Mark Cuban has touched on what is at the center of why financial regulation is so difficult: the roles, values, and differences of the primary and secondary markets.
All of Wall Street exists to do one thing: connect those with capital to those who want it.
The primary market exists to do what Wall Street is meant to do: a company or other entity wants money, an investment bank connects that company with investors, and investors hand over the money. Wall Street acts as a classic broker, executing the function it was meant to perform (match those with capital to those who want capital). For its services, it takes a cut.[1]
This part of Wall Street - the primary market - works reasonably well and there aren't many complaints about it.[2] In fact, people sometimes complain about the IPO market getting too hot, which really just means that more companies in the real economy are getting money. The biggest ongoing complaints about the primary market are that the big banks charge too much for the capital raises and that they hype up the securities. Neither is a particularly cutting complaint though, nor is either issue crippling in any way to the capital markets.[3]
This brings us to the secondary market - the stock market as most people know it. Most people never participate in the primary market (i.e. in the first sale of securities), but rather in the secondary market. Here's the core question: WHY DOES THE SECONDARY MARKET EXIST?
The secondary market serves a support function to the primary markets. It provides "liquidity" to the primary investors - that is, it gives them a reasonably easy and cheap way to offload their shares should they choose to do so. The idea is that if there's a ready secondary market for the shares, primary market investors will be more willing to participate in deals because they know they can get out quickly and cheaply if they want to, and they'll be willing to pay a higher price for the shares for the same reason. In more technical terms, the secondary market serves to increase the flow of capital to companies and lower the cost of capital for companies.
And this is where all the problems Mark Cuban is citing come in, plus all the problems that financial regulators were trying to deal with in the last regulatory push (Volcker rule, Glass-Steagall, etc.).
The main issue here is that you can't really draw much of a line between "market-making" and short-term trading. Market-making is something most people agree is a good thing - you want a healthy number of market makers competing transaction costs down and providing sufficient liquidity (again, all to serve the health of the primary markets). And short-term trading is something that most people feel is a bad thing - it creates short-term thinking in the markets, which usually flows over into the companies, so you have everybody thinking about the next quarter, which leads people to ignore longer-term and deeper issues. But both market-makers and short-term traders are just buying and selling securities - it looks exactly the same. This is why the Volcker rule is so ineffective. The rule stated that a financial firm could only have a few percent of its capital in "proprietary trading," but every trader at any financial firm knows that most of the trading (and most of the lucrative trading) happens on the market-making desks. Buy a portfolio of illiquid emerging market bonds at 70 cents on the dollar from an investor looking to offload quickly, warehouse it for a few days, and offload at 85 cents. That's market making. And it's also short-term trading. There is no difference. The trader had to make a judgment about whether he would profit on the trade - whether the price of the bonds would hold up until he could offload it, or whether he got it at enough of a discount that even a move against him wouldn't hurt him. He probably thought about whether he could hedge it while he held it or if he could somehow line up a buyer before he even bought it. A high frequency trader is technically doing the exact same thing - just buying and selling; they just get very fancy about figuring out whether they'll profit on the trade: fractional penny arbitrage opportunities, information about where the price is headed in the next half-second, etc.
The best idea I've heard in terms of tackling this specific issue is to alter the tax structure. Mark Cuban advocates this in the form of a 10 cent tax on trades held under 1 hour. Another version I've heard is to levy a similar penalty tax on any capital gains reaped on a trade held less than 3 months (i.e. taxed as income plus a penalty; right now it's just taxed as income), and to move the lowered long-term capital gains tax rate to gains on investments held for more than 2 years (right now, long-term is 1 year). This would certainly discourage short-term trading, but that would mean that it would also make trading slightly more expensive for everybody, which some people think would be a good thing in that it would make people think twice before they traded something, while others argue that it would be a terrible thing because it would hurt the smallest players (individual investors) the hardest - after all, they're the ones who feel trading costs the most in percentage terms (trading costs as a percentage of the amount they're investing).
