21st Century Economics

The market, of course, is the federal market - all of our federal government including the Department of Defense. This article is not to tell you how to get in on this but to tell you that it exists and that there are some pretty tricky ways to take advantage of it. Let’s reveiw some examples:

Set Asides:

If you are a minority including disabled, veteran, black, Hispanic, woman or any of several other categories of “minority”, you can get preferential treatment when bidding on a government contract. All the federal government agencies are required by law to “set aside” a certain number of contract for these minorities. The part of the Federal Acquisition Regulations that applies to this program is section 8a and so this is often call the “8a program”.

Subcontractors:

Billions of dollars are spent every year on a very short list of “prime” contractors. In fact 20% of all the federal contractors get 80% of the money. Often these “primes” (like Boeing, AT&T, Lockheed-Martin, General Dynamics, etc.) play a political game as well as a bidding war with their competition. One year, Boeing beat out its competition for a $1.6 billion contract by announcing that it will subcontract a portion of the work into every State in the US. Often these subcontracts are worth 100’s of 1000’s of dollars to some small supplier of some minor component or service that is needed by the prime to deliver the service.

You can tap into this market by registering with the “small business liaisons office” of each of the primes. You can get many of the contacts online or from the SBA. You register your SIC codes as well as your size, capabilities and location. It is very possible that you can get a contract simply because of where you are located.

Vendors:

The federal agencies have their own supermarket. They call it the GSA Schedule. It is a list of products and sources that have been approved by the GSA - General Services Administration - that have been approved for sales to the government without additional contracting. For instance, if you sell software and get on the GSA Schedule, then government agencies can buy from you without each one of them having a separate contract with you. Actually, it is the GSA that has the contract with you and they are the ones that actually do the buying but it is the actual buying agency that might contact you for the sale.

You don’t have to just sell things. You can sell services also such as printing, cleaning, designing, programming and other services that are routine or maintenance in nature.

The advantage is that GSA does all your marketing and advertising for you. They publish their catalogs for all the government agencies with prices and on their web site. Its like getting listed in a Sears catalog or an ad in the phone book.

Solutions, Not Products

I believe that customers most often buy or look for solutions to their problems, they do not, in general buy products or services. If you address a “solutions-based” marketing objective, there will be slight differences in your approach to business development and in the preparation and investments required. For example:

1. If you sell solutions, you do not necessarily have to walk into every potential client holding out a specific product or service. Rather you maintain a “toolbox” of a variety of tools to use on whatever is determined to be the client’s problem. Once the problem is analyzed, you apply the “appropriate” tool to fix it. This fix may be a product or a service. It can be consultation on applying a particular methodology or process. The larger your tool box, the more clients you can appeal to. You must create a diagnostic and repair capability, at least this is the image you project to the prospective client. Like any repair shop, you need a number of diagnostic tools to find the real problem and then you need to be able to select from a variety of tools to fix it. This requires the ability to be agile, flexible, adaptable and responsive to the client’s needs and circumstances.

2. Since you cannot fix every problem for everyone, like any repair shop, you must specialize in some area of diagnostic and repair services. You do not want to be too limiting but you also do not want to market in areas in which you are clearly not qualified. “Business Management Consulting” is so large and generic that you should narrow the field to some aspect of this large subject area. Areas that allow us to project an image of expertise while not being too confining include the following:

Risk Reduction
Business Improvement
Decision Support
Organizational Development
Business Process Engineering
Downsizing/Rightsizing
Program/Project Management Optimization
Contract Development

What is remarkable about these marketing areas is that the “toolbox” for every one of them is remarkably similar. Some may require a few extra tools that the others don’t have an obvious need for but the ability to see other problems and offer solutions can be a powerful business development advantage.

3. The “toolbox” concept is useful because it denotes a wide variety of potential solutions. To that end, you must stock the toolbox with tools. Tools in this case are not only software and hardware products but include methodologies, procedures, analytical techniques and management concepts that can be selectively applied. It sounds like a big and difficult toolbox to fill but you already have most of what you need.

You just are not calling them tools or putting them in one box. The attached figure titled, “Management Consulting Services” gives a breakdown into “tools” that are more familiar. The upper diagram breaks down business management consulting into subcategories that would make for good marketing areas. These are broken down further into more familiar “tools”. For example, “CBT” or “Paradigm Change Support” are products being sold to a client AFTER you or they have decided that these products will address their problems.

It should also be noted that the corporate staff can simultaneously be the repair people AND the tools. The skills, experience and knowledge of the people are among the most powerful tools that can be applied to a client’s problems.

