Fermenting is not Scary

Lately, I have started fermenting vegetables. The largest reason for this is that it is fun. It is like vegetable gardening, but what you are growing is microbes that preserve, flavor, and possibly nutritionally enhance your food. Rather than wait months for your garden to grow, your ferments will be ready in days or weeks. Rather than go outside and get dirty, you can do all of this inside whenever you feel like it. It doesn’t require watering or anything. It’s like magic.

Even better, fermenting is almost foolproof.
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Experts as Blowhards

Note – this is Part 3 of a series on Tom Nichols’ book The Death of Expertise. You can also go to Part 1 and Part 2.

Continuing on our discussion of Tom Nichols The Death of Expertise I want to talk about a specific story that Tom Nichols thinks shows that experts are giving us important information which we are ignoring, but which really shows that experts are infatuated with their own importance and focus on irrelevant technicalities to boost their own ego.
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The Real Cause of the Death of Expertise

Note – this is Part 1 of a series on Tom Nichols’ book The Death of Expertise. You can also go to Part 2 and Part 3.

I am currently listening to an audiobook titled The Death of Expertise. I have only just started it, so I am curious to see if my position changes over the course of the book. But so far, I think that the author Tom Nichols is dead wrong on the reason why Americans are skeptical of experts.
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Why is Wall Street Always Blamed?

My purpose of this post is not to exonerate Wall Street from its misdeeds, but rather to ask its accusers to be more introspective about their own role in Wall Street greed.

Let’s face it – everybody knows that the people on Wall Street are overpaid for what they do. Our problem with them is not that we begrudge them their money, but that we are envious and want to be able to make that kind of cash ourselves. It isn’t so much that we are mad at them for mis-spending our money, but rather we would like to be able to be overpaid for mismanaging the companies we ourselves work for. The problem is not that they are making the money or putting us into risky positions that they should know better about. The problem is that we are not making the money and when we put our employers in risky positions through our own ineptitude, we don’t get a similar payday on the way down.

The real reason everybody goes to Wall Street is because they are greedy bastards. There is a measure of safety in that realization. If you know that someone is completely amoral and only does things for money, you can be sure that if you pay them enough, their amorality is on your side. Similarly, this also puts somewhat of a cap on their own individual immorality, because, in real life, continual immorality sets a limit to the payday. Markets only function because of the general morality within business. If someone is amoral rather than immoral, they are more likely to behave morally in a generally moral society.

We actually have a sense of safety knowing that our money is tied up with greedy bastards who just want to know the bottom line.

If you actually did have a grudge against Wall Street that was based on true moral indignation and not simple envy at their ability to win bigger than you on every trade, there is a simple thing that you would be able to do to combat this.

Stop giving them money.

Instead, make money by offering loans to your friends and family to start businesses. Invest in local startups – people that you know have the strongest moral fiber. Invest in your local community.

What? That’s not liquid enough? There isn’t a big enough market? There’s too much risk and not enough reward? The people with character don’t make the deals that give the company the most profit? Local people don’t have the winner-take-all attitude needed to go to the top?

Well, then take Wall Street. But don’t act like you didn’t know what you were buying. And don’t act like you weren’t complicit when they do what they always do and leave you holding the bag. You went with them because you wanted to be the one holding the bag, right?

Yellen’s Performance as Fed Chair

Yellen often gets the short end of the stick when it comes to monetary policy. Being that she is the leader, anything that isn’t perfect gets pinned on her. The real perpetrator of Central Banking shenanigans is Ben Bernanke. He has been gone for a while, but Yellen has mostly been trying to fix things that he broke.

All-in-all, I feel for her, and think that, while I would have done things a little differently (I would have been much more hawkish), I think that she represents a real moderating position which balances a number of issues. She is moving towards pulling us out of ZIRP, but very, very slowly. I do, however, appreciate her resolve to keep moving forward, and hope that she really does start to unwind the balance sheet. It will hurt in the short term, but in the long term it will be great for the economy.

