Monday, September 29, 2008

Shock, Horror ...

U.S. House of Representatives rejects the $700 billion bail-out and ..... world doesn't end.

If only people cared as much about the environment and global poverty rather than the money markets which most people have little or no understanding of.

Given the amount of naysaying and panic about something which really isn't that important, society is not going to collapse just because a few banks go to the wall, it's surprising how little panic and direction there is over something which does matter like the environment.

Our priorities are really screwed.

According to the U.N. Food and Agricultural Organisation, 854 million people are malnourished worldwide. There are so many better things which $700 billion can be used for.

Let's hope that the House of Representatives takes some time to think about what it is doing. This mad dash rush to shore up the banking community because Peter is crying wolf is not being done in average Joe's interest.

P.S. If you're going to spend such a vast sum, you should at least buy-out rather than bail-out banks and ensure that some of it is spent on providing protection for the poorest members of your community.

Is Gordon heading into Moron country?

After weeks of reasonably sensible actions, suddenly the Government has made a complete howler. The £22.2 billion savings part of the Bradford & Bingley business is being sold to Santander for between £400 million and £600 million, whilst we (the taxpayer) gets to be exposed to the £41.3 billion mortgage business consisting mainly of "toxic" assets including the self-certified and buy-to-let horde.

Let's understand this. The taxpayer is going to cover the £22.2 billion savings business by providing a £20 billion loan. It should be remembered that B&B was technically in default and the savings business should have been covered by the financial community through the FSCS. However, instead of this, the Government has loaned this entire amount (the £14+ billion from the FSCS and an additional £4+ billion required). This loan will be paid back out of the sales of the £40 billion of dodgy mortgages.

However £14 billion of the assets realised will go to paying back the loan which the Government gave to the FSCS to pay its dues. Basically we've lent them a pile of cash to pay for something which they owe and we will recover the loan by selling assets which weren't theirs in the first place.

You can also bet that all the good mortgages have already been securitised (estimated at over £15 billion). So, it looks like we have £25 billion of highly "toxic" mortgage assets to cover a £20 billion loan, of which £14 billion is "guaranteed" by the FSCS even though they already owe that money. However we don't know what all the other liabilities are, so not only are the members of the FSCS probably jumping for joy but we could end up losing quite a bit of cash.

I'd have been happier if we picked up the savings business at a knock-down price (including £14+ billion paid by the FSCS and guarantees that the first asset sales from the mortgage business would cover the outstanding liabilities) and put the mortgage business into ordered administration. To pick up the liabilities including other banks liabilities is just plain nuts.

The Government's job is look after the interests of society and not to bail-out the financial community. Stop wasting tax-payers money.

P.S. Before anyone says it's a good deal for tax-payers, if it was a good deal then Warren Buffet or some other investment guru would have "effectively" bought out the mortgage business and the £14 billion guarantee of the FSCS with a £20 billion loan. It's a sucky deal and bad business.

Saturday, September 27, 2008

A touch of creative copying?

The recent SEAT Ibiza advert seems to remind me of the excellent Frontier Psychiatrist song by the Avalanches. If you watch the video closely you might notice a drum playing gorilla, now where have I seen that recently?

Ahoy there mateys

The housing market was hyper-inflated by excessive future borrowing. It's going to crash and a lot of people who have borrowed too much are going to get burned.

This is going to happen, the best that can be done is to put measures in place to protect the most vulnerable members of society and by that I mean the poorest. If you've been investing in property, it's unfortunate but it probably wasn't worth what you paid for it.

The "toxic" assets in the banking system mean that few banks are lending to each other creating problems on the money markets. Most of these weak banks were being torn apart through shorting but we've stopped that happening and furthermore we're exposing ever more tax-payers money to cover bankers failures.

In my view, this is just plain wrong.

We own a mortgage and loan bank - Northern Rock - and we should be directing all taxpayers money through it. The government should have bought out Lehman's European operation and combined the two to create an institution that competes aggressively on the financial markets as well as in the mortgage and loans business.

We should certainly allow the shorting of institutions as we should be looking to see what other bargains we can pick up. Despite what the popular press might say, shorting is not some evil act responsible for all the world's gloom. Bankers are responsible for the mess that many banks find themselves in and you shouldn't blame the cassandra's of the financial world for exposing the lie which some banks have been telling. If individual banks are weak then let's turn that to our advantage.

