and relax.  Don't trade or invest.

For those of you who want to invest consider the following.  Assume you will put in weeks to months worth of work to select a company to invest in and then only buy what you believe you would be willing to hold onto for 5 years or more.  Only pick a company that you trust and know so much about that you don't need constant quotes to make you feel comfortable.

Fisher has a basic and sound approach, buy good companies and hold onto them for as long as you think they are good companies.  Don't time the market, don't get impatient.  He asked his investors to give him 3 years for his "ideas" to work out. 
Here is a diagram I made highlighting his approach.  The numbers  and diagram are my interpretations of single security selection.  There is a lot more to it of course.  Start at the bottom.

1. The basic ideas is to start with basic screening to find firms with growth, earnings and price that meet your criteria,
2. pursue what Fisher calls the "scuttlebut" or knowledge in the market place of vendors, suppliers and customers about the company. 
3. After that meet the management to assess integrity and clarity of vision. 

This leaves about 1 of 600 of the original companies as suitable for investment.  I like the Fisher's discussions and emphasis on management integrity, something Buffet spoke of.  Honesty is vital as they relationship an investor has with a firm is long term.   The more I learn about management and successful organizational culture the more I appreciate how important communication and integrity are.

Many of the skills required for discovering "scuttlebut" and assessing management are social skills, similar to those learned in field anthropology.  I look forward to using them.  If you are going to be an investor read Fisher and Graham.   Be slow to select and then hold for the long term.

VOICE ARPU takes a little hit.

A little services company in the UK called Truphone which lets people place free wi-fi calls on their phones has just won a very interesting court battle in the UK.  Basically the large carriers are trying to protect their pricing margins for voice traffic.  The sad fact is that this game is over and that charging for Voice will be a very antiquated business model in 5 years time.  You will just buy data access that is it.

This will induce commodity pricing and should scare anybody on the carrier side.  Vodafone (verizon in the US) will lose significant value, especially from international calls, roaming will be a scam for some time to come.

The mobile software service providers, skype, consumers and handset makers are all going to win from this.  I repeat, this is a big win for consumers.  It won't hit stateside for awhile (still waiting for the FCC to start fighting for consumers) and the average (non-geek) in the UK won't really notice anything for 18-24 months, but eventually your phone will get cheaper and a lot cooler.

Image source

empiricism and copyright: a trillion $ question

An interesting paper calculates the optimal period of time for copyrights and sets it 14 years and declining.

Now before most of you fall asleep please think about what this means in our modern economies where brand, IP and other intangible assets define the "differential" values in our economies e.g. that which is above commodity level.

I am not capable of commentary on the efficacy, accuracy or correctness of the paper, but am fascinated by the implications:

• Copyright has an optimal protective value that is waning as reproduction and production technology makes IP cheaper to create and/or repurpose
• Copyright has a quantitative proximal value
• IP can be rationalized in terms of benefit

The outcomes of this approach and hopefully subsequent papers could be the following in years to come:

• Change in terms of all IP protection (trademark, patents) periods and mechanisms
• A better understanding for valuation of IP assets: How much is Mickey mouse worth?
• A framework for determining more effectively if only slightly the economics of new media technologies
• A framework for assessing the impacts of distributed information and access.

These are bold claims from a single paper, but huge new grounds and challenges for economics and eventually policy makers and society in the future years to come.

Design like you give a damn

The book Design Like You Give a Damn is a fascinating read and really shows the value of thought and design.  Most people assume design is about picking a color or making things look nice.  This is the most surface level aspect of design.

Design is about choice.  This book edited by Architecture for Humanity is about the choices that architects and other designers can have have to improve the world.  The books chapters include  designing for disaster relieft (think shelters for Tsunami's floods and IDP's (refugees) and the social issues that produce poverty etc.

The constraints and problems posed in these situations are as difficult as the answers and solutions are important.  This book is a great read not for people who want to feel good about writing a check for UNICEF, but rather for people who want to understand some of the mechanics of what makes NGO's etc. tick.  Like a well edited cook book, it doesn't have a political or preachy agenda per se, but rather offers an interesting presentations of problems and solutions.

Helping out requires thought.   The book is extremely well layed out, accessible and dare I say it fun to read. The sections show how architectual choices are made to make a difference.  This involves everything from green architecture to homeless shelters in urban areas, site analysis, costs and social impacts of shelter.  The book is a great read.  You can learn a few things about the origins of Habitat for Humanity and others.

