Apple as hegemonic swarm

The global Apple obsession is moving into high gear with the iPad3 on sale and the stock near $600, and what we and the world really need is another blogpost on the company, full of superlatives we have already read elsewhere. Baruch is happy to oblige.

Apple is increasingly the sun around which the planets of business revolve. Just taking the tech sector, there is now no major segment which is not being or will not be affected by this expanding giant ball of financial energy. To others (like Microsoft) it’s not a sun; for them, Apple is a black hole, sucking matter and energy into its gaping maw, or a hegemonic swarm, converting adjacent life into copies of itself and extinguishing diversity. For investors, especially ones focused on technology, Apple poses a quandary: do we need to own anything else? Don’t laugh, it’s a serious question.

Continue reading “Apple as hegemonic swarm”

Buy and hold no more?

Baruch has long held that the academic finance industry has produced nothing of lasting worth. Or at least nothing that has helped anyone make money consistently, which is, after all most of the point of the exercise, isn’t it? In fact the impact of the academics on markets has probably been on balance pernicious, contributing to overconfidence, instability and perdiodic crisis as much as it has shed light on the inner workings of anything. I’m thinking of course of Black and Scholes, portfolio insurance, hard Efficient Market theories and the large number of ” new paradigms” we have had in the past 30 years, which invariably ended in disastrous crashes, with yet looser money in their wake and another round of inevitable “new paradigms”. All of them, I guarantee you, had the solid imprimatur of some finance professor somewhere or other.

It is not all hopeless, however, because the academic study of finance has also produced Andrew Lo, whose “adaptive market hypothesis” seems to Baruch to sum up better than most how things actually work. Insofar as Baruch understands it, the general idea borrows from biology and behavioural economics. It is that markets are crucibles for evolution and adaptation, like an ecosystem, and while they can be efficient they are so only periodically and then only in bits. Strategies that work well will only do so for a time; only punters able to identify changes in the environment rapidly enough and (more difficult perhaps given the current animus against “style drift”) able to adapt their style of investment to profit, or at least not blow up, will survive. That, by the way, survival, appears to be the name of the game in the adaptive market; sticking around long enough to make it to retirement. It’s not an easy place to hang out in. As Spinoza was fond of saying, we also know this from experience to be true.

The point is, I always watch out for something from Lo and read it avidly. I was therefore very surprised to find myself disagreeing with something he was saying in an interview with CNN Money (HT I am sure either Josh or Tadas, like everything else), which was that the increased use and democratisation of technology in financial markets has led to higher levels of volatility and instability that make “buy and hold” no longer viable:

Buy-and-hold doesn’t work anymore. The volatility is too significant. Almost any asset can suddenly become much more risky. Buying into a mutual fund and holding it for 10 years is no longer going to deliver the same kind of expected return that we saw over the course of the last seven decades, simply because of the nature of financial markets and how complex it’s gotten.

Baruch worries that Lo, while likely spectacularly right in general with his highly convincing theory, may be wrong in the particular here.  Continue reading “Buy and hold no more?”

You don’t WANT to be making iPhones, really

Last week’s hairshirt NYT piece got a lot of attention — it was AR’s lead link on Sunday and pointed at by Josh, Reformed Broker,  — bemoaning “America’s inability” to manufacture or assemble iPhones and other electronic gizmos. However, it entirely missed the point, thinks Baruch. It is always en vogue to bemoan one’s own nation’s manufacturing competitiveness, in the case of Southern Europe, possibly fairly. But most of the time it ignores the great dynamic of economic development, that as economies increase in wealth, intellectual property and sophistication, pure manufacturing becomes less and less attractive an activity. America has the most sophisticated economy on the planet; the idea that it is bad that people who participate in it no longer fit bits of plastic together is a wrong one.

The other point that the article makes rings truer, that making iPhones isn’t much fun:

. . . Apple had redesigned the iPhone’s screen at the last minute, forcing an assembly line overhaul. New screens began arriving at the plant near midnight.

A foreman immediately roused 8,000 workers inside the company’s dormitories, according to the executive. Each employee was given a biscuit and a cup of tea, guided to a workstation and within half an hour started a 12-hour shift fitting glass screens into beveled frames. Within 96 hours, the plant was producing over 10,000 iPhones a day.