The government's job is to serve society, however it would seem as if we are being told that our only options are to bail-out or the banking system fails. This is clearly not true. I certainly don't mind my taxes being used to buy-out banks particularly when assets are cheap and they can turn a profit in the future but I do have a real problem with bailing out bankers for their mistakes.

The banking community wouldn't miss a heartbeat before making a quick buck on treasury bonds or bleating about how they need help or how the government interferes too much and they'll happily crash the pound if it helps them too.

However, it's not just bankers that our government should take a real interest in. The huge land banks, the suggestions of acting like cartels, increasing unemployment in the building trade and the claims that our three million new homes target won't be met should pique our interest.

There is an easy solution - a national building company. A quick bit of legislation to force open auctions on any land which has uncompleted planning permission or is vacant, mixed with a healthy dose of short selling on a builder and any other trick we can find in order to snap it up cheaply and we could be well on our way. Flood the market with cheap and environmentally friendly homes and most voters will thank you, especially if they can get a decent mortgage from their friendly national bank. It will also give a much needed boost to employment.

However, we can do better. Since all the banks that have gone bust or needed emergency funding had their accounts signed off by one of the big four accountancy firms, it is quite clear that tax auditing isn't working as it should. So let's nationalise that industry too by introducing new legislation such that the tax office is the only one entitled to audit and sign off accounts. It's an entire new revenue opportunity for the government.

Why are we being so soft? The government should be embarking on pillage and plunder of the banking, building and other communities and not handing over pots of gold to them. The government could really clean up here and get some quality assets at knockdown prices. With a bit of cunning it could probably get them for free.

The tax-payer shouldn't be seen as an easy option but instead a ruthless operator. Ask yourself what would happen if the government finances were run by Warren Buffet. Do you see Berkshire Hathaway offering to bail out the industry or is it using the current situation to make handsome investments. Why should the government be any different?

Now we're involved, we should stop acting like villagers and start acting like pirates. We want a good return on any investment we make.

Friday, September 26, 2008

How's Joe?

Since the U.S. financial system seems to be on the verge of collapse, it's worth taking a look at the financial state of your average U.S. citizen (i.e. the size of the debt spread equally among all 304 million citizens, children included.).

Roughly speaking :-

Of course this doesn't include the outstanding liabilities such as the amounts owed to overseas programs (i.e. make poverty history) and the environmental liabilities from years of excess.

Joe certainly seems to have been splashing the cash, especially since he's only got an average income of $28,567.

I wonder how long will it be before some "fool of a Took" decides that the solution is to print more money? If Wall Street can offload its "toxic" assets onto poor Joe, don't be surprised if they end up devaluing the little Joe has left.

Wednesday, September 24, 2008

vCloud ...

I was recently asked my views on the vCloud initiative. It's good that they are trying to create a marketplace of providers with portability between them, however it's unfortunate that the core technology is not open source as this creates an unnecessary weakness in the system.

In my view a smarter move would have been to open source the technology and act as the compliance authority to the marketplace. I suspect that this initiative will be either overtaken by an open source version or a larger proprietary "cloud" marketplace.

On the positive side, it does provide further justification to the idea of a utility computing marketplace. Though this is one where the providers hand over strategic control of the market to their technology partner.

Tuesday, September 23, 2008

Bad news ...

Despite what is often repeated, global climate has long been suspected to change rapidly. Modern evidence suggests that at the end of the Younger Dryas there was a rapid series of temperature increases, including a 2 to 5 degree change that occurred in 1-3 years.

No-one really understands how these changes occur and what events trigger it. The huge reserves of methyl hydrates stored below sub-sea permafrost are suspected of being a possible tipping point for a rapid change in global climate.

It should be remembered, that approximately 55 million years ago the Arctic sea had an average temperature of 20ÂșC and there was severe extinction rates in marine life. The cause of this is generally attributed to vast releases of methane from methyl hydrates.

In certain circles, it was believed that a sea temperature rise of around 5 degrees could start a massive scale release of methane. We already know that the Arctic region has seen a 4 degree increase in the last decade.

According to the Independent, researchers have seen areas of the sea foaming with gas bubbling through "methane chimneys".

This is not good.

The problem is that whilst we talk about how we discount the environment in market economics and how we should solve this problem with financial instruments, the environment simply doesn't care. The environment gets to set the rules, not our economic or political system.

Our first duty should be to the environment, everything else is inconsequential. Instead of doing this, for the past twenty five years we've been hoping that technology and the market will come to our rescue.