4. So how do you fill the tool box? By simply defining what you already know and adding a few new capabilities that will fill in the gaps. For example, a previously developed training product is a product but if you are marketing Strategic Marketing Services, a previously developed training product becomes one of several tools you can draw upon to support your marketing thrust. In fact, the previously developed training product itself, represents this concept. The organization may not actually have a single product called a previously developed training product - it is a combination of methods, techniques and simple software programs that allow survey, analysis, assessment and improvement. Isn’t this just a toolbox concept with a specific focus? The corporate’s training capabilities, as defined in any of a number of prior proposals, can be similarly viewed as a toolbox consisting of a variety of tools (training program design, course development, curriculum design, assessment and evaluation).

It is the collection of these individual tools into a larger toolbox that gives us strength, credibility and competitive advantage. Suppose you group what you already know, add a few new tools to the box. The new tools might be new people or consultants that have skills that can be added to the corporate toolbox to round out a targeted repair/service/marketing capability.

You then label the new toolbox and repair capability with a new title or titles. The new name(s) will be the conceptual marketing direction and allow us to focus on refining a larger and more powerful corporate capability than when you are trying to sell individual tools, one at a time.
I do not know what the new name should be but let’s just use an example to see the synergy:

Suppose you wanted to go after a super hot ticket in government right now called Acquisition Reform - the improvement of the way that both the government and the contractors do business. This involves two very different markets with different goals- the government and the contractors.

On the government side, they need to improve their organizations (training, assessment, team-building, conflict reduction, etc), they must reduce their contracting risks (BPR, TQM, ABC, ACMA, etc.), and there is a very large requirement to improve the project and contract administration (B&P R&D, Contract Administration, automated RFP/SOW).

On the contractor side, they too have to improve their organizations (training, assessment, team-building, conflict reduction, etc), reduce their contracting risks (BPR, TQM, ABC, ACMA, etc.), and improve project and contract administration (B&P R&D, Contract Administration, automated RFP/SOW). In addition, they are concerned with their market image and customers (customer loyalty, Intrepreneural Development, Image improvement), their technical capabilities (software, networks, database design, etc.) And their competition.
Interestingly, these two diverse markets need virtually the same services provided by the same tools and marketed under the same general categories within the market concept of Acquisition Improvement. Corporate’s toolbox would simply have a new sign on its side.

5. You need an identity. This serves several purposes. One of the most important is to build internal teams and cooperation toward some common goals. By defining a collective marketing strategy, and involving a number of different people with different skills under s common vision or marketing strategy, you begin to focus on not only the market but on how you can interact to improve the synergy of your combined talents, skills, knowledge and experience. Such common visions and fully integrated teams can address a huge potential market while gaining a reputation for having the right answer and the best solution to the client’s problems.

Another important purpose of the identity is to set us apart from your competition. If you gain a market identity that denotes credibility, it will improve your ability to get past the first barriers to a contract. This market credibility can be enhanced by simply carefully selecting what you call yourselves and how you present yourselves. I would rather hire a training coordinator than a retired teacher. I would rather have a management consultant than an personnel advisor. An engineer is preferable to a technician. It all is in those first few flashes of recognition and impression.

One other benefit of an identity is the effect on the organization’s people that have to use the title. As with many consulting businesses, the company probably uses very few titles. The stated reason is that it is hard to keep up with the changes and it allows flexibility in dealing with a variety of clients. This fools no one, least of all the customers. A title denotes more than identity, it gives a basis of discussion, a reference for skill levels, an indicator of experience and an indicator of relative position. If it also serves as a source of pride and prestige for the barer, then it improves employee morale. If it supports the marketing theme has some commonality with other corporate staff, it also serves as one more support element in team building. I believe you can achieve all these benefits by the simple act of a carefully selected identity.
Suppose you call your repair people Business Engineers (BE). Just like the hard science engineers, you can have:

BE’s that specialize in technology (software, networks, database design, etc.)
BE in Organizational Risk Reduction (change management, cultural diagnosis, Diversity)
BE in Organizational Improvement (training, assessment, team-building, conflict reduction)
BE in Business Operations Optimization (BPR, TQM, ABC, ACMA, etc.)
BE in Strategic Marketing (customer loyalty, intrepreneur and image development, etc.)
BE in Business Development (B&P R&D, Contract Administration, automated RFP/SOW)

As noted above, this title can denote a certain amount of built-in credibility. It specifically is not a technician. These are not entry-level people. It is not a scientist. These are not esoteric think-tank analysts. It implies a knowledgeable skill in business. These are people that know how to apply business solutions.

