Here is an article I wrote in November, 2005.  It discusses a few opportunities that I envision in the future.  I have actually written a lot more on the topic, but I'm holding back from posting it all right now because there are opportunities for distribution through other media channels.

Web 2.0

Since 2003, there has been a quiet revival of internet-based services, commonly referred to as Web 2.0.  The change in the services from the original, Web 1.0, services of the Dot-Com era is a focus on the long-tail economic model, the use of entirely web-based platforms.  There are many advantages to this model because it captures a broad customer base and allows for constant software updates without affecting users.  The focus of these platforms is tailoring the service to the customer – even advertising, such as Google’s AdSense, is customized.

            Web 2.0 is also used to describe the emergence of new social networking websites, such as Friendster.com and Facebook.com, that allow people to maintain profiles with their contact information and establish a link network with their friends and acquaintances who also have profiles on the site.  This model has now been extending to allow users to include pictures and descriptions on their sites.

            This paradigm also encapsulates a newfound trust in the user.  For example, Wikipedia, an online encyclopedia, receives contributions from any user with the expectation that enough users will view each entry that an informed consensus will emerge.  This belief is called the principle of critical mass, which asserts that when a certain, large threshold of users is surpassed that a consensus will emerge on a topic.  However, this principle also assumes that the emergent consensus is accurate.

Web 2.0+

            While Web 2.0 is a marked improvement on the economic models used in Web 1.0, there are still a number of drawbacks to Web 2.0.  There are three immediately visible problems: users are not rewarded for their contribution to knowledge bases, so the most knowledgeable users have no incentive to contribute; there are no checks and balances on emergent consensuses, so a common misconception can spread (the tyranny of the majority) unchecked; data is only skin-deep – there are few data mining techniques employed on the data to improve its usefulness to users.

Long Tail Economic Models

            The Long Tail economic model describes the large number of products that appeal to only a few customers each.  This model proposes that companies can position themselves to take advantage of the economies of scale provided by the internet in order to reduce the cost of carrying products that are bought by only a few customers.  When one integrates across a large number of customers all buying a product that very few people like, it can equal or even exceed the revenues gained from a narrow product line that a lot of people like.

Figure 1: An example graph of the Long Tail model

Venture Capital

On one side of the economic graph is a small base of investors, each with lots of capital to invest; on the other, a large number of users, each with a little capital to invest.  The current regulatory structure and investment marketplace restricts investment in early stage start-up companies to only the small base of accredited investors, those with over five million dollars in net worth or over one million dollars in income for at least the next three years, who are believed to be financially solvent enough to handle the high risk of investing in a start-up company.

However, a few companies are beginning to challenge this paradigm.  Zopa.com is a website that conducts peer-to-peer banking –an online marketplace for issuing and securing microloans that diversify a user’s risk over a number of loan issuings.  This model avoids the securities regulatory structure, which requires many expensive filings with regulatory agencies in order to secure a large number of small investors, because it uses a loan structure that requires the repayment of the microloans rather than exchanging money for equity.

In the future, it is possible that small investors will be able to invest in the start-up market using an online investment marketplace that is the microventurecapital equivalent of Zopa.com.  The risk to the investor can be reduced by only allowing small investments – in the thousands of dollars – in individual start-up companies, forcing the investor to diversify his or her portfolio across a number of start-up companies.

The drawbacks to such an approach are dealing with the strict regulatory environment in the U.S. and other Western securities markets.  An interesting, but high-risk, alternative to entering this model in a Western market would be to take advantage of the under-regulated securities environment in a country such as China or Russia to debut this economic model, which would hopefully force a change in the regulatory structure of Western nations in order to keep pace.

Consulting

Under this model, users contribute to projects in exchange for a flat fee or revenue-sharing.  High-powered, knowledgeable users have an incentive to contribute because they would now have the opportunity to earn compensation for their efforts.  A simple example of an application of this model would be the use of advertising revenue to pay Wikipedia users for their contributions.  Amazon.com could also pay users for writing product reviews.  In such models, there is a concern that users could attempt to abuse the system for their gain.  However, basing their pay off of user ratings, comments, or page visits would limit the abuse of this system.