We've been leaving it to chance.

Let's hope our risk assessments have been somewhat better than the wizards in the financial community, because this is one toxic asset which no government can bail us out of.

Wednesday, September 17, 2008

What a Lehman ...

According to today's announcement by Barclays Capital, ten thousand Lehman employees plus the business they created is worth $250 million whilst their office and two data centres are worth $1,500 million.

That's going to bruise a few egos. Thanks to Leon for spotting this.

Standards and Innovation

The emergence of standard components for ubiquitous and common activities does not impair innovation but accelerates it. This is the principle of componentisation; the speed at which a system develops is directly related to the level of organisation of its subsystems.

Mashing up web services to create a new application depends upon layers of standard components, including standard protocols, operating systems, CPUs etc. If there were no standard components and you had to start with chip design before writing an application, the rate of innovation on the web would be snail like.

The only people who oppose standardisation are generally those who sell their product on the basis that it provides a differential. Of course, an activity which is ubiquitous is not a differential in any sense of the word. The arguments against standards are false.

"Cloud" computing is ripe for emerging standards and those standards won't hamper innovation, they will accelerate it.

Deepest, darkest ...

I arrived back today from my week long trip to deepest, darkest southern France. No internet, no phone and completely off the grid for a whole week.

I had a fabulous time.

The food and wine was outstanding, being not only better but also cheaper than the fare served up in UK establishments and supermarkets. Trips like this provide a sobering reflection on how the UK is still fervently rip-off Britain.

The pace of life was slower, more friendly and overall appeared more healthy. There was little of the bling bling narcissism and rap-a-long grotesques which litter our culture.

Concerns over the credit crunch appeared far and few between. Few eyebrows were raised at the news that Lehman bankers, analyst and traders who had gambled and profiteered profusely were about to lose their jobs. However, there was genuine concern for the large number of secretaries, cleaners, security guards and others who would also lose their livelihoods and are probably least able to cope. It was disappointing to note that the UK press seemed only to concern itself with the former, those most responsible for the problems and not the latter, those most likely to be seriously affected.

A week away from reading the popular press shows how the bling bling nature of our lifestyle certainly seems to permeate everything. This lack of caring for the weakest and the worship of all things Mammon is an American import we would do well to lose.

Other imports which we should also consider returning include the abundant slaughter and torture of our language. On arrival back in the UK, I was immediately struck by how many businesses were a "solution" to something.

"SeaFood Solutions", "Coach Travel Solutions" ... the list is endless. However I'm perplexed as to what the problem is that SeaFood is a solution to, and how a coach solves a coach travel problem. This massacre is not however confined to commercial enterprises, as Professor Van Gore eloquently explains in the New Statesman :

"We will broker the skills need of employers and employees within the city at whatever level is required; that is, we do not just concentrate on skills at university level but actually do the necessary brokerage work."

I think he means that they will help graduates find jobs. If only people would take a more simple approach to life, then maybe we would all understand what is going on and the consequences of all this complex financial instrument collapse would never have happened.

Monday, September 08, 2008

Heads we win, tails you bail us ...

Whether it's the environment or the economy, we've been heavily discounting the future and storing up trouble for ourselves. In the world of finance, we currently have close to $600 trillion of forward contracts (an agreed transaction at some point in the future), weak reserves and a mountain of debt.

The future just doesn't look friendly.

So what is the hapless banking community which is mainly responsible for this travesty going to do about it? Beyond paying PR firms and lobbyists to blame the government, it seems as if the plan is to wait until the taxpayer bails them out.

The great bailout has already started in the U.S. with the billions (some estimates are as high as $100bn) that has been piled into Fannie Mae and Freddie Mac. Unfortunately this is not just about the use of taxpayers' money to prop up financial institutions but also the exposure of the U.S. taxpayer to a further $5.5 trillion of mortgage debts. Let's not be coy about this, the U.S. has just shelled out a huge wad of cash and exposed every U.S. citizen to a further $20,000 of debt in order to underwrite some of the excesses of the financial community.

In simple monetary terms, the average U.S. taxpayer has just been done over. No wonder the financial markets are happy, who wouldn't be.

Whilst over the next few years the market will go down, it will also recover at a later date. I fully expect that at such point in time there will be all sorts of pressure to put Mae and Mac back into private hands; market knows best and all that. It would be good to see governments takes a VC like approach to their acquisitions (such as Northern Rock in the U.K.) and look for a good 10x return on investment.

