Wednesday Briefs – 31 March 2021

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THIS WEEK: Suez – Container Shipping; VolTswagen; New York Coronavirus; Triumphing on the Venom of a Snake.

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Wednesday Briefs – 25 November 2020

A weekly commentary on current events. Follow populyst to receive notification.

This week: 3,000 Daily Deaths; One Way to Value Tesla; Vaccines and Those Immigrants; Thanksgiving F(east); Reading List.

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Elon Musk’s Tesla Rocket

This article is published at National Review.

What it will take for Tesla’s stunning rise to end with a successful landing.

“Wow, Elon Musk!”

That was the cathartic cheer and cry of relief in millions of American homes on May 30, after two months of forced confinement, when the SpaceX Falcon 9 rocket and Dragon Capsule lifted off from Cape Canaveral carrying two American astronauts bound for the International Space Station. It was the first ever manned SpaceX mission and the first time since 2011 that an American-made rocket had taken Americans into space. SpaceX is of course one of Elon Musk’s companies.

bangabandhu_satellite-1_mission_284202549897229As if on cue on the very next day, Musk’s other monster rocket, Tesla stock, blasted off again and shot out of its range, adding nearly 8 percent to reach $898.10, a level that was more than double its March low of $361.20. Days later, the boosters fired again and lifted the stock above $1,000 and then once more, after a two-week pause, to $1,500, where it is now taking a brief respite in the orbit of companies valued at $300 billion.

There in the stratosphere, the stillness of space envelops the investor as it does the astronaut. Escape velocity has been achieved for shareholders, some with many, many millions in profits, leaving the earthbound shorts (people who bet against the stock) but a small and distant memory to be mockingly blotted out of view.

These shorts, hopelessly weighed down by what’s left of traditional investment discipline, have (so far) lost a cumulative $18 billion in vain expectation that the Tesla rocket would reverse, crash, and burn. All they can do now is stare at their screens and argue to whomever will still listen that this stock rocket will eventually come back to Earth.

Not necessarily. Consider Amazon, Apple, Microsoft, launched long ago and now heading deeper and deeper into the trillion dollar galaxy.

The question then is whether Tesla, though much smaller today, can one day join the outer reaches traveled by these companies, or whether it will crash as so many hot stocks have in the past. Tesla bulls are confident that it can maintain its current trajectory, a belief that is owed in no small part to the faith that they have in Elon Musk. Read the rest at National Review.

It’s the Demography, Stupid

11 November 2014

(See also the post Demography Charts – 1)

America’s anemic recovery can be explained by its slowing demographics.

Politicians tend to overstate the positive impact of their policies on the economy and to also exaggerate the negative impact of their opponents’ policies. In all likelihood, there are other more potent factors at work.

Instead of GDP, we look at wealth creation as the main measure of the economy. GDP measures economic activity which means that building roads to nowhere is a positive contributor to GDP in the near term because of the jobs provided and the material and services purchased. But building roads to nowhere is a waste of money. By contrast, wealth creation accounts for the return on invested capital and differentiates between good and bad projects.

And wealth creation has three main drivers: innovation, demographics and the economy’s institutional framework.

To illustrate the importance of innovation, consider a country where there is little innovation and therefore little creation of intellectual property assets. The main assets in such an economy are hard assets, such as real estate, natural resources and the like. Unless there is strong demand for these assets from foreign markets, the economy of that country would stagnate or grow slowly with its population. Good examples of such countries today are commodity economies like the leading oil producers, industrial metal producers etc.

Now consider a country where there is innovation but where the population is small. Here the amount of wealth created by innovation would be quite small unless there is strong foreign demand for the products and services brought about by that innovation. A new iPhone that can only be marketed to a small population would create a lot less wealth than one marketed to a large population. Good examples are Switzerland and Finland which are quite innovative, have relatively small populations but export their products in large quantities.

Innovation is back.
Innovation is back.

Finally, consider a country that has lots of smart innovators and a large population but that suffers from a poor institutional framework. It is a country where the government and citizens are corrupt, where contract law is nonexistent, where capital markets are small, where property rights are not protected. There would be little wealth creation in such a country because the innovators would emigrate to another country where they could more readily prosper from their innovations.