Shelter is a basic human need, meeting that needs in extreme conditions, either environmental or social (war) etc. is a fascinating and worthwhile challenge.  Even if you aren't a designer, pick up this book, it is great in terms of lateral thinking.  You can always e-mail me to borrow my copy.

a little feedback please

All successful (stable) complex systems rely on feedback internally and externally to thrive and survive.  This includes, biological and social systems.  Capitalism is one such system.  You vote with your dollars and things happen all the way up and down a supply chain.  Governments are a little slower to respond, because quite often they have a monopoly on various services and the Ballot box is a fuzzy feedback device.  In many countries the ballot box may not be an option.

This week the OECD announced something called the Istanbul declaration.  This small declaration asks for more public information and desires to treat govt. statistics as a public good.  This could definitely help turn things around in many countries by improving bureaucracy and poor policy, the primary causes of corruption.  This is a long term goal and the Istanbul declaration is tiny drop in a huge ocean, but a welcomed none the less.

Did you know that in China, some macroeconomic information is considered a state secret and thus can subject the discloser to potential death for releasing it.  In theory even projecting such data could lead to punishment.  Economics can be a dangerous profession.

The Joy of deferred Taxes: picking and grinning

This weekend I read The Essays of Warren Buffett : Lessons for Corporate America (Paperback)

What a great book. My wife was reading it between my readings.  Warren Buffet is considered one of the best investors in the world.  This book is a collection of his thoughts on investing and corporate ethics.  Buffet is smart, funny, honest and sensible, a classic midwesterner.  He has no pretensions, is very plain spoken and matter of fact about things.  Having only read him and never having met him, I bet he is very funny and a great teacher.

His basic investing premise is based on finding good companies at fair value and then holding on for the long term.  his record speaks for itself.  He has limited time for the "action" offered by most investment banks and brokers, he prefers to study hard, invest and let good management take care of the rest.  His essay's and thoughts are a joy to read and accessible to the layman. 

One of the issues he discusses a bit is deferred tax.  Ok are you still there.  Deferred tax is a phrase that ranks with proctologist in terms of making people sit up, take notice and quietly slink away.  If you have any money invested anywhere you should stick this out.  Deferred tax basically means you don't pay taxes on something until later. 
 
Lets imagine you are a brilliant stock picker for 20 years.  Each year you buy and sell making a 10% profit. Of course there is a little tax to pay each year, but you don't worry, you are a good stock trader, picker, psychic etc.  and are beating "the market". You get the fun and excitement of buying and selling and tracking "the market".  We will call you Picker

Imagine you are a good investor and buy and hold and get 10% a year for 20 years as well.  This is the boring approach to investment.  The results are a little more exciting.  We will call you Grinner.

Assuming that Picker and Grinner each has $1,000 to invest gets 10% a year and that Grinner has to pay taxes in the 20th year of investing on his entire profits.  If taxes are 28% how much more money does Grinner have...don't worry I did the math for you.  Grinner takes home an extra $3,312.  Wow!


I built a simple spreadsheet for you to plug in your own numbers to see how this works. Download worksheet.xls

The moral of the story is to pick an investment that you believe in long term and stick with it for as long as it reflects good value.  Hold, hold, hold.  Your mileage may very depending on an IRA etc. 
 

Costs count: important investing lesson

Many friends and relatives have patiently suffered my explanations of how things work.  This has included everything from technologies such as time travel to esoteric descriptions of socio cultural behaviours and psychology.

I had the good fortune and patient ear of my friend Graeme the other day.  Graeme made the mistake of asking me about  personal investing.  He got an hour and a half lesson.  One can only hope he took away as much as I did.  Every time I "teach/preach" about something, my familiarity gets clarified.  There is no garauntee however about what occurs for the recipient of my "teaching/preaching".  As they say in life you get what you pay for :)

I helped teach finance in my MBA program in Paris.  We had the the dean of finance from Oxford's Business school teaching and he wanted some people to help out.  I like sharing and thus subjected my classmates to ad hoc discussions of cash flow, IRR and other issues.  I enjoy bringing things to life for people and best of all creating the "light bulb" effect with people.