6. As you can see, this process does not cost a lot of money. You simple wrap some intelligently selected marketing strategies around a set of carefully chosen themes for collectively selling your services to target markets. You can see from the attached graphics that the roll-up of mundane skills, easy technology and common methods into themes and services is just a matter of perspective.

Principle of Regression to the Mean: A notion worked out by Sir Francis Galton (1822-1911), an English gentleman-scientist that, in any series of random events clustered around an average or a mean, an extraordinary event was most likely to be followed, just by luck of the draw, by a rather more ordinary event. One application is contrarian investing which works simple because regression predicts that the worst stocks get better.

Representativeness is a mental problem-solving method that is a sort of short-cut the mind takes in dealing with real-world problems that are so complicated they would choke a computer. The mind handles these complex problems by assessing the evidence intuitively and compares it to some mental model. If the two match, then the mind concludes that the event is more likely. For instance, to decide if a particular football team will win a game, the mind compares the team to its internal model of what an ideal team is like. If the two models match, then the mind concludes that the team will win. This works well for most of the time but does poorly when the derived conclusion runs counter to the laws of chance and probability.

Availability is a mental short-cut that occurs when people judge the likelihood of something happening by how easily they can call other examples of the same thing to mind. Availability, too, appears to be a wonderful way to tackle complex problems because, in general, commoner events are more easily remembered. However, it does not always work for less well known subjects. For instance - does the letter K appear more often as the first letter in a work or the third letter in a word? Most people judge that K is commoner at the beginning of words because its easy to recall words that begin with K. Actually K appears about twice as often as the third letter in words. People overestimate the probability of large vividly imaginable causes of death and underestimate the likelihood of more common but less dramatic causes of death simple because vivid accidents are easier to picture in the mind.

How do people formulate strategy? They first decide what their opponents are likely to do. Then they decide how they will respond. Then they decide how their opponents will react, and so on. The theory of Representativeness dictates that the more detailed these future scenarios become, the more likely they will seem - since detail makes an account more strongly resemble the real world. But imagine a scenario involving just seven such assumptions, each of which has a 90% chance of being right. Its overall odds would actually be somewhat less than 50-50 (.9x.9x.9x.9x.9x.9x.9=47.8%). Actions that acknowledge a high degree of uncertainty are often very different than actions that don’t.

“It’s frightening to think that you might not know something, but more frightening to think that, by and large, the world is run by people that have faith that they know exactly what’s gong on!”

Ignoring the Base Rate or background data against which the probability of an event is judged is a common error. People will the odds are in their favor - “it won’t happen to me”. Aids, cancer from smoking, losses in the stock market, criminal activity are all examples of this. This leads to a strong overconfidence effect. This is a classic example of how the human mind suppresses uncertainty. We’re not only convinced that we know more than we do but that we what we don’t know must be unimportant.

The notion that people are “risk averse” as decision theorists put it, has endured since the 17th century and has become a part of many economic models. People tend to avoid risks when seeking gains but choose risks to avoid losses. People need a strong inducement to gamble but they will expose themselves to tremendous risks in order to avoid a loss. The effect is particularly pronounced in jobs and careers, second only to life and death situations. People avoid risks when seeking to save lives, but choose risks when seeking to avoid deaths.

Prospect Theory says that there is something about the human mind that so abhors a loss that giving up some quantity of money, commodity or privilege is never fully offset by an equivalent gain. “Losses loom larger than gains”. People avoid fair bets not because they are “risk averse” but because they are “loss averse” - the prospect of the gain isn’t worth the pain of the loss. People find it easier to give up a discount (forgo a gain) than pay a cost (suffer a loss). A loss seems less painful when it is an increment to a larger loss than when it is considered alone.

Framing is the principle that if a problem is framed (presented in a different manner) then the response will be different, even if the problem has not changed. In general, the frame that takes the broader view of a situation is more easily defended.

If you are a consultant or a programmer, becoming a BPR facilitator can be a very lucrative career move right now as there is an increasing demand for people that can support the analysis and process improvement of businesses - collectively known as being a “change agent” for “organizational change management”.

