Tag Archives: AAPL

The ART of Contrary Thinking

When everyone thinks alike, everyone is likely to be wrong.

If you wish to keep from guessing wrong, learn to think contrarily.  –Humphrey Neill

CSInvesting: Humphrey Neill wasn’t advising to blindly go against the “crowd” but to think things through rationally.   For example, investors might be excited by the new invention of the air conditioner, but the second-order effects were more powerful like increase in demand for real estate in Southern cities in the USA.

The BOOK: NEILL(H_B_)-The_Art_of_Contrary_Thinking_(1985)

Critique of the book 2016-07-29_BR_ML

Contrary thinking in action….

Has Apple Stock Peaked?
December 3, 2012|by Timothy Lutts

Has Apple (AAPL) Stock Peaked?
In the Footsteps of Coca-Cola
The Next Apple?

Everybody knows Apple.
With more than 85 million iPhones sold, $156 billion in annual revenues and a market capitalization that recently hit $660 billion, Apple is the second most respected brand on the planet. Number one is Coca-Cola.

But what does that mean for investors?

It means there’s a chance that investor perception of the company is so high that all the big investors already own as much Apple as they can carry. It means there’s more potential selling pressure on Apple’s stock than buying pressure. And that means there’s a good chance the stock has topped!

Now, some investors, looking at numbers alone, will disagree.

They’ll point out that the company is still growing fast, that the third quarter saw revenues grow 27%, and earnings grow 23%, and that analysts are expecting 12% growth in 2013 and 18% in 2014. Then they’ll point to the stock’s forward PE ratio of 12 and say, “Apple is cheap!”

But using numbers alone is a mistake in evaluating growth stocks, particularly exceptional growth stocks like Apple.

For example, we at Cabot did very well recommending Amazon.com way back when the company (selling only books) was still unprofitable, and most bean-counters wouldn’t touch it with a 10-foot pole. We jumped on little Crocs (plastic shoes!) and rode it to the moon. And we did very well with ridiculously “expensive” First Solar, in part because we sold early, while its business was still booming, but its stock was on the skids. We could have justified owning none of those stocks if all we looked at were numbers.

Bottom line: to make money in exceptional growth stocks, you can’t just look at numbers; you’ve also got to look at momentum and sentiment.

But before I get deeper into Apple’s case, I want you to study this long-term chart of Coca-Cola (KO–see above) (the number one brand in the world today), spanning the years from 1965 to the end of 1985.  See at the top of this article.Note the earnings line, with each dot marking a quarterly earnings figure. It’s a steady uptrend, with the exception of a sharp dip in late 1974 and a stumble in 1981-1982. Then look at the dividend line; Coke’s dividends were increased every year, like clockwork. Finally, observe the price line, noting that Coke’s price peaked in late 1972 and didn’t exceed that level until late 1985, 13 years later.

The explanation for those “lost 13 years” lies not in the numbers; it lies in crowd psychology, and specifically, in the investing environment of the times. Coca-Cola was one of the Nifty Fifty, popularly regarded as one-decision stocks that you would simply buy and hold forever. (Others in this august group included Digital Equipment, Eastman Kodak, J.C. Penney and Simplicity Pattern).
Well, for investors who truly had the patience and guts to hold Coke through those lost 13 years, it worked out okay. But most investors don’t work with that kind of time horizon. Most investors can’t hold five years without seeing a profit—and they shouldn’t have to!

The truth is, the extreme popularity of those stocks (call it reverence, even), was a sign of their potential to top. But it was very hard for investors to see it then!
So, getting back to Apple, I’ve already mentioned the stock’s high regard among the general public; it’s the number two brand in the world. Among institutional investors, it’s regarded as royalty, providing both a dividend and spectacular growth. In fact, if you manage institutional money, owning AAPL has become almost a requirement in recent years, and the result of all that buying power is that even after the recent correction, AAPL is still up 45% for the year!
But when everyone who might buy a stock has bought it, what happens?
The same thing that happened to Coca-Cola in 1972.

It stops going up, and to some extent—every stock is different—it goes down.
Now, I have no doubt that Apple (the company) will continue to grow revenues and earnings for years to come. I’ve been an Apple user since 1987, when I bought a Macintosh SE for Cabot (to join our IBM Displaywriter—Google that!). Today I use a MacBook Pro, an iPad and an iPhone on a daily basis, and I expect to be an Apple user to the day I die, benefiting from the company’s legendary ability to make complicated technological interactions simple.

Nevertheless, I’m bearish on Apple (AAPL) stock today and here’s why.
There’s a dirty word to describe what happens when a company’s growth slows, and when the perception of the company’s future becomes just slightly tarnished. As that word spreads, and as those perceptions spread, the stock slowly collapses, as the supply of stock (potential sellers) overwhelms demand (potential buyers).


The Dirty Word
The word is deceleration, which is a fancy phrase for slowing down. And Apple is decelerating! That third quarter earnings growth of 23% followed second quarter earnings growth of 20%. Those were the slowest quarters since mid-2009! And looking forward, the projected 12% growth in 2013 is even slower, though 18% for 2014 provides hope.

Now, 12% growth is nothing to sneeze at; many companies would kill for 12% growth. And 18% is excellent! But it’s quite a comedown from the nine consecutive quarters from 2010 into 2012 where Apple’s earnings grew more than 50%! It’s deceleration.