If we're going to be exposed to the risk in the downturn, then when the recovery happens we should be looking to take as much of the profits as possible.

Wednesday, September 03, 2008

Sound advice ...

I'm a great fan of Dennis Howlett and his no nonsense approach to finance and IT. In his lastest post he talks about a number of practical activities that professionals should offer to tide a business through the current economic strife. One of the activities he mentions is to kill the IT budget and endeavour to move from capex to opex.

Now as Dennis mentions this means considering software as a service offerings, however this shift from capex to opex has some surprisingly complex management issues.

Many years ago, I started using worth based development techniques and utility charging mechanisms for client projects. To demonstrate this and the problems it caused, To explain this, I'll use the example of a web based sales system.

As the provider of the service, I didn't charge for building and delivering the system but instead provided costs for the design, build, maintenance and hosting. Since I had experience of running numerous web properties, some of which were successful and others less so, I was able to create methods for calculating the cost per user and a risk profile for the likely number of users.

Using this information, I could offer to provide the system on a per user basis with no upfront costs. Naturally, I was taking a risk should the system be unsuccessful but this was balanced against the potential upside of a highly successful web service.

However, this information created a problem. I could tell my clients what the service was going to cost per user, but in many cases the clients had little idea of what the user was worth to them. In the past, web projects had tended to be capex rather than opex, so the idea of calculating the actual worth per user had rarely been considered.

If my clients created a marketing plan to grow the system, I could calculate the additional cost due to growth. All my costs were variable and this was light years away from the fixed budget world of large lumped sums and it was this that caused significant management issues.

For example, on one project I helped the client determine the end value (in this case revenue) of the user and showed that this vastly exceeded the cost. For every $100 of calculated sales, I would in essence be charging $10. Whilst the system was growing we were all doing rather well. Unfortunately, whilst the growth in users created more value (the $100 bit), they also created more costs (the $10 bit). A problem then occurred when it was realised that the total cost would exceed the original fixed budget constraint.

Now, amazingly, it is not that unusual for a value generating activity to be terminated because it has been too successful and the cost has exceeded the constraint. This usually occurs because no-one has been able to identify the value. However, you can also find yourself sitting there pointing out that every $10 of cost means $90 more gross income and yet still hear those dreaded lines:-

"we only budgeted a $100K for this project, we can't exceed that."

So I agree with Dennis on the shift from capex to opex, but I'd be curious to see what sorts of problems this then causes.

Information overload ...

It may come as a surprise, to a few technology pundits, to discover that a company's web site, email, ERP and other systems don't tend to exist on employee laptops. The majority of such application tend to exist on servers.

This surprise might well turn into shock upon discovering that such a state of affairs exist within many large companies. Many of these services are also ubiquitous in an industry.

However, shock might well become bewilderment upon discovery that these computing silos often have poor utilisation rates and that there exists the opportunity to provide economies of scale. Centralised large computing providers could provide standard services more economically and without impacting the experience to the user.

However, the discovery that the real deal behind cloud computing is the componentisation of commodity like activities (resulting in an acceleration of innovative activity) might well cause a stroke.

Cloud computing is about the shift of common parts of the computing stack (from applications to infrastructure) to a service rather than a product based economy and it is not primarily about whether "users prefer office to be on their laptops".

I would always recommend researching a subject before talking about it and especially before publishing articles in papers and journals.

Tuesday, September 02, 2008

The cloud computing war ...

Back in March I hypothesised that a company, such as Microsoft, could conceivably create a cloud environment that meshes together many ISPs / ISVs and end consumers into a "proprietary" cloud marketplace. Furthermore, by extending the interface of this cloud into office the dominance of the browser as the means of interacting with the web could be diminished.

If you haven't read Mr Edwards piece on this, I'd recommend you do so.

Such a result can even be achieved if any new communication protocols are provided as open standards by using network effects, performance differences & meta data to create lock-in. You need scale to pull this stunt off and before anyone cries - "Monopoly!" - such a marketplace would provide a convenient mechanism to claim fair competition.

So why care? Why does it matter? It's all hypothetical in any case!

Well, the loss of dominance of a neutral interface to the web, such as browsers, will cause all manner of problems. Despite the different vendor versions, browsers all comply in principle to an overall open web standard. Such standards have depended upon open source software, the community and organisations like Apache. It is this which has kept the web open.

Lose this and you lose the free web.