Today’s global economy, enhanced and hastened by rapidly changing technologies of all types, is putting pressure on companies to increase the efficiencies of all their business processes. Likewise, budgetary constraints are putting similar pressures on government administrative processes. Many organizations around the world have turned to business process reengineering (BPR) as a methodology to achieve these efficiencies. A majority of BPR projects really do not do any “engineering” at all. That is, many BPR practitioners are not using proven quantitative analytical techniques to analyze and design business processes. This defeats the entire purpose of BPR and results in few BPR projects that actually implement new process designs based on a consideration of reliable performance metrics or reliable expected differences between competing alternatives. Instead, all too frequently, BPR projects tend to have decisions based on subjective notions of “what should work well.” This is wrong and often does not work. When it doesn’t work, BPR is blamed for the failure. In fact BPR dictates the “proper” method.

Stumbling Between Vision and Implementation

Intuitive notions about what would work well for a business process can provide excellent frameworks for creating the “vision” of the new process. Every BPR project should have a clear vision (see Barrett, “Information Systems Management”, Spring 1994). However, the vision has to be implemented successfully to realize the benefits. This is where many BPR projects stumble badly - not because implementation is so difficult, but because careful analysis of exactly what to implement has not been done. There are an infinite number of ways to “achieve the vision.” The problem is in selecting the “right design for the new process that, once implemented, can be expected to achieve the desired results with a high degree of confidence.

Unfortunately, most BPR analysts select a design based primarily on intuition or “best practices correlation” (e.g., ABC company implemented a similar process and they are a market leader) without thinking through, and certainly without carefully analyzing, the dozens of details and alternatives associated with implementation inside the subject organization. Some would argue that considering a number of alternatives and/or significant details takes too long and costs too much compared to the benefits received. On the contrary, we argue that considering such alternatives and details is not costly and does not take a long time. In addition, the benefits are enormous - especially when compared to the often hidden cost and risk of project failure.

Lack of Analysis Contributes to Lack of Executive Commitment

End-to end business processes (e.g., customer order fulfillment) are comprised of many (maybe dozens) activities and tasks, utilize a myriad of the organization’s scarce and costly resources, are managed (and non-managed) by a host of written (and unwritten) policies and form the basis for most corporate culture existing in the organization.

Aeronautical engineers prototype their airplanes. Why shouldn’t you prototype your business process planes?

When an aeronautical engineer prototypes an airplane, she must use calculus. She can take pictures of other airplanes and make drawings of her new airplane. She might even use algebra for answers to her design questions. Eventually she must prove to herself her design will produce an airplane that will actually fly. Why? Because top management will want to have a high degree of confidence her airplane will fly before committing time and money to go ahead with the project. Any aeronautical engineer will tell you she must use calculus to help her prove her airplane will actually fly. This is because calculus is the only proven tool telling her how all aspects of her airplane design will interact during simulated flying time. She has no choice if she wants detailed answers with a high degree of statistical confidence.

Exactly the same reasoning applies to a business engineer who wants a reliable business process plan. She must use simulation (actually, real-time discrete-event simulation, as we explain later). She can study designs of other business process planes, make static sketches of new ones with drawing or diagraming tools and personally visit similar business process planes of other organizations. She will also use algebra or spreadsheets to try and get answers to her design questions. She too must prove to herself her design will produce a business process plane that will actually fly. Why? Because top management needs to be confident her business process plan will fly before committing the organization’s time and money to build the business process plane and operate it with real customers.

The “U” shaped graph has two peaks at the top of the “U”. The inner one - the one with the high Y or profit values corresponds to businesses that compete by selling an item at good profits. But this end of the curve is also low on the “X” axis values meaning that it has little market share.

This is the “niche” market. To a small but focused market, you can sell a service for a high profit. Let’s look at the drug companies as an example. They make a drug that addresses a disease that only 10,000 people in the whole US have a need for. They ask and get $5.00 per pill. A small market that has a narrow but high demand for a product can command a high price for that product.

The other end of the “U” is also a high profit point but with much improved market share. This is characterized by Japanese autos. The price is not the lowest on the market but they still command a large market share. Why? The answer is that at this end of the graph, businesses “differentiate” themselves in some manner from their competition in order to command a price that is not the lowest. In the case of Japanese cars, the differentiation is “quality”. Buyers will pay more for perceived or real quality because that is important to them. Japanese cars have invested in both the real and perceived sense of quality.

Volvos, on the other hand, differentiate themselves as the “safe” car. Mercedes Benz is the “rich man’s car”. Land Rover is the car of choice for safaris…and so on… All these cars are significantly more expensive than their competition but they still command a large share of the market because they differentiate themselves in the eyes of the buyer.