As a final thought, while all this trading and short-term thinking seems like it hurts us in the long-term, I don't think this is where our energies should be focused in terms of regulation. Trying to get people to stop short-term trading in the market would be like trying to get people to stop going to see movies for all the violence. Sure, it'd be nice if everybody thought like Warren Buffett in the market, and it'd be great if everybody just wanted to watch Stanley Kubrick films. But the important thing is not to get people to be "better," but to ensure they can't cause much damage as they're acting on their impulses. People like violence, but we keep guns away from them. People like short-term trading, so we need to keep LEVERAGE away from them. If you limit leverage, you limit bubbles and busts. It's that simple and that difficult. Bubbles and busts will still happen because people will chase up prices of some securities and then run for the hills once prices falter, but you need to make sure they're just running and not rocketing. Leverage is that rocket - limit it, and you've got the most elegant solution to the major problems of the financial markets. Don't try to enforce good behavior; just limit the power of bad behavior.
[1] Some people complain about the size of the cut that Wall Street takes for these services. The cut is stable and large for 3 reasons: 1. There's an oligopoly at the top. 2. The risks to a failed capital raise are huge, financially and reputationally for the company raising capital, so they usually opt to go for one of the few top players (protecting the oligopoly). 3. Like most large negotiated transactions, there are higher costs of doing business (think cars and houses).
[2] In the primary markets, the area that probably poses the biggest danger to the economy and society as a whole is when it gets into non-plain-vanilla securities, i.e. stocks & bonds work just fine, but derivatives and other instruments (like some asset-backed securities in the last crisis) get a bit more tricky. But I'm going to leave those aside for now since Mark Cuban is mostly addressing trading in the stock market and plain vanilla capital raising.
[3] The costs have been pretty stable for long stretches of time without seemingly barring companies from raising capital or making the capital raise so prohibitively expensive that people don't participate. And on hyping the securities, investors know that there's a financial relationship between the company and the bank, and they're for the most part pretty aware of this and therefore do much of their own research. All the major mutual funds and hedge funds do their own research and know not to rely on bankers (to the point that many portfolio managers ask that the bankers remain silent during meetings with companies that are raising capital until the discussion gets to specific deal terms, and if the company is not raising capital but just meeting with portfolio managers or analysts, the PMs or analysts often don't even allow bankers in the meeting room but ask them to wait out in the lobby or waiting area).
What I meant about people reviewing ideas is this: what incentive do people have to come to the site to review ideas? I see the incentive for the entrepreneur: see what others have to say about your idea and figure out what potential users think. But what reason do random people have to come to a site to review other people's startup ideas? Are you thinking that the people who post their ideas will take the time to review other people's ideas? It could just be that it's an inherently enjoyable activity and people will do it for the fun of it or the social engagement (sort of like Hacker News), but that's something that would just have to be tested.
Have you considered giving a bit more structure to the "Idea" submission? Maybe just split out basic questions like "What problem is this solving?", "Who is this for?", etc. into separate fields. Might give it a bit more organization and would potentially allow users to categorize/search based on certain criteria.
One assumption that would need to be tested is whether people will take the time to review ideas. And the other is whether people would be willing to disclose their ideas so publicly. I think you can find better quotes/articles to help convince people to disclose their ideas. Here's an excerpt from Paul Graham's How to Start a Startup essay you may want to use (PG has some more good quotes on the same topic in some other essays):
"An idea for a startup, however, is only a beginning. A lot of would-be startup founders think the key to the whole process is the initial idea, and from that point all you have to do is execute. Venture capitalists know better. If you go to VC firms with a brilliant idea that you'll tell them about if they sign a nondisclosure agreement, most will tell you to get lost. That shows how much a mere idea is worth. The market price is less than the inconvenience of signing an NDA.
