Archive for the ‘finance’ Category

Duncan Watts: “If it’s too big to fail, it’s too big”

Wednesday, May 20th, 2009

(Funny, my wife made this point months ago.)

Duncan Watts, principal research scientist at Yahoo Research and expert on human networks and complexity, makes this point in the June Harvard Business Review (”Too Big To Fail? How About Too Big To Exist?“).

Watts looks at the financial market as a complex system and compares it to another complex system: the power grid. As an outage in one power plant can cascade and cause outages regionally, so the financial system failures (such as the collapse of Lehman Brothers) cascaded to a general meltdown in credit and prompted unprecedented governmental intervention.

He points out that in a complex system, the actors (financial firms, power system components) affect each other to the point that one’s own risk profile can change dramatically depending on what happens to others. Meaning, your risk department’s calculations are dependent on assuming the other guy is stable and rational (risky assumptions those are).

Government coming in after a disaster and resuscitating the surviving firms is one approach. A better approach, according to Watts, is to make certain that each actor is small enough that its failure has a limited effect on the other actors.

This discussion reminded me of the evolution of robustness in computer systems in the past thirty years. In the 1980’s, the best way to achieve robustness was to build a huge computer with redundant components and very complex software. Such computers were protected in military-style data centers with concrete walls and fire suppression systems. In case a piece of the computer failed, the software helped the machine use other pieces to continue operating. Tandem (now part of HP) was the market leader here.

Of course, relying on one huge computer (too big to fail) exposed you to lots of other risks. For example, what if the power went off? What if there was a localized weather disaster? etc. There were limits to the “too big to fail” computer architecture–exposed most notably in the 9/11 disaster, where reliance on Lower Manhattan data centers put the stock markets and other financial markets on hold for days till their data services could be relocated.

Another approach to computer redundancy was created in the internet space, perfected by Google. Rather than having one or two huge servers with complex software managing redundant everything, Google has created a worldwide network of hundreds of thousands of small, pretty dumb servers, and software that allows transactions to be moved across those servers depending on their health. If a Google server goes down, nobody notices because its traffic is quickly spread over the remaining zillion servers that are working.

And that seems like a better model for our financial systems, too. I agree with Watts: too big to fail is too big.

Related post:
On Duncan Watts’ “Big Seed Marketing” idea

Time to “unload the guns” with the finance industry

Tuesday, March 24th, 2009

I took a very good sales training class a number of years ago. The instructor was a French-Canadian guy (let’s call him Jacques) who used lots of interesting expressions, including “platform speaker.” That was his ambition–to some day be a platform speaker (or public speaker), which to this day strikes me as a strange sort of ambition.

Another expression this guy used was “unload the guns.” In sales, after the engagement is over, there are sometimes hurt feelings. Perhaps you went around someone who was blocking your access to a decisionmaker. Perhaps one of the customer representatives supported a competitor of yours. Perhaps you lost the deal. Jacques emphasized that “unloading the guns” was critical at this phase.

By this he meant re-engaging with those people who might have ill feelings or discomfort with you personally (or vice versa), and re-establishing a respectful, working relationship. Unloading the guns is tricky; it means coming to terms with what seems like unfairness, and acknowledging (at least tacitly) that you may have acted in ways that cause the other party to view you similarly. But without this you impede recovery–imperiling the delivery of the deal if you won, or harming your chances to compete for the company’s business another day.

I’ve been thinking about this because of the interesting response this week to the vilification of bankers that we’ve been involved in since the financial crisis began last fall. (I’ve participated in the vilifying.) A headline in today’s WSJ reads, “Obama Dials Down Wall Street Criticism.” And Fred Wilson on the AVC blog posted on the subject yesterday. Wilson reiterates the bad choices made by bankers and financiers that helped lead us here, but also writes:

…there’s plenty of blame to go around; the politicians who created the political environment for the housing bubble, the regulators who didn’t regulate, the borrowers who didn’t think about the ramifications of paying too much and borrowing too much, and I could go on and on.

Not all of us are complicit in the making of this mess but certainly a lot of us are.

And the thing that concerns me is we need our financial system to get us out of this mess.

Wilson is right. Going back to a barter economy is not an option. We need the banking system to support our economy. The government can’t and shouldn’t replace it. And we’ve spent enough time laying blame.

Time to unload the guns.

Sometimes crowds aren’t wise

Saturday, January 17th, 2009

I like Surowiecki’s book, a lot, and I have experienced many instances where the collective judgment of a group was far better than even an informed individual. But the “wisdom of crowds” catchphrase is dangerous–oftentimes crowds are not wise at all.

We are experiencing right now an era in which crowds are really dumb. I’m referring to the financial markets and the related economic recession. The financial markets and news affecting the financial markets have merged into a massive echo chamber, wherein bad news begets pessimism which keeps prices down which begets another cycle of bad news.

We’ve seen this in reverse, of course. Do you remember 1998-1999, during which time everyone was watching CNBC or checking Yahoo Finance all day long, in real time assessing the value of their stock portfolios? Oversubscribed IPOs begat good news, which kept prices high, which begat more buying, etc., until it all came crashing down.