The bottom of the “U” is characterized by low profits and only a medium market share. A good example of this is McDonald’s hamburgers which are sold at nearly the cost to make them. There is very little profit because they are so cheap. (McDonald’s, as a company, makes their profits off drinks and fries). Their market share is a portion of the fast-food market in that they are appealing to those buyers that want that kind of food, fast and cheap. This means that they are very vulnerable to price fluctuations from their suppliers and from their competition.

Another aspect of the older business model is that any given marketplace can typically support up to three top competitors. Others can and will enter the market but they will play a distant second place to the top three.

Sears-Wards-Pennys…..
Ford-Chevy-Chrysler…..
McDonalds - Burger King - Wendy’s.

If you are a consultant or a programmer, becoming a BPR facilitator can be a very lucrative career move right now as there is an increasing demand for people that can support the analysis and process improvement of businesses - collectively known as being a “change agent” for “organizational change management”.

One of the basic precepts of a properly executed BPR analysis effort is that a graphic representation of the processes, information system or both is created to better visualize the enterprise. This graphic representation, if done properly and with the right software tool, will be an accurate computerized model of the enterprise.

A less common step in many BPR activities is the use of simulation to exercise the model into various “what-if” scenarios. I contend that, not only are these essential elements to every BPR activity, but these are THE CRITICAL ELEMENTS to gain the benefits that BPR promises and has the potential to deliver. The combination of modeling and simulation is what allows BPR to totally eliminate the trial-and-error management methods of the past and allows the decision makers to know that the improvement implementation decision will work the first time and will have a predictable benefit. This article will focus on the generic aspects of what modeling and simulation is and how it is applied.

MODELING

Let’s make sure that we understand that there is no single method, technique, or tool that can always produce the best model, despite the claims of the software makers. There is, however, a set of specific criteria that every model must contain for it to be useful to a proper BPR analysis. These criteria can be modeled by more than one physical or logical model but all models should contain the following:

Processes - This is the activity or work that is performed, usually symbolized by a simple box with a process name on it. A test of a process is that it must cause some change or produce some new product.
Information - Sometimes called “data” or “systems”. This is the entity that is moving from one process to the next. It is what is acted upon, changed or created. It can be in the form of paper, mail, network data or electronic images - the media or content is not important. With the exception of manufacturing, information is usually both the input and the output of most processes.

Cost - The essential aspect here is to quantify the value of the process by some significant and useful measure. Costs do not need to be measured in dollars. Costs can be measured in labor hours or in other comparative measures or benchmarks. For instance, a valid measure might be the number of documents processed per person. It is not uncommon to use a separate cost model and technique. One of the most common in BPR is Activity Based Costing (ABC).

Resources - This is what it takes to accomplish the process in the time and cost specified. Resources are generally “expended”, meaning that they are consumed and not reusable. If electricity, gasoline or some other ingredient is needed to perform the process, it is consumed by the activity of the process. Resources also have the quality of being finite and can become a limiting factor in the process.

Time - As with costs, time is an essential element to quantify but it is not limited to measurement by the clock or calendar. A process can be valued as a comparison to past performance or to an industry standard or benchmark.

Regulation - Sometimes called “controls”. Regulation is generally a limitation on the process, cost, time and/or resources. For instance, no matter what is changed, a certain process must be repeated to completion monthly. Regulations are most often imposed from outside the model and the enterprise and cannot be adjusted.

The modeling tool used must provide a means to interrelate these elements in a meaningful manner. For instance, resources may be expended per unit time as in labor hours or for a given number of process outputs as in the case of fuel for deliveries. Likewise, cost must be tied to consumed resources and information flow must be linked to time.

There are a number of modeling tools and techniques currently available. Each one has good and bad features and models the six essential enterprise elements to a greater or lesser degree, however, this writer is not aware of one that models all six elements and their proper interrelationships. To properly model the entire enterprise and all six essential elements, more than one model is used.

One of the most common modeling techniques in BPR applications is called Integrated Definition or IDEF. IDEF models can emulate either the enterprise processes, referred to as IDEF-0 Models, or it can emulate the data or information systems, referred to as IDEF-1X Models. IDEF has been standardized to such a degree that is has its own federal standard (FIPS 182 for IDEF-0 and FIPS 183 for IDEF-1X). Some IDEF tools allow you to create both the process and the data model as a single integrated model. These are among the most powerful tools available.

Despite being a powerful BPR modeling technique, IDEF still does not include cost or time values. One cost model that has shown a good application to BPR analysis is called Activity Based Costing (ABC). The “activity” in ABC models is the same activity or process being modeled in the IDEF-0 model. This allows for easy cross-relationships to be established. Integrated IDEF process and data models with the ABC cost model and the interrelationships are the most ideal models.