And that brings us to the stock’s performance, which is where the rubber meets the road. Because more important than numbers, more important than sentiment, is the stock’s actual performance. So here’s Apple’s chart, since the 2009 bottom.

As on Coke’s chart, you see the earnings line, trending higher, but rounding somewhat recently; that’s the deceleration of earnings. There’s no dividend line on this chart; Apple’s dividend history is short but healthy. But there is another line on this chart and that’s the RP line. RP stands for Relative Performance; it depicts the performance of the stock relative to the broad market.

Note that over the past four years, whenever AAPL corrected, its RP line basically flattened out (ignoring the tiny weekly movements). But in this year’s correction, AAPL’s RP line turned down, and for eight weeks, AAPL performed worse than the overall market.

Now, this underperformance alone is not the kiss of death. Many stocks can pull out of similar corrections and move out to new highs.

But look back at Coke’s chart. If you look at the RP line, you’ll see the same pattern! From 1964 through 1973, KO was pretty healthy, beating the broad market overall, and holding its own in corrections. But after 1973, as sentiment turned, and the selling pressures slowly overwhelmed buying pressures, KO’s RP turned clearly negative, beginning a pattern that lasted many years longer than most investors could stomach.

And that’s very likely where AAPL is today.
So when you put it all together…
• The extremely high market cap
• The extremely positive public opinion
•The extremely high level of institutional ownership
• The deceleration of earnings growth
• The weakening relative performance line
…it looks ominous.

Now, big, well-respected stocks don’t collapse overnight. To the contrary; when a high-quality stock like Apple pulls back, you’ll hear a new chorus of “It’s a great value down here” and “Buy the dips.” But as time goes by, and the stock fails to return to its old highs, those choruses fade, and the stock falls slowly out of the limelight—just like Coca-Cola did in the 1970s.

Stepping back to look at the big picture, it’s worth remembering that investing is not a science. Uncertainty is a given.

But to be a successful investor, you need to put the odds in your favor, and today, the odds are not good for investors in Apple.  See more  http://www.timothylutts.com/

ALAS, NEVER CEASE TO DO YOUR OWN THINKING.

You might have sold out of a uniquely profitable company as AAPL went on to triple over the next five years!~

 

Apple (AAPL) 100 to 1 in the Stock Market

Apple

After buying Apple during the depths of the Tech Bubble Bust in 2003 around $6.94, I recently had to sell about ten years later around $700 for a compound annual return over 10 years of 58.5%. Eat your heart out Munger, Buffett, Soros, Graham, Tudor Jones, etc., etc.

And now what? 

Ok, Ok, I live in fantasy.  A friend recently said that he wished he had sold his Apple after buying it last year. Coulda, shoulda, woulda doesn’t advance your skills as an investor. What can we learn A Priori (before the fact) to help us as investors in finding and or managing our investments?  What lessons can be gleaned from Apple’s history? In Part 2: We will begin to prepare our case study file on Apple.

Improving Your Skills as an Investor (Reading about Apple), Indian Investor

Service Call

Reading Skills: Apple Case Study

Besides reading about great investors or pouring over your finance text books, you should broaden your perspective and read about industries and business founders. This reading–if done critically–will develop a more nuanced analysis of investments. I don’t know if AAPL is a buy or sell, it is in my too hard pile, but I found the two posts below from The Brooklyn Investor very informative. Do not underestimate the power of a genius. This case offers you a way to see how one investor applied his reading for greater understanding. A broad perspective of the world will help your investing. Remember that if you read the same sources, think the same way, then your returns will be at best average.

Comparing Apple’s leadership to Polaroid’s Founder

Interview with an Indian Investor

chetan_parikh

http://www.safalniveshak.com/value-investing-chetan-parikh-way-part-1/

http://www.safalniveshak.com/value-investing-chetan-parikh-way-part-2/

PS: Money Supply Aggregates are humming along at about a 11% clip. Bernanke is on fast cruise control.

MONEY SUPPLY GROWTH RATE HITS CRUISING ALTITUDE (www.economicpolicyjournal.com)
For the third week in a row, 13-week chained money supply (M2-nonseasonally adjusted)has come in at 11.4%. We, thus, may have hit a cruising altitude as far as annualized money printing.
Here’s the climb over recent weeks.
5.1%, 5.6%, 6.6%, 7.1%, 7.5%, 7.8%, 8.2%, 8.4%, 8.7%, 9.0%,
9.3%, 9.6%, 9.9%, 10.7% 11.4% 11.4% 11.4%

Answers to Chapter 6 Questions

“I just got out of the hospital. I was in a speed reading accident. I hit a book mark and flew across the room.” –Steven Wright

Q: What competitive advantages does Microsoft enjoy in the operating system industry?

The only segments within the PC world with features suggesting that there are barriers to entry protecting incumbent firms from new entrants are operating systems and CPUs. In both there are a small number of competitors and stable market share. Microsoft enjoys both customer captitivy and economies of scale in the operating systems business. Customers prefer to stick with what they know, especially regarding software. Swithching costs can be prohibitive when many users have to be taught to use unfamiliar programs. Search costs also inhibit change because the buyer has to have confidence in the reliability of the new system and the survivability of its creators.