Since 1945, the United States has been blessed by all three major contributors to wealth creation: strong innovation, strong demographics and a stable and supportive institutional framework. The same has been true for Europe, albeit with slower innovation and slightly worse demographics. The same has been true for Japan, with still worse demographics.

So where do we stand today? Of the three main engines in the US, innovation and the framework are still going strong. But demographics have weakened in several ways. First, after declining for several decades, the dependency ratio (number of dependents per worker) has been rising since 2005. Second, the number of Americans aged 30-60, arguably the most economically active age bracket, has stagnated at a little over 120 million people. Previously, the 30-60 group had grown steadily in every year from 1978 to 2005.

Presidents Reagan and Clinton are credited with a successful economy but their years in office also benefited greatly from a falling dependency ratio. The same is true for the second President Bush until mid-decade when the dependency ratio bottomed out and started to rise.

The anemic recovery since 2008 can largely be explained by our deteriorating demographics. The US population used  to grow by 1 to 2% every year, which meant that companies could count on real growth of 1 to 2% and another 2 to 4% of inflation. But since 2007, annual population growth has fallen below 1% and inflation has also fallen. So what used to be safe annual domestic revenue growth of 3 to 6% is now looking more like 1 to 3%.


In Europe too, the dependency ratio bottomed and started to rise in the middle of the 2000s decade. In addition, Europe has been less innovative than the US in the past ten years, which explains its stock market lagging the US market. The rise of Google, Facebook and others and the resurgence of Apple have all taken place in the new millennium. Europe has had no such large success stories. Worse, one of its former superstars, Nokia, has nearly disappeared. So Europe still has a strong institutional framework but its other two engines of wealth creation are sputtering.

Japan’s dependency ratio bottomed in the early 1990s which may explain the country’s stagnation since then. It remains highly innovative but perhaps not sufficiently so in new focused companies with higher returns on capital.

The lesson of recent years is that US innovation may be strong enough to counter the effect of weakening demographics, but not strong enough to produce strong GDP growth. In addition, revenue growth in several industries has become highly dependent on exports to emerging markets. The economy and markets will do well if export demand continues to grow. But if emerging economies experience an important slowdown, our worsening demographics means that there will not be sufficient demand at home to pick up the slack.

For more data on US and world demographics, please refer to these previous posts:

The Economy’s New Boss: Demographics

Is America Heading Towards Zero Population Growth?

European GDP: What Went Wrong

Demographic Megatrends of the 21st Century

US Demographics and Housing

Large Stocks Are Widely Mispriced

11 July 2014

Research suggests that when investors influence each other, the stock market becomes less efficient.

A different perspective

Conventional theory holds that the stock market is efficient and that it does a good job pricing stocks at or close to their fair value, in particular the stocks of large widely followed companies. But could the opposite be true? Could it be that the larger and more followed companies are the less efficiently priced by the market? Could it be that their market value is chronically 20%, 30%, or 40% off from their fair value?

Here is the theory. Assume that there is a finite number of investors, say 1,000 investors, who are active in the stock market and that they each independently derive a value for each stock in the S&P 500. ‘Independently’ here means ‘without sharing thoughts with each other and without letting themselves be influenced by other sources’. Under these admittedly improbable circumstances, the resulting level of the S&P 500 would be quite close to ‘intrinsic value’. We could say that the market would be ‘efficiently’ priced.

Now assume instead that the 1,000 are not working independently but that they influence each other, sharing valuation models, qualitative opinions, price targets, etc. Under these circumstances, the level of the S&P 500 would deviate, in some cases significantly, from its intrinsic value. The market would be inefficiently priced.

This at least is the conclusion you can draw from some recent research on collective decision-making. A recent article titled When Does the Wisdom of the Crowds Turn Into the Madness of the Mob? explains it (my emphasis):

When can we expect a crowd to head us in the right direction, and when can’t we? Recently, researchers have begun to lay out a set of criteria for when to trust the masses.

Democratic decision-making works well when each individual first arrives at his or her conclusion independently. It’s the moment that people start influencing each other beforehand that a crowd can run into trouble.