Unfortunately, her plan only gets us to a 3% rate. Certainly better than now, but not great. We really need at least 5%. The goal is to have a moderate deflation so that savings has real meaning again. Stashing money in the mattress should at least keep its value, and putting money in a bank should beat all metrics of inflation.

Anyway, Yellen gets criticized a lot, mostly just because she is the fed chair, and that makes her the face of all the bad fed policies. She hasn’t been as hawkish as needed, but she’s in a tough position, because she would probably be lynched if she did the right thing, and the person who replaced her would do the wrong thing. So, because she has stayed the course, my hat is off to her. Yellen, I know many complain, but I appreciate your work!

Choosing a Trade

In his book Basic Economics, Thomas Sowell says that economics is the study of the allocation of scarce resources that have alternative uses.

This is the true of our stock trades. Every stock trade uses money, and that money has alternative uses. You could have spent it on a chest freezer, which would have earned you money every month by allowing you to buy meats in bulk when they are discounted. Which one is more beneficial? We all get $$ in our eyes, and assume that the stock market is preferable. Anyway, that’s the thing to think about.

The reason people make bad decisions with the stock market, is that they think that price is everything. If price is your only concern, you are not an investor. At best, you are a speculator, but probably a bad one. When you choose stocks, you need to image what would happen if the price of a stock went to zero or was de-listed. If so, assuming nothing changed about the company, was it still a good buy? Note I didn’t ask if you could get a better buy – if you only look for the best buy ever you will be disappointed. The question is whether or not it was a good buy. If the answer is “no”, then you shouldn’t buy the stock, period.

Now, a lot of people who only hear about the stock market in the news may wonder how this can be true. Isn’t the whole reason to own stock in order for the price to go up?

No, it isn’t.

The purpose of owning stock is to own shares of a company that produces value to its shareholders over a long period of time. This is true even if the company’s shares are never traded. Imagine that you were the owner of a private company. Ownership still yields value even though there is no price or market for trading your company. Instead, you get benefits through (a) increased value of assets, and (b) dividends/profits. (a) only really matters if the company goes out of business. (b) is really what you are looking at.

If you purchased a stock at $10 and the stock is de-listed (i.e., you can’t trade it – the price is effectively zero) but the company generates $1/year in dividends every year, you would have still made a winning trade. If the company goes out of business, and its assets are liquidated for the price of $20/share, you would have doubled your money.

None of these are typical situations, but the point is that focusing on purchase price alone will get you in trouble.

The way that I trade is that I look for companies where, at the current price, I would rather have the stock than the money. This way, even if the company’s price goes down, it doesn’t bother me, because I would want the stock more than the money even more. If I wouldn’t still like the stock if it were lower-priced, I don’t buy the stock. If the entire stock market is overpriced, this means I don’t join in – which is a PERFECTLY FINE way to be, and don’t let anyone tell you otherwise.

Now, the circumstances of the company can change, or you may not have known something that other people know, or that nobody knows. And this knowledge can change how you feel about the company. That’s okay. That happens. That’s learning, and buying bad stocks because you didn’t know all the things is the price of learning.

Anyway, all of that to introduce my main current trade, Future FinTech Group, currently trading at $2.70. I don’t have the time to tell you everything I like about them, but let me give you a few things:

  • The price-to-book ratio is 0.15. That means that buying a share for $2.70 literally gives me $18.00 in assets. That’s a great price! Now, not every price-to-book ratio is good. Sometimes a company has “assets” that they couldn’t possibly sell, or they are losing money so as to eventually wipe out the book value of their company. But in this case, these seem to be factories and land. So buying $18 worth of factory and land for $2.70 is a great price, if the business is viable.
  • The company has a gross profit. The gross margin is not great, but it is workable – 23%. Kellogs, for instance, has a 43% gross margin. This could definitely improve, but what it means is that the company is stable enough to probably not bleed out its book value.
  • They have an EBITDA profit – they actually pulled in a 10% profit. However, once taxes, depreciation, and amortization are factored in, they were not profitable. They did post a loss, but MOST of that loss is in depreciation and amortization. Apparently, they had a write-down from a previous acquisition. If I understand the numbers correctly, they actually posted a 3% NET PROFIT. That means that the value of the company is going UP

Additionally, it looks like they are expanding markets. The company used to be called SkyPeople Fruit Juice (I actually wish they kept that name – it’s fun!) but renamed themselves to Future FinTech Group to reflect their growing markets. They are getting involved in the commodities markets in china, so wanted to have a more serious sounding name than just the name of their public brand.

