The U.S. Deficit and Global Liquidity

I recently wrote a post summarizing tech hedgefund manager Andy Kessler's book Running Money in which he posits a theory in which the U.S. Trade deficit is good because it lowers the cost of capital and drives capital gains. That thesis, he says, flies in the face of good economic theory. John Mauldin's most recent Out of the Box newsletter discusses this phenomenon in more detail and butresses Kessler's argument.

Mauldin manages hundreds of millions of dollars in capital, is a respected thinker, and has published several books. His newsletter has 1.5 million subscribers. The most recent newsletter can be viewed here: deteriorating global liquidity

Indexed By Tags: future, nanotech, nanotechnology, technology, hedge funds, silicon valley, stocks

Portfolio Update

I updated the investment portfolio to reflect results from the last 50 days or so. Most of the increase in value can be attributed to ACCL which recently announced a partnership with Microsoft. The Company's molecular modeling software will become a standard software package on powerful Windows-based research computers. As always, please send any comments/questions/feedback to brown_clayton@gsb.stanford.edu

Product Feature: VivaGel Topical Agent for HIV Prevention

Australia based Starpharma is well positioned to capitalize on the future of drug technology. The Company has a strong patent portfolio in dendrimers and a 33% stake in U.S. based Drendritic Technologies, which has rights to Dow Chemical's entire dendrimer patent portfolio. Dendrimers are branching polymers and can be used to create sophisticated binding mechanisms for biomedical agents.

Starpharma is one of the first companies to attempt to commercialize a dendrimer-based drug through the FDA with its VivaGel product. A recent $20 million grant from the National Health Institute bodes well for VivaGel, which is estimated to reach the market by 2008. VivaGel can be used by women to prevent various STDs, including HIV. Starpharma also believes the technology could be used as a coating on condoms and is discussing the possibility with major condom manufacturers. At $4.00 / share Starpharma is a good value.

Product Description (Source: Company Website):

Starpharma’s microbicide, VivaGel™, is a topical agent that can potentially prevent or reduce
transmission of HIV and other STDs when applied to the vagina or rectum prior to sexual intercourse. Women are more vulnerable to HIV infection than men due to biological, sociological and cultural factors, and a safe and effective microbicide would offer women an alternative to dependence on condoms for STD prevention . The development of microbicides is being backed by a global effort to fight the enormous social impact of HIV, particularly in the developing world. Microbicides are one of the technologies known as “female-controlled protection against sexually transmitted infections”, which have been identified as one of the top ten biotechnologies for improving health in the developing world. Starpharma’s development of VivaGel™ is supported through collaboration with the topical microbicide team within the US National Institutes of Health (NIH).

VivaGel™ is a dendrimer-based nanotechnology in phase II/III of clinical trials and expected to become available in 2007. Dendrimers are synthetic, nanoscale molecules with unique features that make them suitable for the development as pharmaceuticals. For instance, dendrimers can be used as encasings to protect and release an agent only under specific conditions, resulting in more targeted and effective drug delivery.

Indexed By Tags: future, nanotech, nanotechnology, technology, dendrimers, tbiotech, HIV, AIDs, STDs

Running Money: A Hedge Fund Honcho Tells Tech Bubble Tales

Thesis: Successful technology investor Andy Kessler shares some valuable lessons in his most recent book Running Money.

Andy Kessler managed a hedge fund from 1996 to 2001 that ranked among the top ten funds in history over a five-year period, in terms of overall return. His fund averaged a ~50% return per year and grew from about $20mm from launch to over $1billion upon closing (which includes additional invested capital). At one point, he turned down $1billion in Saudi Oil money because he wanted to remain faithful to his strategy and not become over extended. Just what was that strategy? Read on...