Assembling iPhones is a repetitive and gruelling manual job. It is hard on the eyes, on the stamina and probably on the spirit. The majority of the workers at the Foxconn (also known as Hon Hai) plant are young, resilient recent immigrants to the city, for whom the alternative to doing this is working on the family smallholding or some other menial job in the Chinese boondocks. They don’t need engineering degrees, though do need skills and motivations I and probably a lot of Americans don’t have, e.g. being able to put small parts together in exactly the same way, again and again for hours and hours all the while standing up, Don Rumsfeld like. Being in a position where you can be woken up at 12.30 am to do a 12 hour shift fortified only with a biscuit and a cup of tea is not something I would wish on my fellow countrymen — at least not all of them.

I don’t think the NYT seriously wants their fellow Americans to work like this either (and by the way, since when was a foreman’s job on an assembly line “middle class”?). It’s the sort of thing workers in developed countries stopped doing since the 1970s and 1980s, and trades unions have been fighting against for decades before. We shouldn’t go back.

Don’t get me wrong — I don’t disparage the necessity of mind-numbing manual work, I certainly don’t look down on those who do it, nor hate the bosses who oversee them. It is a fact of life. However, it has to be for something worthwhile, however, and in large part I think it is in the case of Foxconn and Apple. For the Turkish and Greek Gastarbeiter in Europe in the 1950s and 1960s factory manual labour was a stepping stone to better things, and similarly, one hopes the Chinese building iPhones will be able to save some money to take back home or stay in the city to start a business, get married and educate some (well, typically only one) kids, or, at worst, buy an xBox. You have to look at the alternatives open to the people doing the work; for a Chinese late teen or 20-something the more realistic alternative to the Foxconn plant is a life of rural toil, tedium and poverty. For the average US teen it would be college (and some debt) and/or relatively bearable job in a service industry, possibly cutting hair. The American shouldn’t have to compete with his Chinese counterpart — the menu of his or her life choices is so much richer.

The other idea implicit in the article I have a problem with is that iPhones and the physical location of the plants that supply them have disproportionally favoured the Chinese economy over the US. Well, when it comes to assembly, the amount that stays in China is an infinitesimal fraction of the total added value of an iPhone. Foxconn earns something like a 5% gross margin and a 2-3% EBIT margin on its assembly business and for business from Apple it might even be less. Indeed, some analysts think Foxconn only earns a positive margin because it can throw in a few components of its own into the deal. Its notable that no-one else has ever been able to take any of Apple’s assembly business from Foxconn. Many have tried and lost money, such are the competitive razor thin margin this business operates at.

Compare that to the 30% to 50% gross margins (and 20-30% EBIT) a semiconductor supplier earns selling a chip into the iPhone — almost all the semi content in the iPhone is from US companies, and by no means not all the chips are fabbed in China, although I agree with the article that many are. I’m not even talking about the great margins that a software company selling code into the iPhone foodchain makes, nor the insanely great margins Apple operates at, just the hardware foodchain. Which part of that foodchain does the NYT really want American companies to be at?

My final comment is that the article ignores the flipside of the equation, the dual nature of employees like Eric Saragoza, the mid-level Apple engineer who  got laid off in 2002. Scant comfort for him of course, but he is also a consumer. The huge benefit of the constant price down in technology is that consumers get to be able to buy amazing, life changing products at increasingly affordable prices, while incentivising the companies who make them with great margins. iPhones and iPads have changed my life moderately, but have transformed the lives of millions of people in a more profound way. This is what technology does, and I don’t know another way of ensuring that it happens. Very often the ability to make something new and useful for significantly less is just as impactful as the ability to make that new and useful thing in the first place — it opens the door to new business models, to new uses, to things the inventors may not have dreamed of. Look at Tim Berners-Lee and the internet*. Benefits like these are immeasurable and general to all, and you only notice what happened later on, while Eric Saragoza’s job loss was immediate, specific, and personal. It makes a good, heart rending story. “Everything is slowly getting better for most everyone” should make a good story too, but in practice will be less affecting, and get fewer links.

Baruch is not an American and the decline of the middle class there is not his uppermost concern; in fact he cares as much about the Chinese factory workers toiling away at Foxconn. He thinks the dynamics of what the NYT is writing about is actually fantastic for almost everyone, and actually strengthens the global middle class by adding more people to it, in China. This is wholly a Good Thing, for all the problems we actually should be concerned about, like war, poverty, the environment, healthcare, education and the personal outcomes of ourselves and our fellow humans, all these things are mitigated by expanding the middle class, because only people with some disposable wealth of time and income are able to think about them.

* You think he ever thought he would end up using his invention for finding Angry Birds cheats like the rest of us? Of course not.