So, we have profitable, expanding company, which for $2.70 you get to buy $18.00 worth of assets, plus a share in future profitability. I’m in. Additionally, I heard rumors that this was one of the few chinese firms that didn’t have to restate earnings after being audited by NASDAQ. If true, that also means that they are very reputable.

Because it is a chinese micro-cap stock, the stock itself has been quite erratic. But, even if it goes down to $1 I’m still holding on, because this seems like a great company. I’ll start thinking about selling out at $10, and probably do it at $20-$25. At that point, the value of the money will be near the value of the company itself, and it will be time to look for another bargain. And, if it never goes that high, the value of it seems like it is more valuable than the dollars I can trade for it.

Additional Note

I should note that when you choose the price that you are willing to buy at, you are in a much stronger position. You choose your price. If later it goes on sale for a better price, that doesn’t really impact you if you chose the stock for the intrinsic value. I set the price that I buy and sell at, not the market. If the market doesn’t play along, there is not reason I have to play.

The Biggest Problem with Money Printing…

Most people think that the biggest problem with money printing by the Federal Reserve (either in the form of Quantitative Easing or in Zero-Interest (ZIRP) money-lending) is inflation. Inflation is a problem (if you doubt me, go to the grocery store), but it is not the worst.

The worst problem with money printing is the massive misallocation of resources that it causes. Money is supposed to be a measuring device. Provided I don’t do anything fraudulent, profit is essentially the added utility that a business adds to the economy. More profit = more economic benefit.

However, ZIRP heavily distorts the economic picture. As a case in point, look at Amazon.com. Its stock price is currently at $1,000, which is a P/E of 187. That means that it is essentially giving a return of 0.5%, which is less than treasury bonds at this point. So why all the investment here? There are a few reasons, but the biggest one is that when money is printed, it has to go somewhere. The easiest way to make a winning trade is to stick the printed money in the stock market.

Think of it this way – if I can get money for nothing, I don’t need a large return to be profitable. If I am getting money for 0%, then a 1% return is great – I just need to borrow a lot of it. Things don’t work quite that simply (the Fed rate is not actually zero, only a few people get to borrow at that rate, you don’t have unlimited borrowing, etc.), but the general effect is the same. What works right now is to massively leverage small gains. This generally turns into a pile-on in the stock market, where everybody buys stocks even though they are overvalued, and that in turn drives them still higher.

Now, let’s go back to Amazon. They have a market cap of HALF A TRILLION dollars. Under normal circumstances (i.e., a P/E of 15 instead of 180), Amazon would be worth about 50 billion. That means that almost all of that HALF A TRILLION is misinvested. Let that sink in – there is a half a trillion dollars that are misinvested in a single company! It isn’t quite that bad because not all of that is actual investment (not everyone paid $1,000 per share), but nonetheless, it is pretty bad.

Now, imagine this – let’s say that you couldn’t make money for free. Let’s say that companies actually had to show returns to get investment. What happens then? Well, the biggest returns are not in the stock market. The biggest returns are in building companies from scratch, or taking a small company and building it into a giant. Therefore, if I needed actual returns, I would build a company rather than just invest in an existing one. However, right now we have half a trillion dollars NOT DOING THAT. It is easier to simply leverage and buy rather than actually work for money. If I can just borrow extra and get the same result, that’s what I’ll do.