The most important advantage is economies of scale. Writing complicated software keeps expensive engineers at their terminals and benches for hundreds of thousands of work hours. On the other hand, the marginal costs of the next unit of the operating system can be low as zero, and seldom more than a few dollars, even when burned on a CD and boxed with a manual.

Network effects enhance both customer captivity and economies of scale.

Q2: Why have “box makers” not been able to establishy a competitive advqtage over other competitors? Why was the enormous growth in the market for PCs such a problem for Compaq specifically? Did it have any alternatives that might have worked out better than its chosen strategy? Did Apple?

The Compaq story is so interwined with the hsitory of the PC that it is easy to miss the more general significance. It lost its competitive advantage and the resulting high levels of profitability as the markets grew and allowed competitors to develop equivalent economies of scale. Rosen, the venture capitalist, was astute to recognize that the quality and economies of scale advantages of Compaq benefited from in the 1980s were now history, and that unless Compaq changed its business plan, it was going to be fighting against lower-cost but qualitatively equal competitors. He and his team pursued the operational efficiency in the absence of competitive advantage.

Apple confronted a grim situation. In the two market segments–microprocessors and operating systems–there were powerful competitive advantages, enjoyed by Intel and Microsoft, based on economies of scale, supplemented by captive customers and some proprietary production technologies. The other segments were highly competitive.

Apple operated, either by itself or in partnership with Motorola, in five market segments within the PC universe. Apple did not possess a competitive advantage. Tying those segments together in the name of “synergy” did not help. Also, the evolution of the industry toward separate maor players in each segment argued strongly against the existence of significant advant5ages from vertical integration. Apple held only 10% of the PC market so it had no bargaining power in alliances.

Apple should have specialized and focused on operational efficiency at least to where it could have earned its cost of capital.

END

Competition Demystified Chapter 6: Niche Advantages and the Dilemma of Growth Quiz

I intend to live forever – so far, so good–Steven Wright

Questions on the reading in Chapter 6

Let’s test our comprehension of the reading.

What competitive advantages does Microsoft enjoy in the operating system industry?

Why have “box makers” not been able to establish a competitive advantage over other competitors? Why was the enormous growth in the market for PCs such a problem for Compaq specifically? Did it have any alternatives that might have worked out better than its chosen strategy? Did Apple?

Learn Accounting; Industry Metrics; Amazon; Geico Valuation; Klarman, Textbook Pubs. are Toast

“Your goal as an investor should simply be to purchase, at a rational price, a part interest in an easily understandable business whose earnings are virtually certain to be materially higher five, ten and twenty years from now. Over time, you will find only a few companies that meet these standards – so when you see one that qualifies, you should buy a meaningful amount of stock. You must also resist the temptation to stray from your guidelines: If you aren’t willing to own a stock for ten years, don’t even think about owning it for ten minutes. Put together a portfolio of companies whose aggregate earnings march upward over the years, and so also will the portfolio’s market value.” –Warren Buffett

To the Austrians, economics is not a tool of social control, it’s a framework for helping us understand humanity, its history, and our plight in the world”–Peter Boettke

Accounting and Financial Metrics of Industries

Learn more about accounting and a good source of industry metrics (please don’t share my secrets!)http://mgt.gatech.edu/fac_research/centers_initiatives/finlab/index.html

Heilbroner, a socialist, admits socialism is a total failure: http://reason.com/archives/2005/01/21/the-man-who-told-the-truth

Game over for text-book publishers

http://www.bloomberg.com/news/print/2012-01-24/apple-bites-into-core-of-school-textbook-monopoly-byron-brown.html

Valuation of GEICO

http://www.scribd.com/doc/78448120/Warren-Buffett%E2%80%99s-1995-GEICO-acquisition. There is something important missing in this valuation. Can anyone point it out?

Is America’s Debt a Problem?

http://www.youtube.com/watch?v=yN5pkhZ1UhM&feature=digest_sun

Klarman and the Importance of History

Facing History and Ourselves.   I am sure this has been posted before, but if not, view this.   http://vimeo.com/32333102

Charlie479 Discusses AMZN

A generous reader shared this: Interesting comments from Charlie479 on AMZN (from VIC). Another example of an investor who thinks strategically and like a business person.

charlie479   12/20/11 11:25 PM AMZN one of the best companies I forgot to say that I chuckled thinking about the analyst making the “I want to buy Amazon at 100x earnings” pitch. I suppose that doesn’t necessarily make it mispriced but the earnings power is certainly higher than current GAAP net income. I think they could easily raise their prices by $0.63 per each $25 order (not exactly the same thing, but if Super Saver shipping was $0.63 instead of free, would that really change shopper behavior?). If they managed the business to maximize current profits like this, that $0.63 increase per $25 would double earnings. If sales grow like they did the past 12 months then suddenly the multiple isn’t looking so crazy. I’m not saying this makes AMZN one of the top half dozen stock investments in the world but the p/e might not be awful if your thesis is right.