In addition to broad-based consumer sites such as Wikipedia or Amazon.com, another application of this model is outsourcing development to a large user base.  For example, many software projects are ripe for a distributed development model.  Most software is divided into a large number of small source files, each of which could be written by a different user who is paid individually for their contribution.  Such a system could capitalize on users’ specific skills and significantly reduce the development time for projects by spreading the man-hours across thousands of users.  In such a model, quality control can be achieved through unit tests developed by the staff of the company outsourcing the development.

Collective Design

            Collective Design allows users to post ideas and set them up the same way as in the consulting model.  However, instead of receiving pay for their work, users help one another with implementing their ideas for new technologies.  To combat the issue of intellectual property ownership, users would sign a contract releasing their work to the owner of the idea.  Collective Design depends on the development of an “eBay” style community of users who are interested in contributing to one another’s ideas.

            This model is great for entrepreneurship, as long as the website can develop a sufficient number of users to see enough ideas to completion that users continue to return to the site and the site can maintain a profit. 

Data Mining Services

            Data mining refers to using search algorithms to infer information from a data set or find a certain, hidden piece of data within a large set.  Such algorithms are receiving a lot of attention from groups such as the CIA, Department of Homeland Security, and the Defense Department, as well as large corporations with large data sets stored in knowledge management systems.  However, web vendors have equally large data sets, but do not employ such mining techniques to allow their customers to infer information based on the information already present in the data set.

Unifying Interface

            There is a proliferation of many types of websites, such as social network sites, that in order to keep in touch with everyone, one must become a member of multiple sites.  However, there is little evidence of consolidation in this industry.  A service that is much needed is a single website that permits people to collect their diverse array of websites into a single interface.  This website will access the data from all of the websites the user enters, then present it to the user in a single, simple interface where they can interact with the data without needing to know from which source the data comes.

Other People’s Data

            Current Web 2.0 platforms rely on data ownership as their proprietary edge and barrier to entry in the market.  However, in order to interact with and attract users, these platforms provide multiple interfaces with which to interact with the data they hold.  Most of these sites provide inadequate data mining and search techniques to their users.  The data contained in many of these sites is extremely underutilized.  Using advanced data mining techniques on data contained on other websites, such as social network sites, a company can gain niche markets such as match-making by providing better solutions than any of the competitors.

            This market is a very tenuous hold, but is ripe for leveraged-buyout exit strategies where the companies are merged with the companies on whose data their techniques are used.  However, it is unlikely that the data-owners will implement these techniques without pressure from external competition.

Trust but Verify

            The principle of critical mass is critically flawed.  Since the principle assumes that the emergent consensus is accurate, it is vulnerable to common misconceptions.  Many of these misconceptions can be harmful fads, such as the Atkins Diet.  With the propagation of information globally, misconceptions are more harmful than ever.  Bad data on Wikipedia can affect a multitude of decisions and attitudes.  Running data mining algorithms on knowledge databases will highlight inconsistencies between related pages and data sets, which can then be flagged for resolution by site administrators or super users.  These data miners act, in effect, as checks and balances on these data sets (think republic versus democracy), which will help prevent inaccuracies and misconceptions from propagating in these data sets.

Anderson, Chris.  "The Long Tail".  Wired Magazine. 12/10/04.  http://www.wired.com/wired/archive/12.10/tail.html.  Last visited: 12/18/2005.

O'Reilly, Tim.  "What is Web 2.0: Design Patterns and Business Models for the Next Generation of Software".  09/30/2005.  http://www.oreillynet.com/lpt/a/6228.  Last visited: 12/18/2005.

Wikipedia.  "The Long Tail".  http://en.wikipedia.org/wiki/The_Long_Tail.  Last visited: 1/6/2006.

Wikipedia.  "Web 2.0".  http://en.wikipedia.org/wiki/Web_2.0.  Last visited: 1/6/2006.

Posted by ash.dyer at 03:38 AM | Permalink | Comments (0) | TrackBacks (0)

This article is recorded first-hand from the MIT Enterprise Forum global broadcast, Forecasting Markets: The Capital Update for 2006.  