Before opening a fund, Kessler spent most of his career as a research analyst in the technology sector for Morgan Stanley. That means he made lots of contacts, asked lots of questions, and wrote lots of reports containing investment recommendations. But he found it quite difficult to raise money when he started his fund. In a somewhat self-effacing tone, he remarks that he told prospective funders that his investment thesis was "finding companies with great long-term prospects." Don't we all--seems obvious. But Kessler demonstrates a particularly deep commitment to his philosophy and an incisive intuition when in search of growth.

Dot-Com Craziness and the Need for an "Edge"

Kessler begins by using the story of his fund as a vehicle for relating the fun (and insanity) of the tech boom in Silicon Valley and introducing us to some of its most memorable characters. Kessler provides an account of a host of investment strategies he encountered, ranging from Clark and Doerr's grand slam with Netscape, to the currency arbitrages of the Tiger and Soros funds, to the bond trades of Long Term Capital Management, to the more loony schemes of some of his peers. One investor, for example, claimed to have found a pattern in tech conferences. He went to these conferences, noted the companies presenting to investors, observed their stocks tick up the next 1 - 2 days, then watched them correct back to their previous level the next day. He would long and short the stocks based on this pattern. Similarly, Kessler watched as investment managers interacted with company management at these conferences, gleaned extremely ambiguous insights, then placed a phone calls that resulted in notable changes in the stock price. His point--it's all about an edge. Call it information. And the average Joe and Mary on ETrade don't have a tee-ball kid's chance in hell of hitting one out of Fenway, unless they're lucky. You've got to be plugged in; you've got to know something. So what did Kessler know?

Kessler's Philosophy: Steamships and Microprocessors

Kessler tells the story (and the background leading up to the boom) in parallel with the story of the industrial revolution. He compares steam power technology and its dramatic effect on power availability to the rapid development in computer technology and its effect on knowledge. For instance, he notes how exponential growth in power resources reduced the cost of most labor intensive processes and enabled a host of other key industrial technologies, while noting how the processor has doubled in speed about every 18 months (Moore's law), thus resulting in, for example, the cost of emails declining from a few dollars per email (Carter's presidential campaign), to a few cents per million emails today. Kessler refers to this concept as "scale," and provides several other more nuanced historical comparisons to understand this concept.

Putting It Into Practice: MP3s and the "CFO Closed Door Indicator"

Kessler attempted to find companies that would experience a massive increase in demand as a result of some rapidly scaling phenomenon. For example, you might remember that Napster served as the catalyst for a gluttonous world exchange of mp3s in the late nineties. Investors, of course, wondered how they might monetize this deluge of downloads. Most of them avoided Napster for legal concerns, but eventually other more legitimate services went public, like MP3.com, and investors got on board. Rather than investing in these ludicrously overpriced companies, Kessler put his money in a little-known company, with no competition, producing the $2 laser diodes in CD R/W drives. As the world began burning its MP3s in order to play them on other mediums, Kessler's investment skyrocketed somewhere between 50 and 100x.

To find these companies, Kessler put in some serious work. He conducted interviews tirelessly. He referred to his car as his office as he turned over "every rock in the valley." He typically scheduled interviews with 3 to 5 companies per day. He described various subtle behaviors he became attuned to in his interviews. For example, the "CFO closed door indicator" was one favorite. If a CFO closed the door to his office or conference room, something could be inferred about the state or dynamic of the company. Maybe the CFO didn’t want fellow employees to hear the truth about their company's financial situation, or maybe they knew the truth, and he didn't want them to hear him lying to a prospective investor. Despite interviewing hundreds of companies, Kessler invested in only a few he believed would be winners, or as he called them, 5 or 10-baggers (that is, 5x or 10x expected growth).

Debunking Econ 1: Intellectual Property and the U.S. Trade Deficit

Kessler concludes his book by merging the stories of the industrial revolution and the dot-com era in an economic analysis of the U.S. trade deficit and increasing reliance on intellectual property for growth. He asserts, in a position inconsistent with traditionally accepted economic theory, that the growing U.S. trade deficit is not necessarily detrimental to the U.S. economy. He states that U.S. companies focus on IP, ideas, and innovation and thus achieve superior margins and high growth compared to the rest of the world. The outflow of capital from the trade deficit eventually returns to the United States, he says, because of the attractiveness of U.S. companies with superior returns. This money flows into our stockmarket without the "bean-counting" economists taking note. The result?--a lower cost of capital for U.S. based companies, which means more growth, which means more wealth created for Americans as capital gains.