If you wondered what is sucking America dry, it is ZIRP! There is no reason to invest in building America. We just prop the existing companies in the stock market up and up and up, and America’s actual economy just languishes in the dust. The resources are all committed to the stock market. There’s hardly anything left for anyone else. Real businesses giving real jobs to real people isn’t where the big money is, because we can simply leverage ourselves to a financial benefit without any actual benefit.

Again, I should point out, this half a trillion dollars is the misinvestment in a single company. The focus on the stock market and the ZIRP policy that brings money to it are part of what is keeping main street America from succeeding.

Think of it this way. You are a millionaire. You have $1 million sitting around. What are you going to do with it? The stock bubble is heating up. You can invest it in the stock market, or you can risk it all and go invest in two guys in a garage starting a business. With the stock market, you have people printing money who will buy the stocks that you buy later on. With a business, you have to actually produce something in order to sell it. Which one will you do? And so the bubble grows bigger.

The other side of the coin is that this belief that the stock market can save us has made us all lazy. We want other people to make money for us. We have outsourced even the basics of making a living to other people. I hope we can find a way out of all of this. This is why in Microsecession I suggested we try to get away from the money economy. If we can, then the eventual disaster that is waiting to happen in the money economy will not affect us as strongly.

MicroSecession and Stock Trading

I am planning on starting stock trading, and I decided before I did, I would first layout my philosophical framework for understanding what I am undertaking.  I get the feeling that many people engage in activities that they have not fully understood.  They may get it right by chance, or even by skill, but disaster will also overtake them because they only understood the smaller forces, not the larger scale ones (for more information on this topic, see this post on seeing to infinity).  Understanding something philosophically means that, while you will often get the smaller things wrong, you will usually get the larger ones right.

The stock market and MicroSecession

Now, you may think that stock trading is the opposite of the MicroSecession mindset.  And, to an extent, you would be right.  I am posting this here precisely because I recognize the dissonance in the approaches to the world, and wanted to explore them for myself and for others.  In MicroSecession, we focus on our families and communities, and try to order our lives in such a way as to be able to be impacted much less by macroeconomic and political forces.  It also aims to focus on the real over the artificial – preferring silver to dollars, land and chickens and personal capital to stocks and bonds.

So, before I go into further depth into stock trading and MicroSecession, I want to first review the MicroSecession approach to money and wealth.  A lot of it is actually borrowed from the financial sector, but applied in such a way that any person on earth should be able to take advantage of it.

  1. Stop consuming, start producing – focus on hobbies and activities that are productive, not consumptive.  Don’t watch TV, write a play instead.
  2. Purchase capital assets – a capital asset is one that allows you to be more productive.  Whatever it is that you are doing, look for things that you can purchase to increase your productivity.
  3. Convert extra money into hard assets – if you have extra money, purchase things of real, lasting value.  The simplest version of this is to buy real silver and gold, either as coins or jewelry. 

This is not a get-rich-quick scheme.  It is a way to make a tiny, stabilizing move in our modern society.  Here are a few ways in which we have implemented this.  First, our hobbies currently deal with learning and teaching.  We learn (an activity that improves ourselves), and then teach (an activity which benefits others as well as earns us additional money).  We produce teaching materials that do the same.  We are not great at this yet, especially not great on the selling side, but most importantly, even though we are just eking out money, we are not consuming, but rather producing.  Being above the zero line is the primary goal.  As for capital assets, most of our purchases are for things related to improving our ability to teach and produce teaching products.  Finally, we are indeed converting our extra money into hard assets.  There isn’t a lot of extra money, so there aren’t a lot of hard assets.  But, over the years, we have generated enough to the point that we have a hard asset savings with a modest value.  Not large, not even nest-egg sized, but some.  More than we would if we weren’t converting into hard assets.  We have some silver and gold, we have some long-storage food, we each have a business bank account that is positive.  So, we aren’t in a great place, but we are going forward.

Why Change?

So, if it is working, then why the stock market?