Moderated by Bob Crowley  

Broadcast can be found at: http://enterpriseforum.mit.edu/network/broadcasts/200601/index.html.

Martin Hansel, CEO of Texterity.

Three types of forecasts: Market Forecasts, Entrepreneurial Forecasts, Investor Forecasts

Market Forecast: Always optimistic - vehicles for consultants to sell their services.

Entrepreneur Forecast: Always optimistic - chomping at the bit, "the time is now".  Usually ahead of the market - markets take longer to develop and mature than the entrepreneurs believe.

Investor Forecast:  Investors don't forecast, they scan.  They're always asking questions and sponging up information.  They're concerned about understanding macro trends in the market.

Startup companies almost never end up serving the market they had planned to serve.  However, 90% of being a small business owner is showing up and absorbing the information and ideas that are out there and along the way, winning small businesses will find a market.

Most investors are long-term and the relationship between entrepreneurs investors is very important.  The best investors make sure to reward the entrepreneurs even if they're not perfect (ie. miss a couple numbers but still build a successful company).

Claire Wadlington, Partner and CFO of FA Technology Ventures

One of the major things VC look at is how entrepreneurs view and present their market.

2005 VC-backed IPOs dipped significantly from 2004, 2005 Merger & Acquisition deals rose from 2004.

$25B in new funds raised in 2005, highest in last 5 years. 

Mezzanine and Revenue-stage funding increased in 2005 - almost a linear trend starting with 2002.

Continuing Trends:

• Open Source
• Web 2.0
• Recurring Revenue Business Models
• Wireless/The Third Screen
• Energy Technology (Again)
• Robots for Unstructured Environments
• Biology/Engineering Co-development (Biotech joined w/ High-tech - not a megatrend)

Advice to Entrepreneurs about Approaching VCs

Really strive to get a good, "warm" referral to the VC.  Also, research the VCs as much as possible and understand their portfolio and how your company fits into it.  Focus on presenting business plan and how the technology can be used to build a business plan.  Credibility is important - VCs invest in the management team.  Show a deep knowledge of your market and your competition.  Finally, find a champion at the firm who will promote you and your company within the firm.

Ned Hazen, Managing Director of Lighthouse Capital Partners

Discussing Venture Lending or Venture Debt market, a little known market for lending capital to VC-backed companies.  Use debt capital to leverage the equity capital raised from VC.

Venture debt lending approaches lending in the same way that VC approach equity funding.  Look into the way that the startup will use the debt to pay for hard assets, as well as a "cash runway".  Gives an entrepreneur extra time to pursue product development.  However, venture debt has an interest rate, and the debt will have to be paid back in the future.

Benefits

Debt is less delutive than VC funding - they do take a small "warrant" or option to participate in the upside potential of the company.  Provides a safety net for meeting valuation milestones in the case of slipping development schedules.

Material Adverse Change

Entrepreneur beware!  Can range from "we're not giving you anymore money" to "give it all back to us, now".  Important to strongly negotiate during contract negotiations, and critical to involve competent, professional counsel in those negotiations.

Also, be concerned about laws concern immediate repossession of funds by creditor if a case is made for the entrepreneur breaching the contract (can happen overnight or over a weekend).

T. L. Stebbins, Head of U.S. Investment for Canaccord/Adams

Canaccord/Adams is a Canadian-based investment for focusing on Small Cap investments.

Market last year was roughly flat and tremendously volatile.  Small Caps led the market last year.  U.S. markets underperformed every other market in the world.  Dollar-adjusted against other markets, graphs indicate an improving strength in the American dollar.

56 venture-backed IPOs, up from 31 in 2003, but still well below the 200+ in 2000.  Average IPO market cap >$200 million.  The market has moved away from Small Cap stocks and focuses on volume.  Sell margins have diminished, reducing the analytic coverage of Small and Micro Cap markets.  NASDAQ is not performing for companies with market cap under $400 million, and has now been superceded for Small Cap stocks by the London Stock Exchange.  Stebbins believes we will see a migration of Small and Micro Cap offerings to overseas markets.  The AiM market is now the place to be for Small and Micro Cap companies.  The average market cap on AiM is $66 million versus an average market cap of over $1 billion on the NASDAQ.  Significantly more equity traded in London than New York.