I’ve occasionally wondered if someone could beat Amazon if they had $80 billion. I don’t think they could take over the #1 spot but I do think they could become competitive in a lot of areas. I would probably use the $80 billion to start several category-specific internet retailers, develop a large selection within that category, and drive turnover by capturing mind share as the expert in that category and as the lowest price seller, initially at losses. This is more or less the Amazon playbook, and companies like Diapers.com (before being bought), Newegg, and Blue Nile have managed to carve out niches. I bet there will be more. I think if VCs or public markets are willing to lose enough money for awhile, it isn’t that hard to replicate the warehouse network and other logistical moats.

Another reason to temper the who-needs-another-pipeline thought I posed in the previous comment is that consumers sometimes choose retailers for reasons other than price and selection. Certain bricks and mortar retailers will always have an advantage in terms of convenience (e.g. convenience stores, insightful eh?). And customers like to touch and try on certain products, like clothes, so I don’t see Amazon getting anything close to 50% share in those categories. Freshness matters, too, so it’s not clear grocery can be effectively penetrated by Amazon, and I bet that is a large portion of the Global Retail sales denominator. So, perhaps the current internet retail number at 3% is lower than what most people think, but maybe the maximum theoretical internet retail percentage is also lower than what most people think.

charlie479  12/20/11 10:47 PM AMZN one of the best companies

I think Amazon is one of the most admirable companies in the world. It has the expense advantages in rent and labor over B&M retailers that you mention, and it has cost advantages over other internet retailers as well. The massive sales volume makes the fixed cost percentages very low, and the inventory turnover in many products is so high that it can accept lower gross margins and still generate higher ROIC than competitors who charge a larger markup. The lower markup attracts more customers and generates more volume, which only reinforces the edge. It is the higher-turn/lower-markup Borsheim’s dynamic that Buffett describes.

The advantages aren’t limited to cost either. The high turnover also allows them to carry a huge number of SKUs at adequate ROIC, so they can offer customers the widest selection in many categories. For certain categories, after I browse Amazon and then Wal-Mart, I’ll come away feeling that Wal-Mart doesn’t have much of a selection. It’s hard to make Wal-Mart look narrow. Amazon is the first/last place many people shop because they know it has the widest selection and it’s likely to have that selection in stock.

Another non-price advantage is that they’re the most trusted internet retailer. I actually think those customer satisfaction ratings might be understating the difference. Their return policy and customer service is great. Even if a product is available from discountworldxyz.com at a slightly cheaper price, I’ll pay more to get it through Amazon because I know it’ll be the product I ordered, or else I’ll be able to return it. Who wants to deal with negotiating shipping costs or return policies with anyone else? I don’t think this is simply Amazon being more generous than discountworldxyz.com. They have the low-cost structure described in paragraph #1 that allows them to accept higher return costs while still generating better ROICs. I also suspect that their extensive review database reduces some of the likelihood of returns.

I think many retailers like Best Buy are at such a severe selection and cost disadvantage (even adjusting for sales tax) that their businesses are in trouble in the long-term. I even worry about beloved Costco. I no longer have no-price-comparison-needed-let’s-just-buy faith when walking down the aisles at Costco because Amazon has better prices frequently enough to make me doubt. More broadly, as someone who is cheering for the Costcos (no financial rooting interest, I just root for them because I admire them), I worry that Amazon will get to such scale one day that it’ll be a more efficient overall system for one UPS guy to drive from the Amazon warehouse and cruise through your neighborhood dropping off everything you and your neighbors need for the week. That might sound crazy but the current system of having you and all your neighbors separately drive SUVs 15-20 minutes to Costco to each walk through the aisles hand-picking and then checking out, doesn’t sound that efficient by comparison. I haven’t read anything about Bezos explicitly saying that’s his endgame but I wouldn’t be surprised if that’s in the 10 year wish list. If they end up with the cheapest and widest pipeline, there might not be much need for other pipelines.

Free Resources on Value Investing; Kahneman Podcast on Uncertainty; Apple; Reader’s Questions

I’m sorry, if you were right, I’d agree with you.–Robin Williams

CAPATCOLUMBIA

Free Value Investing Course Work here: www.Capatcolumbia.com

Kahneman Podcast on Uncertainty

Professor Kahneman uses a variety of examples to discuss the inside/outside view, statistics and stories and prediction. (1:02:45). This radical pessimist says, “The world makes more sense to us than it really is.”  Excellent Podcast! http://www.thoughtleaderforum.com/default.asp?P=909655&S=945705

Other interesting lectures as well at www.thoughtleaderforum.com

Key takeaway: As a value investor when investing in a franchise with a winner take all market-BE PATIENT.

Federal Reserve Lectures

Bernanke Lectures on the Federal Reserve: http://www.federalreserve.gov/newsevents/press/other/20120126a.htm

Counterpoint to Bernanke’s Lectures: http://www.economicpolicyjournal.com/2012/01/march-madness-bernanke-versus-rothbard.html

Austrian Value Investor, Jim Rogers

A value investor who incorporates “Austrian” economics into his investing: http://en.wikipedia.org/wiki/Jim_Rogers

The State of America Today

Oglala Sioux, Russell Means gives a State of the Union Address. http://www.economicpolicyjournal.com/2012/01/russell-means-endorses-ron-paul.html  More informative than Obama’s recent address to the nation last week. Forget the Paul endorsement and instead ask as an investor–if change occurs at the margin, does the Patriot Act and Obama’s recent rejection of the Keystone Pipeline (http://www.washingtonpost.com/opinions/obamas-keystone-pipeline-rejection-is-hard-to-accept/2012/01/18/gIQAf9UG9P_story.html) raise the cost of capital for American companies in general (P/E multiples become compressed).