I thought it was clear to everyone that market groupthink, which afflicts us in good times and bad, obscured the true value of securities, and therefore paying close attention to news items in order to make sense of the markets and our economy was, at best, a waste of time.

But no. Felix Salmon, in his Portfolio Market Movers blog, points to a Financial Times article introducing us to a service from Reuters that collects news items and alerts traders when news trends indicate potential market movements.

In other words, lean into the echo chamber, and listen real hard for signals you can use to make decisions. Um, it’s only January, but I will bet there’s not a stupider product idea introduced for the rest of 2009.

"Blocking and tackling"–the mother of all sports metaphors

Monday, October 6th, 2008
From Merriam-Webster’s Collegiate Dictionary:

block verb1e: to interfere usually legitimately with (as an opponent) in various games or sports

tackle verb – 2 a: to seize, take hold of, or grapple with especially with the intention of stopping or subduing b: to seize and throw down or stop (an opposing player with the ball) in football.

Long-time readers of this blog will recognize my affinity with sports analogies and metaphors. So, recently, during the summer lull, I embarked upon a non-scientific study of the frequency of certain sports metaphors in business writing. And one popped up far more often than any other: “blocking and tackling.”

For those unacquainted with American football, blocking and tackling are two of the most basic skills of the game–necessary (but not sufficient) ingredients for winning. Teams that can’t block or tackle are doomed. For executives, blocking and tackling represent work that’s not glamorous but is important.

Here are some examples: Marketbeat What’ll it take to fix Yahoo isn’t a mystery, and isn’t a magic bullet, Henry Blodget writes at Silicon Alley Insider. “It’s just blocking and tackling. And it will take time.”

Innosight blog Burberry has spent more than $100 million to improve its ability to ensure that the right products get to the right stores at the right time. These challenges of course require a fair amount of blocking and tackling, but there’s also ample room for fresh, innovative thinking.

NeuStar Q2 2008 Earnings conference call (COO Lisa Hook speaking): However, I asked to be on this call as a six month check-in, to assure that I am focused on delivering the basic, blocking and tackling necessary to meet our targets for growth and profitability.

This phrase was a recurring theme in executives’ earnings calls (here, here and here, for example). Of course, given the recent news in the financial markets, perhaps there was better blocking and tackling they could have done.

Other metaphors I looked for that were much rarer: “home run,” “unforced error” (which was popular in political writing), “icing the puck,” “letting off the hook.”

Did I miss any? What favorite sports metaphors do you have?

Related post:
Welcome to Sports Analogy week

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Once in a lifetime… more on the financial crisis

Monday, September 29th, 2008

I’d love to write about innovation, growing new markets, etc., but for the moment I’m preoccupied, like many others, with the financial crisis, especially a feeling that I can only express in the words of David Byrne from “Once In A Lifetime”:

How did we get here?

To that end, Harvard University held a panel discussion last week, nicely summarized at the Working Knowledge web site, that helps to illuminate the situation. Lots of wisdom and perspective here, including this sobering (but perhaps welcome) observation, from another summary of the conference by Andrew O’Connell of the HBR Editors’ Blog (the post at Editors’ blog also contains a link to a video of the entire event.):

As management professor Robert Kaplan pointed out early in the discussion, Americans’ ability to tap into their home equity had for years masked a fundamental deterioration in their ability to pay for goods and services with their wages. And as we all can see too clearly now, what’s under that mask isn’t a pretty sight.

I imagine many bankers feel like the besieged, buffeted, sweating, stunned character Byrne plays in the video. Do they say to themselves, “My God, what have I done?”

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A lucid description and debate on the current banking crisis and proposed intervention

Friday, September 26th, 2008

You may be burned out reading about the banking crisis and the prolonged efforts at agreeing on a “rescue” or “bailout” package (depending on your viewpoint). But this post and the comments at A VC blog do a great job of looking at the plan from an investor’s viewpoint.

And that, after all, is what all we taxpayers will be if the package goes through. We will be the proud owners of hundreds of billions of dollars of lousy mortgages. If we pay little enough, it could be a good investment. If we pay too much, it’ll cost us big time.

HBR adds to business failure learning library with "7 Ways to Fail Big"

Thursday, September 4th, 2008

This article in the September 2008 issue of the Harvard Business Review, by Chunka Mui and Paul Carroll, discusses seven corporate worst practices and relates business stories that demonstrate them. The practices are:

1. The Synergy Mirage – companies justify acquisitions by touting synergies that just aren’t there, or aren’t there in enough volume to make the price worthwhile. (Quaker buys Snapple, Unum and Provident merge.)

2. Faulty Financial Engineering – companies borrowing from the future to make today’s revenue look better. Enron, anyone? How about Green Tree Financial?

3. Stubbornly Staying The Course – Kodak, slow to react to digitization of photography, and Pillowtex, which failed to see the trend in outsourcing textile manufacture.