Do let’s be optimistic . . . even if we don’t feel like it


Tis (or, by the time I finish this post, ’twas) the season for pundits to give specific predictions for 2012 and a more pointless exercise has yet to be devised. Baruch isn’t going to waste your time doing this, for various reasons. The main one is that Baruch has long been convinced he is almost always wrong about almost everything. His only solace (and it is a big one*) is that everyone else is always wrong as well, and unlike him they don’t know it.

This year prediction seems a lot more difficult anyway. If Baruch is at all representative of bien pensant investor opinion the overriding emotion among practitioners today is a lack of confidence in anything, especially themselves. This is because almost without exception everyone traded like an idiot in 2011, both on the hedge fund side, where “slightly down” is the new “up”, and on the side of benchmarked long only funds. As you may know, Baruch is a professional investor and helps run one of these latter things. Looking at his peer group he is amazed, despite a mild underperformance, to find himself firmly in the top quartile in YTD relative returns. Despite this, he feels like a schmuck. How much worse must the average PM have fared, he asks himself. Just why has everyone done so badly this year?

Baruch has some ideas about why this is; a lot of it can be put down to the narrative of the year and investor positioning.  Overall, the majority of the active management community were extremely badly positioned for the key moves in the market in the back half of 2011. They were mostly long for the big August swoon associated with the US credit rating cut, and many compounded this by adding exposure into the decline too early — catching falling knives, in the parlance. Having finally understood the appalling ramifications of the European debt crisis, investors were nice and short, or in cash, for the quick but steep October rally that brought the major indices almost back up to the point at which they had broken down back again in August. Shellshocked, with what seemed had seemed a decent year now in tatters, all they were able to do in November and December was curl up in a foetal position, to derisk, and hope the kicking stopped.

A time of derisking, by the way, is a terrible time for those who are not derisking to make money. It means PMs selling positions that they like, and buying the ones that they hate. If everyone is doing this it makes for the market of Bizzarro World, where down is up and up is down. Good stocks, at best, make no traction, while bad stocks are likely to squeeze. November and December were marked by this worst of enviroments, what Baruch calls “high amplitude chop”. This had the effect on putting the kibosh on the few players left who still had any profits, and who had thus been less inclined (the fools) to join the mass huddle.

By the end of 2011, then, the performance-led derisking must have been largely complete, and at least some investors, if not the majority of them, are probably looking at trying their luck in a new year, with slates wiped clean, and having another go at earning those management fees again. Indeed the last datapoint in 2011 from ISI, who tracks these things, had the gross at hedge funds (a measure of how much of their capital they have deployed in short and long positions) at the same level as June 2008 — ie very low, crisis levels. Not at all what you would expect at the end of a year in which the S&P was only flat.

Just off that then, it would seem that maybe we don’t have to worry too much, and we could have a return to something approaching a normal environment where active management works again. In fact it is necessary to be mostly optimistic in this business, as a general rule. But then again I suspect I am merely trying to reassure myself because while people may be underinvested, there is also a very high degree of nervousness out there. It won’t take much to bring us back to derisk mode again, and if 2012 is another chop-filled  year like 2011 for active managers, well the only people who are going to be happy are the indexers. And they’re the enemy.

I would like to end the blogpost right there, and not talk about the things which are actively making me worried, such as $200bn in dodgy European sovereign paper to roll over, the apparent Chinese slowdown, nasty commodity trends and record high corporate margins etc etc, because thinking about these things makes me stressed out.

Happily, others have done that better than me**. So I sign off and wish my reader(s) a very happy and prosperous new year.

* knowing that whatever thesis you have in your head is likely to be wrong makes it much easier to discard it when it gets falsified, or when you think of something better. Knowing also that you are really quite thick makes it harder to worry about looking stupid (why live a lie?), and more money is lost trying not to look stupid than in any thing else you are likely to do in the stockmarket.

** Baruch is not sure whether The Interloper makes him want to retire from blogging or want to blog a lot more. Either way, it is grand he is around to be read. If he wants a hand on Euro Telcos he can drop me a line.

The Beginning of the End of the Euro Crisis?

Baruch has been a student of the wondrously dysfunctional Greek
political system long before it became fashionable, and is surprised at the
sudden relevance of what he had always thought to be rather interesting, but
not particularly useful. No longer – Greek politics is currently at the centre
of the world. What is upsetting, however, is that most everyone inside and outside Greece seems to disagree with him about what happened last week. Far from being a calamity exposing the weaknesses of the latest bailout package, Baruch thinks the ramifications of the call by Papandreou for a referendum are deeply positive. Merkel and Sarkozy, and the rest of us, should actually be grateful to him for heading off in Greece what is frankly the
biggest risk Europe and the global economy faces – political risk; specifically
“austerity ennui” on the part of the population, and pandering politicians
eager to exploit it.