Russell Charles Means (born November 10, 1939) is an Oglala Sioux activist for the rights of Native American people. He became a prominent member of the American Indian Movement (AIM) after joining the organisation in 1968, and helped organize notable events that attracted national and international media coverage. The organization split in 1993, in part over the 1975 murder of Anna Mae Aquash, the leading woman activist in AIM.[1]

Greenwald Student Discusses Apple’s Success

From his email: This is what Greenwald will probably say, which is partly true. But you can put anything to his framework (once successful), and say that is their core competency.

1. Apple’s core expertise is in design, and they extend this design to all products.

2. They don’t manufacture the hardware. They assemble them and wrap it in a much better design. Everything that goes into the hardware, CPU, Hard disks, Memory is not made by them.

3. They do software – some of it, like the OS, etc. They don’t do everything. Even steve jobs says, Focus, Focus, get rid of the things that we don’t want. He gave the Google guys the same advice. Don’t become like Microsoft – don’t try to do a lot of things. Stick to four or five things.

You can also think about Steve Jobs as someone who has come and reduced the inefficiencies. I mean when each person has three/four devices that he can access information from – it will be so much better if someone integrates the content. If you take a picture, and you can seamlessly see it on your iPad, Itouch, Mac, Apple TV (not yet released), customers would benefit. Same applies to email, contacts, etc. (rather than taking a usb stick and moving it around all the time).

They are creating products where there is a need like any entrepreneur.

Reader Question on Real Savings

In “Other Views on Inflation and Stocks” section from this post:http://wp.me/p1PgpH-kz, the Mises links talk about the pool of real savings. What is the author referring to? Does the real pool of savings track real changes in the exchange of goods and services?

My reply: Not exactly……see below. Savings is not the transfer of REAL goods and services being exchanged back and forth, but the postponement of present consumption for the future.

 Why Government Data on Saving is Misleading

The nature of the market economy is such that it allows various individuals to specialize. Some individuals engage in the production of final consumer goods, while other individuals engage in the maintenance and enhancement of the production structure that permits the production of final consumer goods.

We suggest that it is the producers of final consumer goods that fund — that is, sustain — the producers in the intermediary stages of production. Individuals who are employed in the intermediary stages are paid from the present output of consumer goods. The present effort of these individuals is likely to contribute to the future flow of consumer goods. Their present effort however, does not make any contribution to the present flow of the production of these goods.

The amount of consumer goods that an individual earns is his income. The earned consumer goods, or income, supports the individual’s life and well-being.

Observe that it is the producers of final consumer goods that pay the intermediary producers out of the existing production of final consumer goods. Hence, the income that intermediary producers receive shouldn’t be counted as part of overall national income — the only relevant income here is that which is produced by the producers of final consumer goods.

For instance, John the baker has produced ten loaves of bread and consumes two loaves. The income in this case is ten loaves of bread, and his savings are eight loaves. Now, he exchanges eight loaves of bread for the products of a toolmaker. John pays with his real savings — eight loaves of bread — for the products of the toolmaker.

One may be tempted to conclude that the overall income is the ten loaves that were produced by the baker, plus the eight loaves that were earned by the toolmaker. In reality, however, only ten loaves of bread were produced — and this is the total income.

The eight loaves are the savings of the baker, which were transferred to the toolmaker in return for the tools. Or, we can say that the baker has invested the eight loaves of bread. The tools, in turn, will assist at some point in the future to expand the production of bread. These tools, however, have nothing to do with the current stock of bread.

While the producers of final consumer goods determine the present flow of savings, other producers could have a say with respect to the use of real savings. For instance, the toolmaker can decide to consume only six loaves of bread and use the other two loaves to purchase some materials from material producers.

This additional exchange, however, will not alter the fact that the total income is still ten loaves of bread and the total savings are still eight loaves. These eight loaves support the toolmaker (six loaves) and the producer of materials (two loaves). Note that the decision of the toolmaker to allocate the two loaves of bread towards the purchase of materials is likely to have a positive contribution toward the production of future consumer goods.

The introduction of money will not alter what we have said. For instance, the baker exchanges his eight saved loaves of bread for eight dollars (under the assumption that the price of a loaf of bread is one dollar).

Now, the baker decides to exchange eight dollars for tools. This means that the baker transfers his eight dollars to the toolmaker. Again, what we have here is an investment in tools by the baker, which at some point in the future will contribute toward the production of bread. The eight dollars that the toolmaker receives are on account of the baker’s decision to make an investment in tools.

Note once more that the tools the toolmaker sold to the baker didn’t make any contribution toward the present income — that is, the production of the present ten loaves of bread. Likewise, there is no contribution to the total present income if the toolmaker exchanges two dollars for the materials of some other producer. All that we have here is another transfer of money to the producer of materials.

Obviously, then, counting the amount of dollars received by intermediary producers as part of the total national income provides a misleading picture as far as total income is concerned.

Yet this if precisely what the NIPA framework does. Consequently, savings data as calculated by the NIPA is highly questionable.