Domestic recovery will flatten in 2006, the dollar will remain weak, and international markets will remain anti-American.  Interest rates are going to continue to rise, real estate is likely to fall, and China and India will continue to grab more marketshare.  "A year of struggle for US capital markets with great volatility and risk."

Questions from the Audience

T.L. Stebbins: Most people are of the opinion that the real-estate market increases are staying.  However, he sees good potential for

Claire Wadlington:  Early-stage VC valuations are down in 2005 versus 2004.  M&A transactions and later stage valuations are getting pushed higher.  However, early-stage is not responding to the rising later stage valuations. 

Ned Hazen:  Some hedge funds and private equity funds no longer have the market opportunity for which the money was originally raised and part of the money from those funds have found their way into the venture capital industry, mostly in the later stages.

T.L. Stebbins:  America needs to put together a business model to provide services to Small Cap companies.  These issues are partly due to Sarbanes-Oxley and partly due to a lack of "soft-dollar research" being provided to Small and Micro Cap companies.

Have not yet seen the full impact of the strain on natural resources, both the energy sector and other raw materials (copper, silver, zinc, etc.), caused by increasing demand in the Far East.

Claire Wadlington:  Open source companies hard to value - most VCs still don't understand.

Ned Hazen:  Open source companies need to clearly understand their revenue model and distribution method in order to present a compelling investment.

Hole in market for angel-backed companies who want to raise debt in the <$10 million.

Recommended Reading

• Harvard Business School article on predictable crises.
• National Venture Capital Association's statistics for 2005

Notes

The venture industry really speaks about bubbles - they're interested in what's hot now.  That means that there's not much Fog in their strategy.

Posted by ash.dyer at 07:19 PM | Permalink | Comments (0) | TrackBacks (0)

Why do consultants get exorbitant fees for their services?  It seems like all these guys are swarming around in Armani suits and getting paid boatloads for doing almost nothing.  Contractors are the same way, all of these government services people, what's their deal?

Consultants are cheap and cost-effective.

First, let's look at what the difference is between a consultant and a contractor.  My friend, Geoff Day, owner and CEO of The Consulting Exchange, explains that consultants charge $100 an hour or more for their services, while contractors charge under $100 for their services.  Geoff's definition is great pricing advice for anyone looking to be in the contracting or consulting services; however, you won't see the industries dividing themselves by this price point.

In essence consulting services are outsourcers.  They allow management to move business functions off of their employee role so that they can reduce the intangible costs that come with employees (healthcare, pensions, insurance, etc.).  These services are particularly cost-effective for short-term and high-risk projects.  Why you ask?

Consultants can be hired and fired in no time flat.

There's no severance pay, no parachute, no three weeks notice.  It's, "Team, I have bad news.  I just got off the phone with CEO X and we lost the contract.  I may have to let some of you go.".  So all that job security, all that 9-5, high-pay, Armani suit perks, all that higher-paying-job-than-your-friends is out the window in less time than you can say "Screwed".

Now that's the worst-case scenario.  Things are usually a little better, because big consulting companies make contracts with there clients, which prevents the instantaneous "You're out."  However, these companies are still the first to go in a down cycle.

Consultants are knowledge workers.  That means that they trade their knowledge for a premium now and forfeit the potential for future payoffs.

Think about it.  Every person that is engaged in management, professional services, or technology is a knowledge worker.  However, employees still get their names on patents and often times get stock options and other compensation plans.  What do consultants get? Nada.  "Hey thanks, without you we'd never have IPO'd!" and a slap on the back.

Now if you've read this far, and you're a consultant, there's probably steam coming out of your ears... or you're on MonsterTrak looking for a new job.  But I really don't mean to knock consultants.  It's a great way to get an understanding of how businesses work in a short period of time.  In addition, it's a great personality fit for people who think outside the box, but don't want to experience life without a paycheck (trust me, it sucks).  However, it's important consultants understand the downside, particularly in such a hot market for consulting jobs (see my article "Sniffing Out the Wannabes" Jan 25 2006).