Baruch is also unamused by the people who are watching what appears
a train wreck with barely disguised glee, rubbing their hands in anticipation
of the Euro’s supposedly imminent demise, starting of course with the ejection
of Greece. Your celebrated correspondent has no particular love for the common
currency, not least the silly name (“Euro-“ is a prefix, he has always thought),
but once in, the likely costs of leaving are so awful as to make it imperative
to stay in. In the case of Greece, were it to drop out of the Euro, we would be
talking about the instant impoverishment of a modern democracy, whose citizens’  life savings would be wiped out (apart from the  very rich who are able to have accounts abroad, take that, Gini co-efficient!) and the bankruptcy of every exporting enterprise. There would be mass unemployment. Imports such as energy and medicines would skyrocket in price, creating shortages; basic services would likely break down. People would die. It would be less like Argentina, more like post WW1 Germany, or maybe Eastern Europe after the collapse of communism.

Within the living memory of politically active people Greece has fought a bloody civil war, and flirted with fascism. European leaders should probably pause before inflicting this sort of stress on one of the most politically dysfunctional and divided states in Europe, a relatively big fish in the Balkan backwater, itself no stranger to conflict.

Seriously, I wouldn’t want this Pandora’s box opened even
if I was short the Euro, which I am not and which I happen to think may be a
quite bad idea if you want to make money in the near future. Yet never mind the
Eurosceptics who are actually looking forward to it, everyone else seems to be
fairly resigned to it as well. Even clever people. Felix, for instance, sees a “chaotic collapse” of Greece as “inevitable”. Josh Brown cheers him on.

I think the very awfulness of what will happen if Greece is ejected from the Euro in a messy way (and until the treaty is changed there isn’t really another way it can happen) actually makes it more likely that it doesn’t happen. No matter how nasty a generation of austerity may be, it is a walk in the park in comparison with the likely alternative.

And that realisation may just have dawned in Greece last week. Continue reading “The Beginning of the End of the Euro Crisis?”

What next for Apple?

You might forgive Bento for gloating. It’s true that he doesn’t write much around here, but when he does, it tends to be about Apple, and he tends to be spot on. Cases in point: A prediction of run-away success in China way before it became a mainstream opinion, and a prediction of run-away success for the iPad when it was being trashed by the technoramuses, pointing out that it is an ideal device for baby boomers.

As a long-time owner of (a very small chunk of) Apple stock, the past decade has been an absolute pleasure, with Jobs et al reïmagining and then dominating a whole run of product categories with apparent ease — music players, mobile phones, tablets, and now ultralight laptops. But in this success lies the seed of a problem: While the empire that is Apple has plenty of expansion left in new geographic markets and within existing product categories, Apple is exhausting the universe of gadgets it can colonize. I now have an iPhone, iPad and MacBook Pro on me most times, and go running with an iPod Nano. My next laptop will be Air-ish. But what additional new thing can Apple sell me that I must have as soon as I see it?

Even if Apple never again introduces another revolutionary iDevice with concomitant new revenue stream, it will take some time before Apple’s growth trajectory retreats from the exponential to the merely geometric. With Steve Jobs gone from the helm, however, there’s the possibility that Tim Cook will get the blame for this shift; when in fact all the low-hanging fruit has now been picked.

Yes, it has. All the product categories Apple has revolutionized have long been on the radar screen. Microsoft tried and failed to kickstart tablet computers during much of the naughties. Apple’s Newton was ahead of its time. Walkman music players were poised to be replaced by something digital. Laptops have since the start been massive compromises between weight, power, and battery life.

What might Apple do next? Television has been mooted as a candidate; the self-described AppleTV “hobby” has been a modest success, and there are rumors that Apple might use its lessons to try to properly reïmagine home entertainment using what it has learned from AppleTV. We’re halfway there with Airplay, which streams sound and video between wifi-connected gadgets around the house, but it is not yet seamless. (I’m an early adopter of it). If it becomes seamless, and stays much cheaper than competing Sonos’ systems, and the AppleTV OS turns into something of a platform that multimedia content providers can build apps for and stream content to, then we may have a proper new product category for Apple to dominate. Price here would be crucial, but that is something which Apple’s fabled manufacturing prowess could trounce the competition on, not least when it comes to screens.