Simulation

If the models have been created in a format and method that accurately simulates the six essential elements of the enterprise and models the interrelationships of those elements, then quantitative changes can be made in one or more of the elements in order to simulate changes to the enterprise. For instance, if resources are reduced, what will be the impact on time, output or. Any one or more elements can be changed to see the effect on the other elements. These are relatively simple mathematical relationships that lend themselves to easy representation in spreadsheet form. In fact, most simulations are based on basic spreadsheet formats and can be done using standard spreadsheet programs such as EXCEL.

A powerful variation of the cause-and-effect simulation is called “goal-seeking”. This is when you establish the element relationships and then specify a change or goal desired in one element and discover the necessary changes required in the other elements to achieve the desired goal.

There is, in fact, a “trial-and-error” aspect to this modeling and simulation analysis. You change the model and see what happens. You are, however, changing a computer representation of the enterprise, not the real thing. In less than and hour, you can cut the budget, change the staff or alter the processes and analyze the effects with no cost or risk to the organization.

Using your own management decision experience, you can assess the benefits of each change until you decide what should be done. Once you have determined the change required, you can run a series of simulations of intermediate levels of change to establish what might be expected in each phase in the way of cost, schedule and performance improvements.

These become benchmarks to measure progress by during the transition.
If a change is made and the computed improvement is not realized, then you can analyze the change to see if it matched the modeled change or is the model flawed in its representation of the enterprise. One or the other is adjusted and the next phase is implemented. As time and experience continue, the model will become a more accurate representation of the enterprise until it is able to emulate every aspect of operation. If it is maintained, it will continue to be the most perfect form of change test bed for enterprise improvements and analysis.

Summary

Modeling and simulation are not just exercises in computer graphics and math. They represent a method to rebuild and manipulate your enterprise in a form that allows you to determine if your decisions for change will work and to what degree.

Many investors today are interested in the high flying, fast growing and most profitable investments possible. An inviolate law of economics is that high profit comes at high risk. So far, no one has been able to break that law, although many have tried or thought they had. In the long run, it has proved to be true in every case.

Unfortunately, the high risk, usually expressed as a high beta value, can be misleading because many people do not understand that in the area of investments, if you lose 10% and gain 10%, you are NOT back where you started. Let’s take an exaggerated case:

Suppose you invest $1000 in a volatile stock. As it is prone to do, it whips up and down and in the first year after you buy it, it suffers a total of a 25% loss. Being high risk, it also can go up so in the second year it ends with a 25% gain. How much money do you have? $1000? NO! You actually have $937.50. It is down more than 6%! Here’s why.

The first year’s loss of 25% of $1000 is $250 so you end the year down by that amount to $750. Now you start the second year with $750 and go up 25% or $187.50 to $937.50.

You would have to have about 34% gain in the second year to just get back to your original investment.

Now let’s take a much more conservative investment with a low beta. In this case you start with your $1,000 in a blue chip or balanced mutual fund that has a 10 year average return of 10%. At the end of the first year, at that rate, you will have $1100 and at the end of the second year you will have $1,210. That is $272.50 higher than the volatile, high risk, high return stock - or 27% better!

Of course, you invest in the high risk stock because it has more positive net returns that used in this example. More likely is fluctuations of up and down 25% but with more ups than downs but even that can be misleading. Here’s why.

Suppose the stock, from July to January, goes down 25% and then back up 45% by June of the following year. If you were to read their ad or see one of those investment magazines, it would show you a “YTD Rtd” (Year To Date Return) of 45% in the first 6 months of the second year. So you put $1,000 into this stock in July. It goes down 25% by December and you end the year with a balance of $750. But you hang in there and watch it rise from January to June by a whopping 45% - wow! Hmmmmm wait a minute - what have you really got now.

$1,000 down 25% to $750 in 6 months and then up 45% for a second 6 months gain of $337.50 to $1,087.50 by July of the second year. You end the 12 months with $12.50 LESS than the buy that invested in the conservative stock at 10% annual return!

You can change the percentage numbers and shorten or lengthen the periods of time but you get the same result. If you have a volatile stock and it incurs a loss early on in your investment, you have to have a very hard working investment to make up for it later. For instance, if you invest in a stock with an expectation of getting 10% per year but in the first year you take a 10% loss, you now need to have an average annual return of 15.7% for the remaining 4 years to get the original expected 10% average return for the 5 year period. Look at the stock ans see if that is reasonable.