Philip Ball, writing for BBC Future, describes a 2011 study in which participants were asked to venture educated guesses about a certain quantity, such as the length of the Swiss-Italian border:

“The researchers found that, as the amount of information participants were given about each others guesses increased, the range of their guesses got narrower, and the centre of this range could drift further from the true value. In other words, the groups were tending towards a consensus, to the detriment of accuracy.”

“This finding challenges a common view in management and politics that it is best to seek consensus in group decision making. What you can end up with instead is herding towards a relatively arbitrary position.”

If the research is valid, it debunks the idea that a widely followed stock is efficiently priced. It is not uncommon to hear someone say: “this company is followed by so many people that I have no edge investing in it”. The opposite is almost certainly true: the more widely followed a stock is, and the more ‘influence’ is traded between the participants, the more certain you can be that its market price is wrong, and possibly wrong by a substantial margin.

Take Apple stock for example which is followed by a large number of analysts and investors. When it comes to AAPL price targets, can we say, to paraphrase the article, that the “range of their estimates got narrower, and the center of this range has drifted further from the true value?” And are investors as a group “tending towards a consensus, to the detriment of accuracy?” Investors tend to cluster their price targets not far from the current price which is now $95. But we can theorize that Apple’s intrinsic value is not $100 or $90. It is probably much further from its current market price, say $70 or $120.

Another conclusion can be drawn. When discussing their investment process, fund managers tend to put emphasis on the individual expertise of sector analysts and on their team’s collaborative discussions. In a typical model, the sector analyst will initiate an investment idea and pitch it to a fund manager or to a team who will then reach a decision on how to proceed. In this case, the sector analyst may have been influenced by his peers, by the sell-side and by other sources. And the deciding team members, while searching for a consensus, may have been influenced by each other, by the analyst, and by some willingness to defer to the analyst’s expertise.

If you believe the research described above, this is not the best approach to choosing investments for a portfolio. A better approach would be to have 5 or 10 analysts value the same stock independently, without looking at other sources. It might also be better if these analysts were generalists instead of sector specialists who may be biased in favor of their sector. Once the work is done, there is no point in having any discussions which may prove to be counterproductive. In theory, ‘discussion’ means ‘influence’ and it would result in more bad decisions. It is better to simply look at the valuations derived by these independent analysts. If the average of their price targets is way off the market price, it would be worth initiating a position.

Nokia: The Path To Recovery

What this country needs is a good $99 smartphone.

That’s what Thomas R. Marshall, Woodrow Wilson’s Vice-President (1913-1921), might have said today instead of ‘a good five-cent cigar’. Smartphones are still very expensive, at least at the pre-subsidy price. Carriers pay over $600 for top-end phones and ‘subsidize’ customers who pay a discounted price if they commit to a multi-year wireless plan. But prices are destined to fall in the next few years. Within a decade, we could be looking at a $99 phone (pre-subsidy) which will approach the same functionality as today’s flagship phones.

Regarding their competitive strategy, there are two ways for smartphone producers to deal with this evolution.

1. A Top Product Strategy

One way is to start at the top with the best possible product and to continually improve its features. The flagship phone produced by each company can then remain at prices similar to today’s prices but its capability will grow year after year. This seems to be the strategy followed by Apple with each of its product lines. Each has a similar price as a few years ago but its functionality is much greater.

This strategy however has its limitations: at some point, whether it is in 2013 or in 2018, a majority of the buying public will not care as much about new features because the new phone’s capability will far exceed whatever need or use the consumer may have for it. Adding music and cameras was huge. Adding wifi was huge. Adding apps was huge. At some future date, they will be adding things that only tech geeks, or the few people who use their phones’ full capability, really care about. Even within the apps catalogue, most of us will truly care about only a dozen or so. And most of us are rarely more than thirty minutes away from our personal or work desktop computers. There are truly very few apps we ever need to use urgently, in less time than it takes to reach a desktop.

For companies with a product strategy, it is a challenge to keep people interested in new features. And it is a race against time to release these features on a schedule which will preserve high prices and high margins. In most such races against time, time ends up winning.