And beyond that? Where else could Apple inject itself into my daily use of technological tools to be creative or to consume others’ creativity? Might it take on premium camera manufacturers like Nikon and Canon? Revolutionize (electric) car design? Develop connected appliances such as fridges that scan and refill themselves using the web? Jonathan Ive may well be chomping at the bit to bring Apple design to any of these areas, but somehow I doubt it can happen. Nikon and Canon already produce finely honed ergonomic masterpieces that are too niched for Apple; electric cars would be too large an adventure beyond its core competency, and while a connected intelligent home surely lies somewhere in our future, it is about as useful to speculate about this as to wonder when we’ll all be installing fusion reactors in our cellars (and what role Apple would play in their design.)

A more subtle worry of mine is that Apple will continue to produce gadgets and software that encourage content ownership, despite the fact that for the upcoming generation, “purchasing” digital content is increasingly anachronistic. Apple risks losing relevance among this group if it does not adapt, and it shows no signs of doing so (yet) despite the fact that the technology for alternate forms of paid consumption is mature.

My anecdotal evidence: As a resident of Sweden (which lives perpetually a little in the future) I have been using Spotify for several years. That Swedish start-up lets me legally stream and even download any music I choose from an iTunes-store sized library for a flat monthly fee. The service is social, mobile, and has become ubiquitous in Sweden; since signing up, I have not bought a single song on iTunes. Nor do I know any Swede who has (I asked again at a dinner party last night.) I’m sure that Apple’s internal iTunes store statistics for Sweden reflect this change on the aggregate level. And now Spotify has just launched in the US.

Movie rentals in iTunes are not the future either; the Netflix model is.

So these are the fears I hold for Apple in quieter moments. Emphatically, Windows 8 is not among them — the hardware is just as important as the software, and Apple, uniquely, is strong in both. I do see a danger of Apple making ill-advised concessions to Chinese censors for its future devices and cloud services sold domestically (it already did so with the Chinese iPhone 4), but the resulting negative publicity would not have an effect on the bottom line.

Of course, $76 billion in cash buys a lot of insurance against technological riptides. Baruch, what product category do you think Apple should colonize next? (I would certainly love it if Apple reïmagined driving. They could buy Volkswagen-Audi AG (market cap conveniently $63 billion) and soon thereafter announced the beautifully designed all-electric iAud. Considering that Google is already working on autonomous electric cars, surely that raises the odds of this happening?)

Homicidal zombie markets reconsidered

Baruch received old media brickbats for his bloggy frettings last year about the impact and meaning of QE2. At the time, while understanding why people thought it was necessary, he worried that we were opening a can of worms which were going to wriggle off in all sorts of undesirable directions. He wrote:

in his darker moments that Baruch thinks a very good analogy for where we are right now is Pet Sematary. The people who buried their cat (and later their son) in the Indian burial ground to bring it back to life got something which looked ostensibly like a cat, but was so only on the outside. On the inside their little puddy tat  was really an undead homicidal zombie cat, as became clear through its increasingly odd behaviour. Unintended consequences followed (mayhem, murder, horror, the Wendigo — all that Stephen King stuff).

The Bernank is like the guy who buried his cat, but in this case instead of a resuscitated cat he wanted his rally back, a healthy stock market and the wealth effect that would bring. I worry we have got something else.

Pointing to potentially horrible unknown unknowns tends to capture the imagination much less than pointing to the definitely unpleasant known knowns of an imminent economic slowdown. The QE2ers’ argument at its core was the eternal and seductive call that Something Must Be Done. No less than James Suroweicki at the New Yorker picked up Baruch’s idea of the “undead homicidal zombie market”, tautology and all, and lumping me in with the Tea Partiers, House Republicans and the other dead-end no-brained foes of QE, labelled us  “hysterical”. Baruch loves the New Yorker, but knowing their editorial stance and lack of track record when it comes to advising macro funds and governments, Baruch concluded their love of QE was less a well-thought-out economic analysis, and more a gleeful response to finding their political foes against an idea that felt “right”, Colbert-like, in their gut. In his response, (Felix also had a good one) Baruch bemoaned the politicisation of monetary policy by anyone. This hasn’t got any better — having an (admittedly Texan) presidential candidate threatening the Chairman of the Federal Reserve with a tarrin’ and a featherin’ if he buys any more bonds doesn’t seem conducive to a mature conversation on the subject.

So, was Baruch right? Or were the Suroweickians? An interesting thought experiment would be to think of where we would be without that second round of easing. With the benefit of hindsight I’m inclined to think we would have been better off right now had we not done QE2. Why? Continue reading “Homicidal zombie markets reconsidered”