4. Pseudo-Adjacencies – the authors point to Oglebay, a company that thought it could deploy its expertise in shipping limestone to actually quarrying it. Result? Chapter 11.

5. Bets on the Wrong Technology – for example, FedEx ZapMail.

6. Rushing to Consolidate – too often mergers focus on the top-line increases but neglect “increased complexities [that] may lead to diseconomies of scale.”

7. Roll-ups of Almost Any Kind – As with Loewen Group, a funeral-home aggregator, roll-ups can’t withstand downturns and usually provide a short-term revenue bump at the expense of the long term (see #2).

Leaders, you have been warned. Avoid these at all costs!

Related Posts:
NASA learns to avoid its worst practices in safety
Worst practice learning means our favorite business bestsellers are all wrong

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Top 5 Harvard Business Review breakthrough ideas

Tuesday, January 29th, 2008

In which we select the best of the annual Harvard Business Review list of twenty breakthrough ideas (free link) for the benefit of time-constrained executives everywhere. This service is provided at no extra charge.

1. “Here Comes the P2P Economy,” by Stan Stalnaker. Web 2.0 is accelerating a shift to an economy with many, many small sellers.

2. “Task, not time: Profile of a Gen Y Job,” by Tamara Erickson. Young workers are not tied to the clock, or the office. Give them specific tasks and let them do them when, and where, they see fit.

3. “A Doctor’s Rx for CEO Decision Makers,” by Jerome Groopman. A relatively new technique–intensive peer review of failures–allows physicians to detect and understand decision biases that contribute to misdiagnoses. Such a process can help business decisionmakers as well.

4. “The Gamer Disposition,” by John Seely Brown and Douglas Thomas. People adept at multiplayer computer games have qualities (such as desire to improve, appreciation of diversity, and results-orientation) that businesses should be seeking in their employees.

5. “What Good Are Experts?” by Michael Mauboussin. Research and experience with decisionmaking tools such as prediction markets is showing that expertise has a more narrow application than previously thought. Good businesses will assess which tool works better for the problem at hand–prediction markets for probabilistic problems, computers for rules-based problems, and experts for the remainder–and act accordingly.

Bonus “I really didn’t know that” item: “Islamic Finance: the New Global Player,” by Aamir Rehman and Nazim Ali. Despite the seemingly-restrictive rules of Sharia, Muslim law, on investing and charging interest, a vibrant and growing Sharia-compliant financial marketplace has emerged in the Islamic world.

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We may be running out of fossil fuels, but there’s an inexhaustible supply of "strategic secrets" out there

Tuesday, September 11th, 2007

I love the Harvard Business Review. But as the years pass I’ve grown less interested in the articles that offer me a secret sauce to easily grow my business, outwit my competitors or take advantage of new opportunities.

They begin to sound like the infomercial guy back in the 1980’s showing me how to make millions by buying houses with cash advances on credit cards and selling the houses quickly for profit.

My question to him was: if your secret is really that great, why are you wasting time on TV telling me about it?

The latest effort is “The Strategic Secret of Private Equity” in the September HBR (free link). Apparently private equity companies have discovered a better way to run a company–buy it in order to fix it up and sell it. (It sounds suspiciously like the credit-card cash advance guy.)

Are many private equity companies doing well? Yes. Have they exploited inefficiencies in the market? Yes. Will these inefficiencies be around long enough to help anyone who reads “The Strategic Secret of Private Equity”?


Markets are complex/chaotic systems (read this post from Gary Klein’s guest blog on Cognitive Edge for insight on the financial markets as resistant to quantification). Past performance is no indicator of what will happen in the future, especially the near future. Factors that enabled the private equity boom, including initial reactions to Sarbanes-Oxley regulations, cheap and abundant bank financing, and, most recently, the pack mentality at work, will not and cannot persist. Complex systems adapt.

It’s more likely we’ll be reading something like “The Benefits of Lower Leverage” in HBR next year than people still extolling “The Strategic Secret of Private Equity.” And the newer article will have as much long-term value. But that’s the magazine business. There’s always a readership for strategic secrets.

And if you think the supposed long-term advantages of private equity haven’t been explored before, check out “The Eclipse of the Public Corporation” (link – $$) from HBR, published in 1989.

Don’t kick the bucket: it’s got your unused cellphone minutes in it

Wednesday, March 28th, 2007

Finishing today’s roundup with breaking news from the Wall Street Journal (link): the word bucket has become the business world’s favorite metaphor. A delightful front-page article describes how bucket has supplanted other terms like silo (missile connotation = bad) and basket (too feminine) as a way to express organization or sorting of people, financial figures or other miscellany.

(The Journal seemed to run more of this type of story in the past. Am I the only one who thinks its recent makeover reduced its sense of humor as well as the size of the paper?)

One consultant is asked whether European cellphone companies will adopt the term to describe allotments of minutes included in a monthly plan, as American companies already do. “’They will adopt bucket,’ he says. ‘That is my strong feeling.’”

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