Even if his analysis is correct, the two flaws I note are 1) foreigners own an increasingly larger stake in U.S. exchange traded securities and 2) the very notion of scale he discusses means that these countries (like China) will eventually match or overtake the United States in IP generation, achieve similar margins, and the U.S. will have neither a competitive advantage in the industrial nor the knowledge based economy. In other words, we can swim upstream for now (i.e. outsource the mundane to the rest of the world), but eventually the other fish, namely asia, will catch up. Just like we did to the European economy a century ago.

What's Next?--You Guessed It

Kessler's book, though it conveys the obvious in some ways, does so in an entertaining and insightful manner. He peels away the ambiguity that often clouds investor judgment and demonstrates how to focus on the essential--growth and scale. In the final pages of his book, Kessler says that he's closed his fund believing that the information cycle has past, but that he'll be back. What's the next big hit? He named a few possibilities, one of them--nanotechnology.

Indexed By Tags: future, nanotech, nanotechnology, technology, hedge funds, silicon valley, stocks

Will Nanotech Ever Achieve .Com Bubblemania?

Thesis: Nanotech fever won't result in the investor hysteria we experienced in the late 1990's because nanotechnology is a general process for discovery and product fabrication, rather than a whole new "thing in our lives."

Evidence of a coming nanotech bubble?

Most everybody would be interested to know if a bubble reminiscent of the .com heyday is upon us. And indeed, the market has seen some early indicators that a bubble may be in the works. For example, companies are already playing the name game. The Forbes/Wolfe Nanotech Report ran a story that compared ".com" name changes to recent "nano" name changes. During the .com boom, the number of companies changing their names to something containing ".com" increased dramatically, and this relabling paid off big-time in stock appreciation; similarly, the number of companies changing their names to something containing "nano" has increased greatly in the past few years, and in most cases, they have experienced a notable boost in market value. Investors are putting a premium on all things "nano."

A new way of doing things, not an industry

So, is the name-game evidence of a coming nanobubble? I asked a senior banker leading the nanotech effort at Lehman Brothers this very question, and she did not anticipate a bubble in our future. Nanotech, she said, is essentially a new way of doing old things, unlike the .com boom which suddenly resulted in an entirely new "thing in our lives." Bundled within this theme are a number of reasons why we will not see a .com-like bubble, namely: definability of market size, barriers to scale, access to the end market, and the lack of a novel centering force like the internet.

Definability of Market Size

When the internet first came into being, nobody knew quite what to make of it. I remember when our family first subscribed to AOL and Prodigy. These two application-driven, online communities were the only "internet" we knew. When AOL unveiled the ability to connect to the "world wide web," I remember being unimpressed. I couldn't get anywhere or do anything useful, but within a few years, that all changed.

In it's nascency, the internet had indefinable market potential. Some thought it would revolutionize civilization almost immediately, with Amazon soon to outrun Walmart. Others didn't see the big deal. With indiscernible market limits, the investing frenzy raged out of control, and the founders of widget.com made out brilliantly before the lay investor suffered in the downturn.

In nanotech, there is more visibility, at least within a typical investment horizon. For instance, solar power will increase significantly, but we understand the power market and its limits. Similarly, for nano-enabled clothing, we know the size of the apparel market, for quantum-based computing, we know the size of the computer market, for nano-enabled drug delivery, we know the size of the drug market, and so forth... Nanotechnological innovations will disrupt many existing markets over time, rather than aggregating in a new and unfathomable market, at least in the foreseeable future.