The NIPA Follows the Keynesian Model

The NIPA framework is based on the Keynesian view that spending by one individual becomes part of the earnings of another individual. Each payment transaction thus has two aspects: the spending of the purchaser is the income of the seller. From this it follows that spending equals income.

So, if people maintain their spending, they keep income levels from falling. And this is why consumer spending is viewed as the motor of an economy.

The total amount of money spent is driven by increases in the supply of money. The more money that is created out of thin air, the more of it will be spent — and therefore, the greater the NIPA’s national income will measure (see Figure 2). Thus, an increase in the money supply on account of central bank policies and fractional-reserve banking makes the entire calculation of the total income even more questionable.

Since this money was created out of thin air, it is not backed by any real goods; income in terms of dollars cannot reflect the true income. In fact, the more a central bank pumps additional money into the economy, the more damage is inflicted on the real income. As a result, money income rises while real income shrinks.

Real Savings mentioned http://mises.org/daily/3640

Is there a glut of real savings? Money is not savings: http://mises.org/daily/1882

Good and bad credit: http://mises.org/daily/3151

From Frank Shostak: Do People Save Money?

Is it true that individuals are saving a portion of their money income? Do people save money?

Out of a given money income, an individual can do the following:

he can exchange part of the money for consumer goods;

he can invest;

he can lend out the money (i.e., transfer his money to another party in return for interest);

he can also keep some of the money (i.e., exercise a demand for money).

At no stage, however, do individuals actually save money.

In its capacity as the medium of exchange, money facilitates the flow of real savings. The baker can now exchange his saved bread for money and then exchange the money for final or intermediary goods and services.

What is commonly called “saving” is nothing more than exercising demand for the medium of exchange (i.e., money). This means that people don’t actually save money but rather exercise demand for it. And, when an individual likewise exchanges his real savings for money, he in fact only increases demand for money. The money he receives is not income; it is a medium of exchange that enables the individual to secure goods. In the absence of final consumer goods, all of the money in the world would be of little help to anyone.

My reply: The extent to which an individual will save is explained by his time preference. Savings is deferred consumption. Deferred consumption allows for resources to be used for longer stages of production which should boost productivity.

Read chapter 14 in Capitalism especially pages: 622-651.

For a graphical discussion of real savings read Man, Economy and State pages: 367 to 451 and 517 to 521.

I will speak to a real Austrian economist this week and ask what are REAL savings and see if I can give you a more concise answer.

Another Reader Question:

Also, let’s say that we have a world currency (dollars) and a world Federal

Reserve. If money is dropped from a helicopter into a jungle and every dollar is picked up by a group of 10 individuals, then those 10 individuals would benefit from essentially receiving free money, correct? Their savings would increase and they could use their new found money to purchase capital goods. Society as a whole would lose because REAL savings and REAL capital goods and services exchange would not increase. There would be more money in circulation chasing the same amount of goods, which would cause prices to rise and/or the value of the currency to decline? Does that sound correct?

My reply: Yes, they would benefit as would any counterfeiter would benefit spending the money first before prices can adjust fully. The gain of the early beneficiaries is matched by the losses in real purchasing power of the people who are the last to receive the money AFTER prices have adjusted.  You are correct that real savings would NOT increase. In fact, the structure of production is thrown off which in the end hurts society (boom and bust) in addition to the unfairness of inflation. The money printing distorts production causing mal-investment which depletes REAL savings.

Frank Shostak comments: Consider the so-called helicopter money case: the Fed sends every individual a check for one thousand dollars. According to the NIPA accounting, this would be classified as a tremendous increase in personal income. It is commonly held that, for a given consumption expenditure, this would also increase personal savings.

However, we maintain that this has nothing to do with real income and thus with saving. The new money didn’t increase total real income.

What the new money has done is set in motion the diversion of real income from wealth generators to the holders of new money. The new money that the Fed has created out of thin air prompts exchanges of nothing for something. Consequently, wealth generators have less real wealth at their disposal — which means that the process of real wealth and savings formation has weakened.

In the helicopter example we have a situation in which, for a given pool of real savings, an increase in nonproductive consumption took place. (By nonproductive consumption we mean consumption that is not backed up by the production of real wealth.) This means that the real savings of wealth generators, rather than being employed in wealth generation, is now being squandered by nonproductive consumption.

From this, we can also infer that the policies aimed at boosting consumer spending do not produce real economic growth, but in fact weaken the bottom line of the economy.

In the NIPA framework, which is designed according to Keynesian economics, the more money people spend, all else being equal, the greater total income will be. Conversely, the less money is spent (which is labeled as savings), the lower the income is going to be. This means that savings is bad news for an economy.

We have, however, seen that it is precisely real savings that pays — i.e., that which supports the production of real wealth. Hence, the greater the real savings in an economy, the more are the activities that can be supported.

What keeps the real economic growth going, then, is not merely more money, but wealth generators — those who invest a part of their wealth in the expansion and the maintenance of the production structure. It is this that permits the increase in the production of consumer goods, which in turn makes it possible to increase the consumption of these goods.

Only out of a greater production can more be consumed.

Can the State of Savings be Quantified?

What matters for economic growth is the amount of total real savings. However, it is not possible to quantify this total.