It is predicted that in the relatively near future, newspapers will have so much competition with other forms of news delivery that many, if not all, will go out of business. In perhaps 10-20 years, technology will be such that you can pick up a flat panel LCD screen, about the size of a notebook page and weighing about 10 ounces. It will be a wireless computer that has been programmed to receive news that interests you including hourly updates. It will be text, audio or video, whichever you prefer. Such technology exists today but the public is not ready for it yet, but it will be soon.

Visualize Information:

There are several researchers working on new ways to visualize information. The hypertext method of non-linear reading has lots of advantages and will be the basis for future capabilities. You will be able to quickly “bore down” thru a long list of topics to the exact bit of information that you want to see at that moment.

As the Internet’s bandwidth is expanded and the speed of computers - particularly graphics - is improved, the actual mechanism of how you move thru the information will become more and more graphic. Eventually, you will do it with virtual reality. A hood of 3-D viewers will allow you to move in a three dimensional world and “open” virtual files that contain the information you want.

Access

There are devices now that can broadcast selected news stories directly to your computer while you are asleep so that you can read topics that interest you in the morning. This is also happening using wireless technology into laptops and palmtop computers. The cost is high and the available sources of information of this nature is limited now but that is changing. If one of the major news networks like CNN were to offer a service, it would spark a major competitive race that would open a huge market. The end result will be that you will be able to access what you want, when you want it 24 hours a day, no matter where you are.

Social Complications:

Unfortunately, this is not all roses. We are developing into a nation of “haves” and “have nots” but instead of money or power, it is information access that is separating us. There will be a marked difference in the success of people that have access and the equipment to get this information and those that don’t have it. If you have it, you’ll be better informed of everything - including job and investment opportunities, social and economic trends and general information about the world we live in. If you are one that does not have this access, you will miss those job and investment opportunities, not be aware of the politics and societal issues of the day and will generally be less successful in your career and life.

Nearly all of the wars in the past 3,000 years can be traced to having a strong motivating factor of a disparate distribution of wealth within or between countries. When that has not been the direct cause, it has been a major contribution factor.

Now consider this:

The United Nations reported last month that the net worth of the three richest families in the world (the Gates family, the Sultan of Brunei and the Walton family) is greater than the gross domestic product of the 43 poorest nations on Earth — combined.

A recent issue of Nation contained an article noting that pharmaceutical companies spend far, far more money researching lifestyle drugs for the affluent than life-saving drugs for the hundreds of millions of the world’s poor people. Instead of trying to come up with treatments for life-threatening diseases, resources go into treatments for wrinkles, impotence, baldness and obesity.

Recent business surveys indicate that the ratio of the salary and perks of a firm’s CEO to that of the average employee of the firm is at an all-time high. Nowhere in the world is it higher than in the US.

Other studies indicate that although profits are rising, productivity is increasing and the stock market is advancing, employee compensation remains flat.

A professor at New York University estimates that the richest 1 percent of Americans own half of all stocks, bonds and other assets.

These stories and many more like them indicate that there has a been a basic paradigm change in our basic moral sense of fairness and philanthropy. Greed, ego and self-preservation has taken over as the predominant factor in many social and business decisions. Although this is being observed all over the globe, it is by far the most egregious in America.

Other reports in this information service have also told you about the “information haves and have-nots” and the impact of that growing gap.
Combine this with the historical cause of revolutions, wars and social upheavals and you have the formula for some bad, sad times to come.

Of course, the object of this blog is to discuss Profit and that does certainly seem to demand that we limit our rock throwing while standing in our glass house but there are good reasons why we must examine even the worst of our most advantageous behavior.

The simple answer is that there is not a shred of evidence, analytical data or economic, historical or scientific justification to believe that the good times will continue for very much longer. In fact, by historical standards, we are way overdue. By social standards, we are stretching the rubber band of class tensions almost to the breaking point. By economic standards, we have surpassed conditions which have, in the past, precipitated great economic upheavals or social unrest. Standby, it will happen again.

As an investor, you should understand two very important factors that have been absolutely proven to be fact:

Timing Does Not Work - Study after study has shown that, in the long run (actually as short as 3 years)that investment timing does not work as compared to invest and hold strategies.