Barriers of Scale, Industry and Access to the End Market

Differences in business model make unbridled investment in nanotech unlikely. Nanotechnology relates chiefly to the production of physical goods, whereas the internet relates to the production and distribution of information. In a software or .com company, a product can easily be copied or shared widely once a master is produced. A nanotechnology company must develop a master design as well as effectively scale production of the physical good in a cost effective manner.

The issue of scale results in a key hurdle--that of industry. Most nanotech companies will have a life-or-death dependence on industry partnerships (since the market they are targeting already exists) to scale their product and access existing sales channels. During the .com era, products could be built and scaled quickly, and distributed widely on internet almost immediately. In a matter of weeks or months, a team of dedicated programmers could produce a gang-buster product and watch it skyrocket to internet stardom in a blizzard of "check this out" emails. Nanotech companies do not have this convenience and will face additional challenges including: production capacity, ability to overcome or befriend incumbency, and slower time to market, all of which make for a more difficult equity story.

Lack of a Centering Product

The one truly unique feature of the .com boom was the novelty of the internet itself. The .com bubble was the peak investment moment during the information revolution. Improvements in information and communication access resulted in significant network effects. During the booms of the past, Wall Street and extremely wealthy individuals around the world were a buzz, but to the everyday Joe, there was only a vague notion of the hype and a limited ability to join the greedy money. Whereas, during the internet boom, anybody with money to invest had access to the very product in which everybody was investing, and it seemed to grow, improve, and generate new excitement daily. Also, the advent of online trading resulted in diffuse market access and the hype grew as network effects took hold. In effect, investors were drinking their own koolaid. The result was a bubble-bust outcome that left the smart money laughing and the greedy money high-and-dry in valueless stocks.

Although nanotech hype has begun to propagate through the internet, don't expect the same reaction. Nanotech companies are slower to market, difficult to understand, and more deliberate in their business plans. The novelty of the internet has come and gone, and nanotech, like other revolutions, will likely be played out in a more reserved, prolonged fashion than the .com boom.

Indexed By Tags: future, nanotech, nanotechnology, technology, silicon valley, stocks

Christine Peterson Talks Nanotech

Thesis: Christine Peterson, founder of the Foresight Institute, spoke to the Stanford Business School futurist club, delivering an optimistic vision of what might be possible with nanotech as we move into the next half-century.

Christine Peterson, founder of the Foresight Institute, is well known in the nanotechnology community and an authoritative voice on the future and responsible use of nanotechnology. Peterson's talk this Monday was mostly introductory for the purpose of educating students who wanted to understand nanotechnology and its implications for the economy. She began by providing some statistics related to the rapid increase in nanotech funding in the public and private domains and a comparison of the relative commitment to nanotech in different countries. Interestingly, she noted that China can conduct nanotech research at 1/6 the cost of the United States because of cheaper labor, and that complicated export controls have caused some entrepreneurs and academics to move their projects to China.

Peterson's discussion of nanotechnology was presented in a time-horizon framework. In the near-term (3 to 5 years) Peterson asserted that materials science will be the most affected by nanotechnology, with applications in medicine, sensors, solar power, batteries, coatings, insulation, filters, lubricants, fuels, and other areas. She remarked that one of the most important issues to be resolved in the near-term is nano toxicity. Some consumer advocacy groups have become nervous or anti-nano based on a mixed bag of studies that indicate that some basic nanomaterials could be toxic to humans.

In the mid-term, Peterson stated that we will begin to see more advanced applications of nanotech in sensors, actuators, active materials, electronics, and targeted drug delivery. She did not provide exact timing for this "mid-term timeframe" and said that it is difficult to predict. She cited the Institute of Soldier Nanotechnologies at MIT as a research group investing in these type of technologies. I was somewhat surprised to see "targeted drug delivery" on this list as opposed to the short-term time frame and would be curious to know when she thinks we will begin to see these applications.