Posted by ash.dyer at 05:56 PM | Permalink | Comments (0) | TrackBacks (0)

At the extreme risk of pissing off a lot of people, including some good friends of mine, tonight I'm going to rant on a different topic.  Hopefully, if you follow the words of Mark Stevens, marketing guru, in Your Marketing Sucks, "Smart people can accept criticism, especially if it can help them make more money."  Then maybe you'll take these words to heart and think long and hard about why you want to be an entrepreneur, and particularly why now.

Do you know why people call it a "job market"?  I mean, it's not a place where you shop and it's not a place that securities or commodities are traded, so why call it a market?

It's called a market because there's competition for jobs.  As more or less people enter and exit the workforce, companies outsource jobs overseas or bring them back from abroad, and as more people leave their jobs to go into business for themselves or return from being self-employed to working for a large corporation.  Right now the job market's good and so's the self-employed market.

In fact, the reason each market is good is partly because the other is good.  There's so much demand for skilled employees that companies will hire small firms to help fill in the gaps, and because there's demand for employees is exacerbated by people taking advantage of this propensity to contract small-firms companies have to offer good compensation packages to attract new employees in heightened competition with small firms, as well as, improve the compensation packages of their current employees in order to retain them.

The truth is that this cycle is a natural part of American business and there's nothing new about it.  In fact, many people's businesses will tank in the next few years and they'll go back to working for "The Man", and likely at less than what they were making before they left.  It's only human nature:

People only chase investments that seem secure, so most people enter the market after it is already saturated.

If being an entrepreneur seems like a surefire way to riches, then why hasn't everybody been an entrepreneur from Day One?  Well, that's because it's only right now that entrepreneurship seems like the surefire way to get rich quick.  What's the fastest way to tell an entrepreneur from an employee-cum-wannabe entrepreneur?  Taking one from Robert Kiyosaki's book Before You Quit Your Job, the fastest way to tell if someone truly understands the entrepreneurial spirit is to check how much of a salary they're awarding themselves.

Let's contrast it: this year I will at most give myself $30,000 from my companies.  Every extra cent I will reinvest into their continued growth.  Most people that claim to be entrepreneurs are drawing over $70,000, many over $100,000 in salary.  Quite frankly, that's stupid.  For one, you're exposing yourself to increased taxes, and two you're bleeding your company dry.  When you ask them why they're taking such a high salary, they'll almost always tell you that's what they were making at their job and/or that's just what they need to cover their expenses. 

Damn!  "That's just what I need to cover my expenses."?  Okay, let me run down my expenses for you: Rent - $600/mo.; Food - $400/mo.; Transportation - $300/mo.; Clothing + Miscellaneous - $100.  That means my total expenditures are roughly $1400 or $16,800.  That means that on a $30,000 dollar salary even after Social Security, Medicare, and Federal and State Income Tax, I still have enough money to max out my Roth IRA contribution (currently $4000/yr).

So I do live a pretty austere life, and $600/mo doesn't get you a nice apartment.  However, I still own a car (year 2000) and enjoy my life.  If you really feel you can't live off of $30,000 a year, then at least look at ways to make it tax deductible.  For example, have your company pay your medical insurance, give you a travel allowance, and take advantage of other deductions to reduce your tax burden - your number one cost.

Now then, what's the current abundance of entrepreneurs mean to you?  Well, it means that you're going to get less return for your dollar.  It means that good opportunities are getting harder to find and the market's getting saturated (it also means there's a killing to be made for people willing to take advantage of all of the naive people in the market).  Take the below graph.  It's an important lesson for anyone who wants to understand any sort of market.

Who do you think makes out the best on this graph?  The people who got in when there was hardly anybody there or the people that got in when everybody was already there?  Let's look at a slightly different graph.

 

Looks similar, huh?  Of course!  Market capitalization follows participation.  That means that the guys that get in at the bottom get in for virtually nothing and get huge returns - easily over ten times their initial investment.  Why?  Why do they have all the luck?  Well, because they were the ones who needed to have the luck in the first place.  They went somewhere no one else was willing to go.  They went into the Fog (see my on fear and the Fog - Jan 23rd).

But this market has the Midas Touch.  You just can't go wrong here!