To calculate a total, several data sets must be added together. This requires that the data sets have some unit in common. There is no unit of measurement common to refrigerators, cars, and shirts that makes it possible to derive a unified “total output.”

The statisticians’ technique of employing total monetary expenditure adjusted for prices simply won’t do. Why not? To answer this, we must ask: what is a price? A price is the amount of money asked per unit of a given good.

Suppose two transactions were conducted. In the first transaction, one TV set is exchanged for $1,000. In the second transaction, one shirt is exchanged for $40. The price, or the rate of exchange, in the first transaction is $1,000 per TV set. The price in the second transaction is $40 per shirt. In order to calculate the average price, we must add these two ratios and divide them by 2. However, it is conceptually meaningless to add $1,000 per TV set to $40 per shirt. The thought experiment fails.

The Real Culprit

Rather than attempting the impossible, as far as calculating real savings is concerned, one should instead focus on the factors that undermine real savings. We suggest that the key damaging factors are central bank’s and government’s loose monetary and fiscal policies.

These policies are instrumental in the weakening of the process of real savings formation through the diversion of real savings from wealth generators to non-wealth-generating activities.

The US economy has been subjected to massive monetary pumping since early 1980 via the introduction of financial deregulations. The ratio of our monetary measure AMS to its trend jumped from 1.17 in January 1980 to 3.5 in July 2009. (The trend values were calculated by a regression model, which was estimated for the period 1959 to 1979, the period prior the onset of financial deregulations).

Likewise, the US economy was subjected to massive government spending. For the fiscal year 2009, US federal government outlays are expected to stand at $3.5 trillion.

The outlays-to-trend ratio (the trend was estimated for the period 1955 to 1979) jumped to 4.1 in 2009, up from 3.5 in 2008 and 1.45 in 1980.

The ever-expanding government outlays are also depicted by the federal debt, which stands at $11.6 trillion thus far into 2009. Against the background of massive monetary pumping and ever-expanding government, we suggest that this raises the likelihood that the pool of real savings could be in serious trouble.

That this could be the case is also suggested by the private sector debt-to-its-trend ratio. This ratio stood at 5.8 in first quarter, against a similar figure from the previous quarter. The ever-rising ratio raises the likelihood that the increase in the private sector debt is on account of nonproductive debt. Real savings, instead of funding wealth generating activities, have been supporting non-wealth-generating activities. This weakens the ability of wealth-generating activities to grow the economy.

We can conclude that, given prolonged reckless fiscal and monetary policies, there is a growing likelihood that the pool of real savings is in trouble. If our assessment is valid, this means that US real economy is likely to struggle in the quarters ahead.

In addition, if the pool of real savings is under pressure, none of the government and central-bank policies to lift the economy is going to work. Note that as long as the pool of real savings is holding its ground, such policies appear to be effective. In reality, though, it is the expanding pool of real savings that drives the economy — and not various stimulus policies.

Conclusions

According to latest US government data, the personal saving rate jumped to 4.6% in June this year after settling at 0.4% in June last year. We suggest that on account of an erroneous methodology, the so-called “saving rate” that the government presents has nothing to do with true savings.

Since early 1980s, the ever-rising money supply and government outlays have severely undermined the process of real savings formation. As a result, it will not surprise us if the US pool of real savings is in serious trouble. If what we are saying is valid then it will be very hard for the US economy to grow, for it is a growing pool of real savings that makes economic growth possible.

Furthermore, the growing pool of real savings is the reason that loose monetary and fiscal policies appear to be working. In reality, however, all that these loose policies achieve is a further depletion of the pool of real savings — thus reducing prospects for a genuine economic recovery.

Update on VALUE VAULT; Questions from a Reader; Apple and Strategic Logic

A lot of companies have chosen to downsize, and maybe that was the right thing for them. We chose a different path. Our belief was that if we kept putting great products in front of customers, they would continue to open their wallets.

A lot of people in our industry haven’t had very diverse experiences. So they don’t have enough dots to connect, and they end up with very linear solutions without a broad perspective on the problem. The broader one’s understanding of the human experience, the better design we will have.

Again, you can’t connect the dots looking forward; you can only connect them looking backwards. So you have to trust that the dots will somehow connect in your future. You have to trust in something – your gut, destiny, life, karma, whatever. This approach has never let me down, and it has made all the difference in my life.

An iPod, a phone, an internet mobile communicator… these are NOT three separate devices! And we are calling it iPhone! Today Apple is going to reinvent the phone. And here it is.

And it comes from saying no to 1,000 things to make sure we don’t get on the wrong track or try to do too much. We’re always thinking about new markets we could enter, but it’s only by saying no that you can concentrate on the things that are really important.
–Steve Jobs

Update on the VALUE VAULT

(contact: Aldridge56@aol.com with VALUE VAULT in subject line for the key)

I uploaded 21 videos of 2010 value investing lectures into a sub-folder in the VALUE VAULT.  The VAULT seems cluttered so unless anyone objects, I will place non-videos into folders with sub-categories for easier searching. I will choose a quiet time to work on the vault—probably Sunday.

If you are having trouble opening the folder, please contact www.yousendit.com customer service at 888-535-9442 or (outside the USA) 1-408-385-8491 and email me if the problem has or hasn’t been fixed.  I will #$%^&*! find out the problem. I am having no issues accessing the folder or videos so far.