Well, there are a few things that are not working.  Christa and I have been both trying to leverage our day job and our individual part-time jobs into larger growth areas.  However, for my day job, despite the fact that we seem to be perfectly positioned for it, it just has never worked out.  For our evening jobs, we have never had enough capital to really expand the business.  All of our books are print-on-demand because we can’t afford a real print run.  I can’t afford to take time off of work to write or otherwise develop the business.  I can’t afford to hire a marketer to help me make sales.  We need capital, but there is no source for friends-helping-friends investing.  My hope is, if I wind up making it big, that I can help correct that.  I would love to see a local stock exchange where people can easily contribute to the idea and easily take out the profits.  But I’m getting ahead of myself.  There is no such idea, and there isn’t anyone who believes in our ideas enough to help us move on to the next level, and we are unwilling to go into debt. 

Therefore, I decided to take what I did have, and put it at risk in something.  If I can’t get a break in my job, and I can’t get a break in my business, and there is no exchange for putting money into local businesses to help them out, I’ll simply go where there is a system and mechanism for putting money at risk to generate profits – the stock market.

However, before I begin, I need to know for myself what is the philosophy of the stock market.  What is it that at least should be happening?  What is it that people should be gaining?  Where does this intersect and not intersect with reality?

Philosophy of Business and Stocks

So, the basics. 

What is a profit?  A profit, in theory, is the difference between the effort put into the company and the value placed on those efforts by the market.  Hopefully, in order to benefit society, those efforts have a real value for society even above the value placed on it by the market. 

What is a stock?  A stock is a part ownership of a company.

What is the goal of owning a stock?  The goal of owning a stock is to participate in the profits generated by the company.

What is the goal of issuing a stock?  The goal of issuing a stock is to generate capital to enhance the productivity of the company.

What is productivity?  Productivity is the ratio between the effort you put into the company and the total value the market provides.

The goal is that when a company issues a stock offering, it can become more productive, such that each unit of the company brings in even more profit than before.  This way, the company benefits by increasing productivity, and the stock purchasers benefit by seeing a share of the productivity increase.

Note that simple expansion is not enough.  Actual productivity must increase.  If expansion introduces overhead rather than removing it, then the profit will go down, not up.  Note that there are always new individual overhead items when scaling up, and also some implicit costs that were never recognized but always there, but, in the final analysis, the overall overhead should go down for increased productivity, or the unit cost should be sufficiently decreased to allow for the overhead.

I like to analyze things like this by looking at what it looks like on the smallest scales.  Let’s say that Bill is an accountant.  However, he is currently just using paper.  He can’t afford a computer because he doesn’t make enough sales, but he doesn’t make enough sales because he can’t afford a computer.  If Bill offers shares of stock in his company, then people can pool together money to buy Bill a computer in exchange for a piece of his company.  That computer then dramatically increases Bill’s productivity.  The increase in productivity is enough to both increase Bill’s income as well as provide a solid profit for the investors.

So, from this, we can deduce the following:

  • The final expectation of owning a stock should be profits/dividends.
  • The result of investment for the company should be sufficient increase in productivity to benefit both the business and the investors.
  • The result of investment for the investor should be a higher return than the maximum of real inflation (about 6.25%) and the treasury bond rate (2.34%).  Therefore, our return should be significantly greater than 6.25% if we are going to invest.
  • The best way to anticipate future profit is from examining their effectiveness at generating internal productivity.

That last note probably requires some explaining.  If inflation is 6.25%, then we can achieve this by just converting our money into hard assets, and then we have lower risk.  We can also achieve the treasury bond rate by just investing in treasuries!  Therefore, both of these represent a floor (really, a sub-floor – we all want to do much better than this) to what our gains should look like when investing.

Bad Strategies for Investing

Now, there are several strategies for investing that I have heard that I don’t like.  I love value investing (it seems to make the most out of the above description) in principle, but the problem with value investing today is that most of the market is way overvalued.  For instance, amazon.com is a mature company, but it is trading at a P/E ratio of 511.  For a company as mature as Amazon is, this is ridiculous.  If we look to the model described previously, this means that it is acting like a bond earning 0.2% per year. That is ridiculous.  Apple, on the other hand, has a P/E around 16.  That means that it acts like a bond that earns 6.25% per year.  Much better!  But still not where we want a stock to be at.  Here, it is generating a return that is just at the inflation rate, so we might as well be buying hard assets.  Plus, Apple lost its innovative touch a few years before Jobs died, and people are finally starting to notice, which doesn’t bode well for the future.