So it seems doesn't it?  Let me ask you this: how long are properties sitting on the market right now?  Is this above or below the average time for properties to stay on the market?  Well... if it's above average, then it's probably not time to start investing.

When I was a teenager, a friend of mine developed a simple, but successful investing strategy: when the price of a stock fell below the 30-day moving average we began to set limit orders a little above the market price (when these hit meant the stock had reached its minimum and was moving back up).  Once the price rose above the moving average we set limit orders a little under the market price (actually, we set limit orders under it all the time to protect us from a downward plunge).  This simple strategy netted us a tidy little profit.  Do you know why? 

We did the opposite of what the market did.  We went where other people weren't.

If you follow that strategy in every type of investment you make (within reason) for the rest of your life, you will come out on top.

Further Reading

Kiyosaki, Robert and Lechter, Sharon.  Before You Quit Your Job. 2005. New York: Warner Business Books.

Stevens, Mark.  Your Marketing Sucks.  2005.  New York: Three Rivers Press.

Posted by ash.dyer at 01:44 AM | Permalink | Comments (0) | TrackBacks (0)

Has anybody else ever noticed how many of our parents met their spouses somehow through friends?  Whether it was a blind date set up by a mutual friend(s) or an introduction at a cocktail party, I think a majority of the successful marriages of our parents' generation were first formed this way.  That begs the question: what's changed?

Here's the interesting part: a whole bunch.  Think about those quintessential neighborhood gatherings of the 50s and 60s.  Then in the 70s it was disco and the 80s was nightclubs.  Doesn't that seem interesting?  I wonder just how many successful marriages got their start in a bar.  My guess is far fewer than you think.

So what's the allure to friends of friends?  Why are these marriages so successful?  And why the hell is Ash writing about it?

So here's the deal, a lot of things are solved by friends matching friends, most important is making personalities fit.  The old adage "birds of a feather flock together".  Mutual friends are likely to have compatible value systems.  The other, more often overlooked, is providing feedback channels - everything from "Ohhh, he likes you." to "Dude, she's miffed.  You need to call her and smooth things over."  Friends help friends stay together.

So what?  That's great, but Ash you're not running a dating site. 

True, I'm not.  However, what's the difference between dating someone and hiring an employee?  Oh My God!  Sacrilege! (sorry about the double entendre)  Well, there's the sex of course, and the dynamics of a boss-employee relationship (I sure hope you don't treat your significant other the way most bosses treat their employees!), but wait a second...  It's all about fielding teammates and working toward common goals!

All of the sudden dating does seem a bit like recruiting.  Did you know that all of Google's recruiting is done in house?  That's right.  They do it through referrals... no career fairs, nadda.  And they interview the hell out of people.  It's almost like a fraternity initiation!  I've heard reports of guys going through eighteen or twenty rounds of interviews!  Well, if it took you 20 interviews to get the job, you'll think twice about leaving when the going gets rough.

Outside of hiring, where else might business benefit from understanding this approach?

The answer is partnerships!  An entrepreneur is a skillful match-maker.  He works with very little capital to throw together a number of deals by using other people's money and resources.  The lesson is that you should look to friends of your friends for developing strategic partnerships.  They're likely to share the same core values as you and your mutual friend will help provide feedback on one another to help keep things running smoothly.

So the lesson here is to 1) improve your dating success by utilizing referrals from your friends (standard sales strategy), and 2) improve your entrepreneurial success by utilizing referrals and introductions from your friends.

Have fun and happy hunting!

Posted by ash.dyer at 05:30 AM | Permalink | Comments (0) | TrackBacks (0)

The general consensus of the U.S. populace, including "experts" at Harvard Business School, CNBC, and of course those that stand to benefit most: REITs is that real-estate is a new asset class, liquid in the same way as stocks and bonds.  What the hell?  Do you mean to tell me that I can trade my home on the NYSE?  Of course not!  While REITs have certainly been securitized, thereby reducing the risk to investors who by shares of the REIT (because many are now traded on stock exchanges), the inherent risk to most investors in real estate is still the same.