Another sign of how little the initial idea is worth is the number of startups that change their plan en route. Microsoft's original plan was to make money selling programming languages, of all things. Their current business model didn't occur to them until IBM dropped it in their lap five years later.
Ideas for startups are worth something, certainly, but the trouble is, they're not transferrable. They're not something you could hand to someone else to execute. Their value is mainly as starting points: as questions for the people who had them to continue thinking about."
Make sure no matter what you get up at the same time every day, even if you went to bed really late the night before (or earlier that morning), and go to bed at night when you start feeling drowsy. If you need a kickstart in the beginning of the (re)transition period, drink a cup of coffee when you wake up or sit in front of a light therapy device (http://www.amazon.com/Philips-goLITE-BLU-Therapy-Device/dp/B...) for 15-30 mins. After a few days, your sleep schedule should normalize. If you still have trouble getting drowsy at night, try to get into a pre-sleep ritual (book, warm milk, dim the lights, whatever) 30-60 mins before you want to go to bed. Definitely stop all work 30-60 mins before bedtime. In general, no backlit screens in the 60mins before bedtime, and no caffeine after 3pm.
Why not just keep pushing the edge of what's currently possible, and keep a catalog of the more advanced ideas that you can revisit from time to time to potentially begin executing on? For the ones you identify as still too advanced, specifically identify the pieces you still need. Judge whether or not you (or a team you know/could put together) could develop any or all of those pieces. If so, do it. If not, wait. In the meantime, constantly ask "What's the best way to solve this problem given what I can do today?" and do whatever the answer is.
Well-rounded often means the person seems generally capable of tackling a broad range of activities, though they may not be stellar at any one. A guy who does well in school, plays sports, can mingle well, has a good group of friends, etc. Balanced, normal, etc. Used in this sense, it's a pretty poor compliment and doesn't seem to be a description that one should strive to achieve. What exactly is this "well-rounded" person good at? Yes, you may want to be versatile and generally comfortable in a wide variety of situations, but you definitely want to kick ass at a narrower set of activities.
Building character is often used to justify grueling tedious work, regardless of its merits/value. Done right, building character would consist of valuable activities that improved upon an important skill or helped people. That is, one builds character by learning and by overcoming obstacles on the way.
These are basically two phrases that could be used to signify positive attributes/activities, but are usually used in stupid ways.
Is it generally trying to solve the problem of having so many video platforms that people can't keep track of what's on? Would you just link to the video stream? What's the social feature exactly - just letting your friends know something is on? Is this something the content provider would use, or the viewers? Seems like a cool idea to have a centralized database of what's streaming on the web at any given point. Would you break it up into categories? Would you rely on crowdsourcing to get all the links? Website looks great though. Great colors and logo. Not sure if others agree, but a few too many exclamation points for my taste.
I did not intend to portray extreme views, and I believe that I've represented their views fairly. Buffett recommends index investing, but also believes that it provides great opportunity for the enterprising investor because of its passivity and ignorance of security values. Graham did indeed differentiate between the "enterprising" and "defensive" investor, but did not recommend an index approach to investing, even for the defensive investor, as he specifically recommends that no security should be bought at a price over 20x its earnings (Ch. 5). Graham recognized that the "defensive" or passive investor does not have the time, energy, or expertise necessary to engage in rigorous security selection, but ignorance does not protect an investor from risk - risk here being defined as risk of permanent capital impairment, which is the risk of overpaying for a security.
My basic point is that every investor, passive or active, must protect him or herself against the risk of overpaying. Passive index investing does not protect you from this risk, and is therefore very dangerous.
Fully agreed that good investing is pretty much totally dependent on how much work and emotional discipline you're willing to put into it.
Very interesting that more subscription models didn't make the list (Spotify is the closest but so few people opt for premium).