Fortunately many companies, such as Google, depend upon the neutrality of the interface to maintain their advantages through data aggregation. This battle on neutrality, interoperability (and portability) has been going on for a long time, in various quarters. As our industry makes its first moves from a product to a service based world, this battle will intensify.

So how do you strengthen the browser and help ensure neutrality?

One possible way is to try and make the browser irreplaceable. For example you could turn it into an open source operating system for the cloud computing world and encourage everyone to build apps in it.

Into the fray steps Google Chrome. Sandboxed JavaScript virtual machines running separate processes in a multi-threaded browser. I doubt that Google hopes to gain a significant share in the browser market, but rather plans to influence the direction in which browsers should move. In my book it's another shot fired in a slowly escalating cloud war.

Definitions ...

The first problem you encounter with any study on the processes behind innovation is almost always with the definition of innovation itself. This is not a unique problem but general to any emerging topic which is poorly understood.

This problem becomes acute when the subject transitions from being a new field to becoming hot, as many people try to make their mark on the subject. I'm not saying this is wrong, discussion and debate are always necessary but a consequence of tis debate is always a period of temporary confusion and a multitude of definitions. Eventually, agreed definitions will emerge and the topic matter will be well on the way to becoming more humdrum.

An example of this includes the *OA and *aaS debates over what actually constitutes a service and what acronyms should be used.

Unfortunately, whilst entertaining, this maelstrom of noise can sometimes bury simple underlying concepts. For example, the *aaS debates are fundamentally about the shift of the software stack from a product to a service based economy and the *OA debates are about higher orders of componentisation and consequential new architectures (abstract concepts in themselves).

Of course, this is my view and therefore is just as likely to be as wrong as everyone else's.

Whilst I use concepts such as radical, incremental, disruptive and breakthrough to describe various forms of innovation, I do like to start at the beginning when it comes to definitions. Hence over the next few months I'm going to write a number of posts based upon a few simple definitions for invention, ideas and innovation. I'll use these to describe the process of innovation and its connection to commoditisation and open source.

My starting points are :-

Discovery and Invention are processes that result in the generation of new concepts or newly created devices or postulated entities. Both of these processes involve serendipity, questioning and the use of analogy. Invention and discovery are fraught subjects and it is often very difficult to identify the origin of any invention or discovery.

Idea is an image or a concept or abstraction. At any moment in time in our society, there are a large number of new ideas which have no economic value and are external to the market system as they have not yet been put into practice. Ideas are normally derived from discovery or invention, though the process is cyclical and complex.

Innovation is the first attempt to carry out an idea into practice; it is the embodiment, combination, or synthesis of knowledge in original, relevant or new products, processes or services. Innovation is neither an idea, an invention nor a discovery but a consequence of these. Any invention can lead to a number of separate innovations depending upon what ideas are created and subsequently implemented. Innovations can be classified using the concepts of incremental, radical, breakthrough and disruptive however the mechanism of how they spread and whether they are successful does not determine whether something is an innovation or not.

Monday, September 01, 2008

What goes up ....

Back in 1979, house prices were 12% above the long term historical trend. By 1982 they had corrected to 12% below.

In 1988, house prices were around 30% above long term trend. By 1996 they had corrected to 32% below.

In 2007, house prices were once again 30% above the long term historical trend. They currently stand at 20% above and they are correcting. If history is anything to go on then you could reasonably argue for an overall 40% fall in house prices from the peak in 2007.

However, this isn't something to be surprised about. It is not unusual for a complex dynamic system that is deformed out of shape to return to a more stable equilibrium, once those deforming pressures are removed. In our case, the deforming pressures were caused by the current spending spree of future revenues (i.e. debt).

Any correction is almost always imperfect and tends to overshoot (as per the oscillation of a pendulum). The violence of the oscillation depends upon how much dampening is involved in the system and how much the system was distorted by.

I mention this because the current calls for a drop in interest rates and for government intervention in the housing market are all about maintaining a distortion and this brews up even more trouble for the future.

House prices aren't so much falling as returning to historical norms from a position financed by debt. You can only buck the market for so long and unfortunately we have borrowed too much against the future. The state we are in was obvious in 2005/6, unfortunately things were all a bit too gung-ho back then.

It's not going to be pleasant, it's going to be tough and we should bolster the safety mechanisms to protect the poorest in the community. The silver lining is that a fall of 40% should kick-start the market and help first time buyers much more than any interest rate drop would.