Let's look at it.  Real estate is an illiquid investment: you pay a purchase price for it, which sets the value of the property, then every couple of years the property is appraised based on the sale prices of other properties in the area and the size, quality, and amenities of the property.  If you decide you want to get out of the property, you have to put up a "For Sale" sign, call a real estate agent, and wait until you get a few offers.  Then, after you've got some offers, you have to accept one and negotiate the terms of the sale (and there are lots).  This process is pretty different from the sale of a stock or bond!

A wise man once said, "If you see everyone doing something, do the opposite there's money to be made".  Think about it: when people got excited about the Dot.Com bubble, the money had already been made.  As more and more people flocked to Dot.Com stocks, returns diminished.  The same is happening to real estate: people think it's a sure-fire investment because so many people have made money in the past few years.  Oops!  Let's forget market fundamentals, forget that the Federal Reserve is raising interest rates at every meeting, forget that half of all mortgages are Adjustable Rate Mortgages or Interest Only Loans, forget that the national average mortgage rate has risen over 180 basis points in the last year.  What do we have then?  Well, rent right now in most major U.S. cities is 45-60% the cost of an equivalent mortgage, residential properties in great locations are sitting on the market for over 4 months, there's a ton of properties for sale in New England in the middle of January.  That doesn't seem like opportunity to me, it seems like a peak in the market.

The major question is how is the downturn going to come about?  Will it be quick or a gradual process?  And how can you capitalize on this knowledge?

The easiest way to capitalize on this market is simple: stocks and bonds.  During the Dot.Coms bonds were the place to be.  Did you know that the bond market outperforms the stock market virtual every year, even during the Dot.Coms?  With interest rates on the rise, you might want to think of how you can trade bonds to capitalize on this market.  Maybe it's time to take out a long-term loan and start planning on how to use that margin to make money elsewhere.  On the other hand, you can always just negotiate IOUs when the time comes to make a purchase, which is probably safer, although it only works for real estate.

Andrew Kessler says "go into the Fog".  The Fog is that place where no one else is, so it's uncertain - you can't see anything, just shadows and illusions - but if you can make out a distinct object before anyone else does, you're going to make a lot of money.  I like to relate it to my youth sailing in the San Francisco Bay.  We went into the fog all the time.  It's part of racing in the Bay.  The trick was to identify the super-freighters in the fog before it took a radical action to avoid them.  The racing teams that make the course adjustment the earliest usually win because they don't lose time and distance from evasive maneuvers.

Fear

On the other hand, sometimes a ballsy skipper could win by going in close to the freighter.  If the wind was right it could be extremely profitable.  But even still, that skipper knew ahead of time that the freighter was there.  He planned ahead to use his competitors' fear of the freighter against them, either leading the pack towards the freighter until they had to engage evasive maneuvers (a devious technique) or simply going where no one else wanted to go.

This is an important lesson in fear.  Most people are driven by fear, whether they realize it or not.  Why is real estate so hot?  "Oh, duh, it's the lure of get-rich-quick."  Is it?  Look deeper: people are getting rich in stocks and bonds every day, just look at Google.  So is it the hype of easy opportunity, or is it the fear of uncharted territory?  Stocks and bonds make more sense to invest in, but the market's scary to people because the Dot.Com crash still burns bright in their memory. 

All of the sudden, by avoiding the "lure" or the song of the sirens you can conquer your fears and make a ton of cash doing it!  In fact, in conquering your fears you're going to realize that you've found safer territory than everyone else.  Real estate looks safe, but it's not, the fundamentals (I'll go into this in a later article) indicate that it's ready to tank - in the next 3 yrs count on it.  So frankly, the stock market is a better place to be.  All of those companies with strong fundamentals will suddenly look attractive to all of those mainstream people who are about to get burned in the real estate market.  It's called value-investing and it's how Warren Buffet, the greatest living investor, made his money (more on this later too).

So for today I'll leave you with this: go into the fog and approach your fear.

Further Reading:

Rebuilding Commercial Real Estate
http://hbswk.hbs.edu/item.jhtml?id=5156&t=finance&iss=y
The commercial real estate business is awash with money and opportunity. Is this the calm before the bubble pops?

Posted by ash.dyer at 03:49 PM | Permalink | Comments (0) | TrackBacks (0)