2. A Bottom Price Strategy

The other way for smartphone producers to deal with new competitive pressures is to start from the bottom with a preset price for a phone and to see how many features can be packed in at that price while the phone is still profitable. So say a company chooses $99 as a price before subsidies and it sets out to discover how good of a phone it can deliver at that price. The first few phones priced at $99 will look very inadequate. But here, unlike with a product strategy, time is an ally. The more time goes by, the better the $99 phone will become. In the future, a $99 phone will be as good as an iPhone 5 or a Samsung Galaxy S4.

Asha Rising.
Asha Rising.

The question then is which company would you rather be? Would you rather be the first company racing against time trying to slow down margin erosion by offering more and more features, while hoping that customers will still want them? Or would you rather be the second company, with time as an ally, securing a growing segment of customers who want a low price and who only use a few apps on a regular basis? In the early days of the smartphone, when new features addressed important market wants and needs, I would have to put my money on the first company and it made sense to invest in Apple. Going forward, I would have to put my money on the second company.

Industry Shift to Dumb Smartphones

This is where Nokia could make a strong comeback. I have no idea whether it will pull it off, but it has a plausible path to recovery. Nokia lost the first smartphone round to Apple and Android. It could gain market share in the high end with its Lumia Windows Phone 8 phones but this looks like a difficult proposition, as noted by many authors here. It is not enough for the Lumia flagship to be as good as a top Apple or Android phone; it has to be significantly better or its price has to be much lower to compensate for consumers’ inertia, brand loyalty and switching costs. You may not consider a top Lumia phone if it is $50 cheaper than an iPhone but you would consider it if it was $100 cheaper and if you are not too rooted in the Apple or Android ecosystem.

Within the Lumia range, Nokia recently introduced the Lumia 521 priced at $150 with no contract, but its margin on this phone is probably low, or possibly negative. The challenge for a ‘bottom price strategy’ is to deliver a low-price phone which is still profitable for the manufacturer. Entry level phones like the Lumia 521 may be unprofitable and positioned as loss leaders to gain market share and to attract buyers in the hope that they will later migrate up to more profitable phones.

Generally speaking, when comparing Lumia to iOS (Apple) and Android (Samsung and others), there is rarely room for a number three to prosper in a space that is dominated by two aggressive well-financed players. Lumia has been gaining market share but it has yet to break into double digits.

Instead of banking too much on Lumia, Nokia can instead win the next round when prices start to fall quickly, or to put it differently, when the functionality of inexpensive phones starts to rise quickly. That is why, of Nokia’s two recent phone launches, the Asha 501 was in my view the more exciting. Not because of the phone itself, but because of the strategic shift it may bring. While the industry’s heavyweights are battling to claim the title for the smartest smartphone, an increasing number of consumers will be satisfied with a low-priced ‘dumb smartphone’.

The Asha 501 is priced at $99 and its functionality is very limited today. See CNET’s video review of the Asha 501 and a review by TechCrunch. But as noted above, its capability is only going to improve in coming years. Launched in India, it will ship in June via 60 carriers in 90 countries, mainly in emerging markets and Europe, but not the US. Instead of Windows Phone, it uses the Smarterphone OS, a stripped down operating system, and runs on 2G GSM networks. Not exactly the kind of stuff that would get an American buyer excited. But at a future date, Nokia may be able to launch a much improved low-priced phone in the US. Of course, Apple and Samsung can do the same but they are hamstrung by their high stock prices and the market’s expectation that they will maintain strong margins. Nokia has no such “problem” since its stock and margins are now distressed. Low expectations can sometimes be an advantage. (The same applies to other players who have fallen behind and have little to lose.)

To be sure, there are already lower priced or even free iOS and Android phones sold by the US carriers. For example, AT&T sells the 8GB iPhone 4 for 99 cents + an activation fee of $36 and a two-year contract. But a $99 price for an Asha-like phone, pre-subsidy or without contract, would still be significantly cheaper. AT&T sells the iPhone 4 without contract for $450.99.

In recent years, the key success factors in the smartphone business were product and technology. As prices tumble and consumers’ appetite for more functions start to fade, the new success factors will be price, manufacturing and logistics, all factors at which Nokia has excelled in the past. Perhaps it can do it again. If it does not, someone else will.

Disclaimer: The views expressed here are not intended to encourage the reader to trade, buy or sell Nokia stock or any other security. The reader is responsible for any loss he may incur in such trading.