And I only really see 4 business models here:
Take a cut: Flattr, GroupOn, HumbleBundle, Quirky (40% of sales), Airbnb, Kickstarter
Razor & Blades: Free with in-app sales
Fee-based: Quirky (the $99 fee)
Ads: Spotify, PatientsLikeMe
And Paywithatweet does not seem to have a way to make money.
I really like subscriptions, fees, and razor & blades. Take a cut is pretty good too, but you take the risk that nothing (or not much) gets sold. I don't like ads very much; the entire incentive structure is totally messed up. If you're not getting paid by your users, but rather by advertisers, you're not incentivized to create value for your users. There will be conflicts between the interests of users and the interests of advertisers, and given the incentive structure, over time and on average the interests of the advertisers will win out.
What do you guys think? Any favorite business models or ones you particularly dislike?
Does anybody have good data on conversion rates for credit card info at the beginning of the free trial or end of the free trial? That is, let's say you e-mail the user 5 days before the 30 day trial is over in both scenarios, but if they entered the credit card info beforehand, then to sign up the user has to do nothing, but if you require it at the end of the trial, they now have to enter credit card information to continue. So basically you have to add the credit card burden at some point; do you get a higher conversion if you increase the barrier for the trial (by asking for cc info up front) or the barrier for continuing (by asking for it at the end)? I'd guess that asking up front has the higher conversion, but I'd want to see the data.
Yeah, seconded. I'm a total beginner and W3Schools has been really helpful just getting me familiar with the terminology and very helpful in looking up various tags/functions.
Switching costs are absolutely the thing to focus on here, but limiting the switching costs to a replication of the social graph may be understating the true cost. Think of all the photos, and to a lesser extent, wall posts. I would imagine a lot of the time that's spent on Facebook is just browsing through photos (and again, to a lesser extent, people's wall posts). Much of it probably is just new photos, so obviously those don't need to be replicated since if you port the social graph over, people will start posting photos on the new site and people will just look at those, but a ton of the viewing is probably of legacy photos. That is, some of the viewing is seeing what's happening with your friends (the party last night) but a ton of it is just checking people out (facebook stalking). How can I stalk somebody without seeing all their past photos/videos/notes/posts/etc.?
Tichy is exactly right, and this point on its own makes passive investing extremely dangerous (though I tend to agree that on average, putting your money with an active money manager is even more dangerous). The indices are rather arbitrary and set by institutions whose incentives have nothing to do with investor returns. The securities included in the indices are in no way selected for expected performance, and it's been well-documented that simply being included in the index artificially inflates a company's stock price (just as getting booted out artificially depresses a company's stock price), mostly because so many people have shifted to blind passive investing that there's just a bunch of forced selling and buying instead of thoughtful analysis of business values.
Though Warren Buffett has indeed recommended index funds to individual investors, he has repeatedly argued that the fundamental premise of index investing (that is, EMH, the efficient market hypothesis) is fatally flawed and that index investing is basically a stupid thing to do:
"Naturally, the disservice done to students and gullible investment professionals who have swallowed EMT [efficient market theory] has been an extraordinary service to us and other followers of Graham. In any sort of a contest -- financial, mental, or physical -- it's an enormous advantage to have opponents who have been taught that it's useless to even try. From a selfish point of view, Grahamites should probably endow chairs to ensure the perpetual teaching of EMT."
Buffett basically says that if you don't have time to dig into stocks, then index funds are the way to go - though they're still a terrible way to go. I disagree. When you look at the academic literature as well as Buffett's own philosophy (which draws heavily on the work of Benjamin Graham and David Dodd), investing based on value works over time and handily beats the broad indices. That is, if an investor buys what is undervalued, they will outperform the market. Now, to truly understand if a security is undervalued requires an enormous amount of knowledge and analysis, but it's been shown that even rough proxies for undervaluation (i.e. simplistic statistical screens such as price/earnings or price/book) work, and work well.