In the long-term, Peterson was somewhat coy in her assessment. She hinted at a "next industrial revolution" and deep structural changes to civilization without providing specific examples. I think she avoided getting into the specifics because a) they're very difficult to predict and b) a crowd of nanotech neophytes would probably react skeptically to radical futurist visions involving nanobots, gray-goo, the singularity, spiritual machines, etc... She did, however, describe molecular manufacturing and show some schematics, suggesting that molecular medical repairs, environmental clean up, and more effective space travel will made possible by this manufacturing technology.

Finally, during the question and answer session I asked Mrs. Peterson about the status of the ongoing debate related to the molecular manufacturing vision of nanotech. Experts have debated the physical feasibility of molecular manufacturing for years. In the past, the debate has symbolically been between Eric Drexler (author of "Engines of Creation," the seminal book on nanotechnology) and the recently deceased Dr. Richard Smalley (Nobel Prize winner for the discovery of buckey balls, a C60 carbon structure integral to nanotechnology). She responded by saying that the debate is indeed divisive, that surveys indicate about 50% of experts agree that molecular manufacturing is possible and 50% believe it is impossible. She argued that once additional developments occur more people will come to the side of possibility. She also noted that the Foresight Institute presaged the use of HTML and the internet when nobody believed it would become ubiquitous; within a few years of their prediction, the world wide web had become a reality.

Indexed By Tags: future, nanotech, nanotechnology, technology

The Business of Business is People

Thesis: A talk given by Ian Davis, the global head of McKinsey & Company, suggests that understanding people is increasingly a critical facet of business success, giving psychology and cognitive science a more prominent role in global organizations.

This past Wednesday, Ian Davis, the head of McKinsey & Company (one of the most distinguished global consultancies, with 84 offices in 45 countries), spoke to students at the Stanford Business School. Mr. Davis was an impressive speaker. From a family of five generations at Oxford, he graduated with degrees in Economics, Political Science, and Philosophy. In his talk he demonstrated knowledge and understanding of everything ranging from history to economy to technology and how they define the concerns of the modern day corporation. Mr. Davis's aim was to communicate what he viewed as the most important issues facing businesses today as distilled from his conversations with CEOs of major corporations around the globe. Included among these themes were information technology, Asia, strategy, and understanding the relationship between growth and risk. However, the theme he stressed most was the importance of people: "If the 1980's were about strategy, and the 1990's were about information technology, then the next decade will be about people." The question is, what exactly did Mr. Davis mean by "people?"

After my brief stint in the working world, I've often told people that the key lesson of my experience was that business is people. It's not bricks and mortar, trucks, computers, money, or any of the things that immediately come to mind. All of these things are ultimately the tools of the people, and the most important factor in the overall productivity of an enterprise is the people and how they work together. How do you organize people? How do you motivate them? How do people think and work? When are they irrational versus rational? What makes them tick?

When explaining what he meant, Mr. Davis talked about how the usual suspects of a business plan can just no longer cut it. Product offering, customer base, market, implementation, supply chain, etc... Twenty years ago these would have been enough, but now, we're too good at what we do. An edge is needed. And Mr. Davis believes that edge is understanding people to maximize their productivity. He's so confident this belief that he's launching an initiative at McKinsey, one of the most diverse companies on Earth, to make his employees even more diverse. But he didn't mean "diverse" in the traditional sense (ethnicity, nationality, etc...). He wants to diversify away from the usual smart, privileged business type and to attract people with a range of personalities from different social clusters. One of the examples he gave was their recent hire of a priest. He wants more liberal arts majors and people generally from all walks of life, believing that this more diverse personality base will enable McKinsey to focus less on process solutions and more on solutions to the nebulous puzzle of organization behavior.