If anyone has an idea for a more accessible storage option, let me know.

Question from a Reader

I’ve just started digging into the Competition Demystified PDF (in VALUE VAULT) and came across this passage (also mentioned in the “Strategy is Local” PDF) and couldn’t help but wonder what’s changed:

“Apple’s experience stands in stark contrast. From the start, Apple took a more global approach than Microsoft. It was both a computer manufacturer and a software producer. Its Macintosh operating system anticipated the attractive features of Windows by many years— “Windows 5 = Macintosh 87,” as the saying goes. Yet its comprehensive product strategy has been at best a limited and occasional success, especially when compared to Microsoft’s more focused approach.”

This strategy of controlling everything (operating system, hardware, software licenses/developers, content delivery, etc.) is, according to Greenwald, a competitive liability, yet today, as Apple is the most valuable company in the world and the most successful tech company, it is the very reason given for their massive success, and the “special genius” of the recently departed Jobs.

What gives? Is Apple just a fad? Is Greenwald making stuff up? Or is there some other piece of this puzzle I am not considering?

The Reader follows up with: “I thought of another strategic element for Apple. I read this somewhere a few months ago, don’t remember where, but Apple basically made exclusive contracts with its various suppliers such that they guaranteed them large volume up front in return for them not taking orders from competitors, essentially (some arrangement like that).

This resulted in two things:

First, conferred a competitive advantage in supply to Apple because they were able to achieve lowest cost in production.

Second, accomplished the strategic goal of totally denying their competitors access to suppliers of similar quality/cost. This meant that the only way a competitor could create something of Apple quality would be to pay (and charge) a lot more for it. But Apple commanded a brand premium in the market place while the competitors did not. This would be a good example of the Jarillo principle of the premium company charging less than they could, forcing competitors who don’t command a premium to price near cost.

I think normally the issue of “what suppliers do we use and how do we contract with them?” would be tactical. But because Apple interfered with their competitors’ ability to compete by working with suppliers the way they did, this seems to be a strategic consideration as well.

My reply: Like a lecturer before an audience, I was hoping no one would notice that my fly was unzipped. The reader is mentioning the elephant in the room–did Steve Jobs read Prof. Greenwald’s Competition Demystified and just do the opposite–Apple has a closed system for hardware and software. Has Apple been successful?

There are a number of possible answers:

  1. Prof. Greenwald has missed something in his approach to strategy.
  2. Apple may be using elements of strategic logic to be successful like economies of scale, customer captivity, network effect, and patents.
  3. Steve Jobs may be a genius who invented an industry or product beyond the immediate scope of strategic analysis. In other words, you can’t analyze the reasons for success of someone who invents the cure for cancer or a process that turns an element into a resource. You can’t predict genius.

Who said strategic thinking would be easy. Let’s take our time to look at a problem from all sides and go through our strategic logic process. We will soon discuss the Coors case study and then move on to Chapter 6: Compaq and Apple in the Personal Computer Industry or pages 113-136 in the book. Once we have finished the book and all the cases, let’s circle back and study Apple’s current success.

One question that should slap you in the face, “Why does Apple have such a low multiple of earnings and cash flow?” Perhaps the market does not believe that Apple can have real growth and/or the genius of Steve Jobs will no longer drive Apple’s future.

Should the government tell you how to live?

Freedom of choice: http://www.youtube.com/watch?v=A6a9549ZeqQ&feature=g-vrec&context=G22064f2RVAAAAAAAABA

Personal Prejudices

We all have our prejudices. Here is how to deal with them.

Prejudice: http://www.youtube.com/watch?NR=1&feature=endscreen&v=9aVUoy9r0CM

Sensitivity Training: http://www.youtube.com/watch?v=iliNaspGVDg&feature=related

More posts to follow…………

Rest in Peace Steve Jobs, an Entrepreneur

RIP Steve Jobs.

Entrepreneurs drive this world not politicians or tyrants.

Human Action, carves out a special place for entrepreneurs in the world of economics. At econlib.org there is a searchable copy of Human Action –

Mises on entrepreneurship

The entrepreneur is the agency that prevents the persistence of
a state of production unsuitable to fill the most urgent wants of the consumers
in the cheapest way. All people are anxious for the best possible satisfaction
of their wants and are in this sense striving after the highest profit they can
reap. The mentality of the promoters, speculators, and entrepreneurs
is not different from that of their fellow men. They are merely superior to the
masses in mental power and energy. They are the leaders on the way toward
material progress. They are the first to understand that there is a discrepancy between what is done and what could be done. They guess what the consumers would like to have and are intent upon providing them with these things.

Like every acting man, the entrepreneur is always a speculator. He deals with the uncertain conditions of the future. His success or failure depends on the correctness of his anticipation of uncertain events. If he fails in his understanding of things to come, he is doomed. The only source from which an entrepreneur’s profits stem is his ability to anticipate better than other people the future demand of the consumers.

If all entrepreneurs were to anticipate correctly the future state of the market, there would be neither profits nor losses. The prices of all the factors of production would already today be fully adjusted to tomorrow’s prices of the products.

Editor: Since the future is unknowable how can the market be efficient?