This does not, of course, apply to investments in known events that have an economic consequence. In fact, that is precisely the premise of 21st Century Economics - that the only way to make a timely investment is to either (1) plan for a long term investment or (2) invest in a known event that has economic consequence. The failure of the timing in the classic sense is that it applies to the chasing of money that is common in day trading and in the rapid and short sighted buy-sell mentality that has always pervaded Wall Street. See a separate report on this subject elsewhere on this service.

Good Times Don’t Last Forever - The extensive reporting contained elsewhere in this service on the concept of Regression to the Mean is not an investment philosophy. It is scientific and mathematic fact. The mean growth rate of the stock market since before 1900 has been under 7% - no matter how you figure it or what adjustments you make. We have had a 3 year growth rate in excess of 25%. It is a FACT and an absolute certainty that 50 years from now, we will again look back at the average growth of the stock market and it will not be appreciably higher than 7%.

Any finite period can show growth or loss depending on the time selected but over long periods of time, a gradual increase in the rate of growth is possible but nothing like 25% - more like 3% in 50 years. If the mean that the average growth of the market returns to is 10% in 50 years - then when do you suppose it will change from 25% growth back to less than 10% so that its mean will be 10% in 50 years?

What all this rambling is about is that the known event that has economic consequence is that our world society is headed for a major adjustment in the social order based on the distribution of wealth, information and influence. That “adjustment” will be of such large economic consequence that those that have money now will need to begin now to prepare for it.

How? Like this:

Diversify your portfolio - The tried and true investment strategy of spreading your money across a range of investments is an old one precisely because it works.

Pay off Debt - We are a debtor nation now, currently spending more than we earn and with a national savings that is negative. When the economic turnaround happens, you don’t want to be in debt for a lot of luxury items that you can’t afford to maintain. If you are wealthy now, use that wealth to pay off your debt. If you are spending beyond your means now, stop and begin to prepare for a time when those that do that will be on the streets, out of work or worse.

Save - I am not going to predict the nature of the economic turnaround that will happen, only to say with confidence that it will happen but there are certainly some powerful pointers that it will not be good.

The retiring baby boomers will cause the real estate collapse of the second decade of the new millennium will the worst in history.

The boomers will also create the worst stock market fall in history - mostly because of how high it has risen above the “norm”.

If we make it to 2010 without a major social upheaval that is economically motivated, then the one that is motivated by the aging world population, demands on the publicly funded infrastructure and the disproportionate power of the older generation will certainly cause problems.

Wealth:
A professor at New York University estimates that the richest 1 percent of Americans own half of all stocks, bonds and other assets.
Power: Largely as a result of the wealth and also due to the usual time in one’s life that you typically gain that wealth, the vast majority of the power in this country is in the hands of the “older” generation - that is, those age 43 to 65. This is the age that most people exercise the most influence on their environment because it is in their interest and ability to do so.

Influence:
A recent study revealed that 80% of the domestic news stories on television network news concern only 4% of people; most of the remaining 20 percent of domestic stories on the evening news cover the other 260 million of us.

Demographics:
The aging population of the US and the rest of the world means that the wealth, power and influence will continue to shift more and more into the hands of an older and older population.

Impact

Politics:
We know that the older generation is largely conservative and mostly Democrats. They favor the continued high levels of spending on the federal level to fund programs that they benefit from such as Social Security, Medicare and tax benefits for the elderly.

This will not only continue but it will rise to levels never seen before - Rise to levels that will make the other age groups and generations into minority citizens with no control over their own lives and futures.

Investments:
For the most part, the finances of the era of retiring boomers will be a shambles.

(1) 71 million baby boomers will be trying to sell their stock portfolios at the same time - dropping the market to its lowest level in 75 years;

(2) 71 million baby boomers will be trying to sell their expensive homes in order to move into more modest sized retirement condos. This will create the greatest drop in real estate prices in history. One bedroom Florida condos will cost $200,000 while the 30 room brick colonial in upstate New York will remain on the market for 3-4 years while the price drops to below its current mortgage balance and sells for under $150,000;

(3) When 71 million baby boomers reach retirement, we will see the effects of three decades of excess at the expense of no savings. Social Security and Medicare will be overwhelmed while millions of boomers that did not save discover they cannot maintain their previous lifestyles on their $900/mo. social security stipend. They will vote, in mass to increase Social Secuity taxes to the loss of millions of younger workers.

Society:
The conservative nature of society will pervade everything. Care designs, books, movies, music, religion and news. The majority of the audience for the mass media will be old people with money. Who do you think they will cater to?

Wealth, Power and Influence is about to undergo a major adjustment in the next two decades, it will change everything - especially investment opportunities - or lack thereof.