The way people are organized can make all the difference in an organization. For example, studies of Enron have posited that the extraordinarily competitive atmosphere, driven by a "rank-and-yank" system that engendered fear in employees, created a situation in which loyalty was favored over dissent. The result was an irrational escalation of commitment to ludicrous accounting schemes that eventually destroyed the wealth of millions of people. In a less hierarchical organization where dissent was encouraged, the Enron catastrophe might have been avoided. Studies also show that organizations that have more "cross-border" interaction tend to be more successful because of superior idea generation and innovation. By "cross-border" I mean the people in marketing talk to the people in engineering, and the people in management talk to the folks in the call center, rather than clinging to their group or division. In other words, we're more effective if constantly learning from each other; this is why top universities aim to have as diverse an intellectual population as possible. Achieving this structure in businesses is so valuable that certain companies use software to analyze people's email programs to understand the inter-company network (who works with who and who's friends with who), to continually re-seat and reorganize their employees in an increasingly optimal manner.

Similarly, teams are productive in different ways depending on how they're organized. Diverse teams of peers are better for planning, and hierarchical teams are better for execution. Additionally, to understand consumer activity and improve marketing, cognitive science and brain scan technology is being used to study consumer "response" to different brands or marketing tactics. Why go with the marketing firms personal favorite of ten logos when you can do brain surveys to choose the one that produces the scientifically most "pleasing" result to consumers? Studies have been done on just about every aspect of psychology and organizational behavior you could imagine, and bringing these lessons to the modern-day corporation to achieve better results through motivating employees and optimizing their interactions is quickly becoming a priority among businesses.

So, how the heck am I going to tie this back to nanotechnology? First, this theme harkens back to some of the posts on my blog about decentralized artificial intelligence and phenomenon of sync. Organization is everything when trying to induce a result from a set of discreet elements working in concert. It's capitalism versus centrally planned economies, assembly lines versus artisans, democracy versus dictatorship, military hierarchy versus partnership, the concert of bees and ants versus singular dominance in wolf packs, the architecture of the modern-day PC versus the brain. The theme of organization is everything because its the difference between chaos, mediocrity, and excellence in building something greater than the sum of parts. Just check the back of any quarter to see this theme poignantly articulated as it applies to government: " E Pluribus Unam;" From Many, One.

But the most important thing I'm stressing is the importance of factors other than a company's portfolio technology in determining its ultimate success. When choosing among prospective investments, it's important to mindful of how well management understands their employees and consumers. How much business experience does the CEO have? Will the management team work well together? Are they motivated and capable of motivating their employees? These are tough questions. Answering them requires some digging, but they're essential questions nonetheless. Over thirty years ago, Milton Friedman once commented that "the business of business is business." These days, and in the spirit of Mr. Davis's talk, this adage might be more aptly phrased, "The business of business is people."

Indexed By Tags: future, nanotech, nanotechnology, technology, cognitive science, complexity theory, emergent intelligence, McKinsey, consulting, psychology, organizational behavior, business school

Memory-Based Architectures for AI

Thesis: Advanced intelligences harnessing pattern recognition will be memory-based technologies.

An post on the J Curve (Venture Capital dynamo Steve Jurvetson's blog) makes an interesting poitn with regard to artificial intelligence. Steve talks about a book he read that argues that artificial intelligence systems, like the brain, are memory based rather than processor based. His analysis echoes the theme of pattern recognition discussed in some of my recent posts. A system based on pattern recognition is using data it has collected through experience (or been hardwired with) to recognize objects, events, situations, solutions, etc... through comparison. The brain is essentially a large memory device (with ~8 terabyte capacity according to Jurvetson's post) that relies on data itself to interact globally in a parallel manner in order to produce intelligent behavior. Today's computer systems run a program (which only requires a fraction of the total memory of the machine and exists in RAM) which can only process one instruction in a given instant resulting in an archetectual bottleneck. The brain, on the other hand, has a cache of life experiences organized in an intelligent network, and when brain activity occurs, all of the data communicates and interacts simultaneously,resulting in intelligent behavior. True, non-human AI systems will likely employ a similar memory-based architecture.

Indexed By Tags: future, nanotech, nanotechnology, technology, artificial intelligence, cognitive science