A vital concept in personal investing is cost.  Most investors in the U.S. buy mutual funds.  These are funds managed by stock pickers etc.  They are typically sold based on historical returns and some blend of risk/reward or approach.  Over the long run, most will not beat a stock market index such as the S&P 500.  Getting into and out of an investment can cost between 1-3% per trade depending on liquidity and commissions.  Think before you transact.

If you are truly an investor, you think like a marathoner, long term. Long term little things ad up.  Many funds have a management cost that you pay every year ranging from %0.25 to 1.5%.  Most people give it little thought, with the exception of the person selling the fund.   The average today is 1.36%

Imagine you have $1,000 to invest today and that you will make 10% annually on your money.  Now imagine that every year someone comes along takes 1% out of your investment for management.  How much would that cost you?  The answer is $1,123.  Imagine if you were spending a $1,000 on a car and the sales commission was going to be an extra $1,123.  You would take a close look at that commission and what you were getting in return.  The graphic and table highlighting this is here.  I built a spreadsheet to play with Download worksheet.xls

If you own a mutual or bond fund please read this article on mutual funds.

Intelligent Investor

I have been spending my summer weekends catching up with some classic reads.   2 weekends ago while visiting Iowa I read The Intelligent Investor.  This book is a 600 page classic of the Value investing theory put forth by Benjamin Graham and so successfully executed by Warren Buffet.

My good friend Graeme called me up the other day about investing and I explained some things which may be useful for people.  I have decided to blog about them so that others may benefit. 

Many people think of investing as about picking a winning race horse.  It really isn't it, is about understanding the difference between price and value in effort to first protect your purchasing power and hopefully over time to enhance it. 
A lot of people believe that if they are inundated with stock price quotes, they can be better investors.  Nothing could be farther from the truth.  Price moves around like a drunken sailor.  Occasionaly it bumps into value and then moves on.   I am originally from Iowa and like to think slowly and move slower.  This works well investing, horribly in trading.

An investor is someone in for the long haul who is going to stick it out. 

To paraphrase Graham," in the short term the market is a voting machine and in the long term it is a weighing machine." 

Voting is pretty much like popularity, remember how popular dot com shares were in 1999.  Now think long term, a lot of those companies didn't create value (make profits).  The premise of value investing is simple. 

1. Firstly ignore the price of an asset.
2. Calculate its economic value.
3. Now take a look at the price and see if you can buy value at a good price.

This astounding revelation :) that people use when  trying to buy a used car flutters away in the complex matter of acquiring shares and investments.  Stock markets and brokers make money with activity.  You make money by sitting for the long haul and thinking for the long term.  That means buying  quality businesses at  an affordable price.

Here is an example of what most people do when buying a share.  They look for a fast and exciting horse.   Apple computer with its iphone release sounds exciting.  Of course having an exciting product tells us nothing about the value of Apple computer as a company. 

If Apple is trading at $120/ share is that low or high?  Most people look to the charts and see if it looks low or high relative to the past.  If it was trading at $60 is that good? It it was trading at $200 is that better?  The fact is, it doesn't matter what the price was in the past or even today, unless one understands value.   You are buying an economic  asset today that is supposed to generate economic value in the future.  Depending on the economic value produced we can assess a "fair" price for that asset today.

For example if a person is truly a long term investor and they buy shares in an internet company at $100 and the next day those shares trade for $50 how should they feel?

If they truly understand the value of the business and believe in management they should be happy.  They valued an economic asset and it is now half off.  If they wish they can buy more of it.  After all investors buy for the future and acknowledge that price fluctuates in the short term.

"A cynic is a man who knows the price of everything and the value of nothing"  (Oscar Wilde)

A silly investor is the same thing.  They will track price to the millisecond and have no idea of underlying value.  Caveat the situation may be different for a true trader.

Basically an investor is looking for the market to misprice value.  It is like buying a $1 bill for $.50  Here is an example of the returns from doing that.
There is of course a lot of other smart work to be done, but basically understanding value is the important part of the equation.  Price is readily available to anyone.

I would strongly recommend that anyone with more than $5k to invest read the intelligent investor.  It will take most people about 20 hours.  Depending on what you learn from your reading, it may be the best hourly paying job you ever have.  I will be writing a few more articles for the "investor under the finance section of my blog"  I will provide some basic tools highlighting why 95% of you should invest in index mutual funds and the value of sloth (deferred taxes and minimal transaction cost) when it comes to investing.