Anyway, having said this, many value investors will just say, “look for the best value.”  That is ridiculous.  If you are going to be a value investor, you should be looking for actual value.  If the market isn’t giving you value, then you should not be investing in it.

Another common option is technical trading, where you trade based on market signals.  I don’t doubt that someone can build a system that will spot market signals that no one else sees.  However, these systems fall prey to a few systemic effects that few people bother to stop and think about.

The first one is that many systems are simply curve-fitting.  That is, someone generated a system that fits old data really well, but it doesn’t actually capture any market knowledge.  You see, anyone can fit data into a model.  It’s really easy.  However, to make a model that actually shows something real is a different animal.  It’s also really easy to convince yourself that you made a model of something real when what you actually did was curve fit.  I actually have a method to measure this effect, but it is still in development and will have to wait for another day. 

The next two are what I call “recursive effects”.  See this article for an introduction to recursive effects.  The first recursive effect is in that models usually don’t take themselves into account.  That is, models are “outside-looking-in” creatures.  They tell you what is going on in the room.  However, once the model itself is in the room, the room plays differently.  A model that works on the outside looking in will often cease to work once it is on the inside, because the model didn’t account for itself.  This is why models that are effective for individual investors often times lose effectiveness when it gets public.  As long as it was with a single investor, the model itself had little impact on the market as a whole.  Once everyone knows about it, there is now a new market which the model didn’t know about.

The other recursive effect is similar.  Most models don’t take into account the effect of their own trades on the system.  That is, if it looks like IBM is going up, and then I start buying IBM stock like a madman, I am going to trigger other price moves of IBM that might not have happened had I not made the trade.  I might have to buy it at a higher price because I was buying!  I might have to sell at a lower price because I was selling!  Most models don’t take into account these recursive effects.

The final one is what I call “scale effects”.  These are similar to the recursive effects just mentioned.  That is, when you start doing something at scale, there winds up being problems that you didn’t have before.  Perhaps you make a great trade and buy a million shares of stock XYZ at $1 and the price goes to $10.  Did you make $9 million?  Only if you can also sell it.  All of a sudden, having $10 million and having access to $10 million are two different things.  There might be interest rates, taxes, overhead, etc., that all come into account once you are at scale that may overwhelm a previously working system.

My Strategy

So, if not value or technical trading, how should you trade?

Here is what my strategy will be:

  1. Look for places where the market is mis-pricing things.  In the current situation, I would look for places where the price is at least 15% off.
  2. For most plays, buy stocks where I legitimately can see value in holding them.  That is, if the stock price went to zero, would there still be value?  If so, then this is similar to holding other kinds of hard assets – the value is independent of the present price.
  3. Leverage using options, with the understanding that the price could go to zero.  Options are great because they have a fixed downside risk.  It is a way to exercise leverage without having to borrow.  You can also short in this way.

The problem with #1 is that the market can continue to mis-price something for a long time.  So, you have to be comfortable with that.  However, as long as the price discrepancy is significant enough to warrant having your money there, it can work out.

Even shorter, (a) bet against the market, but only where the market is wrong by at least 15%, (b) buy things of underlying value, and (c) use options for leverage and shorting, not borrowing.

Anyway, I would prefer to invest in friends who need capital to enhance their productivity.  I would also like for others to invest in me in a similar manner.  However, there is not currently a means to do so.  Therefore, I will attempt to use the existing mechanisms as best I can using my microsecession understandings to build enough of a base to fund my own way.  Perhaps it will work, and perhaps I will lose it all.  But I don’t want to be like the man who said, “I was afraid and went out and hid your gold in the ground. See, here is what belongs to you.” (Matthew 25:25).