Joel Greenblatt, another very successful and highly respected investor (who subscribes to the same investment philosophy known as "Value Investing" that Buffett follows and Graham birthed), also disagreed with Buffett and he proposed a system that does in fact recommend buying undervalued securities as determined by statistical screens. Here's his site below:
http://www.magicformulainvesting.com/welcome.html
If you buy the index when the market is overvalued, you'll end up doing very, very poorly. This is not about market timing; this is about valuation. You could use a simple P/E or a Schiller P/E (http://www.multpl.com/) to understand where the market stands on a valuation basis. This is the sort of analysis that Jeremy Grantham, another very successful value investor, does when he determines asset allocation and security selection (http://www.gmo.com/America/). If a certain asset class is overvalued, then why would you put the same amount of money into it? You want to put more money into the asset classes that are undervalued. Asset allocation should not be a static allocation; it should vary based one very important factor - value.
All of Wall Street exists to do one thing: connect those with capital to those who want it.
The primary market exists to do what Wall Street is meant to do: a company or other entity wants money, an investment bank connects that company with investors, and investors hand over the money. Wall Street acts as a classic broker, executing the function it was meant to perform (match those with capital to those who want capital). For its services, it takes a cut.[1]
This part of Wall Street - the primary market - works reasonably well and there aren't many complaints about it.[2] In fact, people sometimes complain about the IPO market getting too hot, which really just means that more companies in the real economy are getting money. The biggest ongoing complaints about the primary market are that the big banks charge too much for the capital raises and that they hype up the securities. Neither is a particularly cutting complaint though, nor is either issue crippling in any way to the capital markets.[3]
This brings us to the secondary market - the stock market as most people know it. Most people never participate in the primary market (i.e. in the first sale of securities), but rather in the secondary market. Here's the core question: WHY DOES THE SECONDARY MARKET EXIST?
The secondary market serves a support function to the primary markets. It provides "liquidity" to the primary investors - that is, it gives them a reasonably easy and cheap way to offload their shares should they choose to do so. The idea is that if there's a ready secondary market for the shares, primary market investors will be more willing to participate in deals because they know they can get out quickly and cheaply if they want to, and they'll be willing to pay a higher price for the shares for the same reason. In more technical terms, the secondary market serves to increase the flow of capital to companies and lower the cost of capital for companies.
And this is where all the problems Mark Cuban is citing come in, plus all the problems that financial regulators were trying to deal with in the last regulatory push (Volcker rule, Glass-Steagall, etc.).
The main issue here is that you can't really draw much of a line between "market-making" and short-term trading. Market-making is something most people agree is a good thing - you want a healthy number of market makers competing transaction costs down and providing sufficient liquidity (again, all to serve the health of the primary markets). And short-term trading is something that most people feel is a bad thing - it creates short-term thinking in the markets, which usually flows over into the companies, so you have everybody thinking about the next quarter, which leads people to ignore longer-term and deeper issues. But both market-makers and short-term traders are just buying and selling securities - it looks exactly the same. This is why the Volcker rule is so ineffective. The rule stated that a financial firm could only have a few percent of its capital in "proprietary trading," but every trader at any financial firm knows that most of the trading (and most of the lucrative trading) happens on the market-making desks. Buy a portfolio of illiquid emerging market bonds at 70 cents on the dollar from an investor looking to offload quickly, warehouse it for a few days, and offload at 85 cents. That's market making. And it's also short-term trading. There is no difference. The trader had to make a judgment about whether he would profit on the trade - whether the price of the bonds would hold up until he could offload it, or whether he got it at enough of a discount that even a move against him wouldn't hurt him. He probably thought about whether he could hedge it while he held it or if he could somehow line up a buyer before he even bought it. A high frequency trader is technically doing the exact same thing - just buying and selling; they just get very fancy about figuring out whether they'll profit on the trade: fractional penny arbitrage opportunities, information about where the price is headed in the next half-second, etc.
The best idea I've heard in terms of tackling this specific issue is to alter the tax structure. Mark Cuban advocates this in the form of a 10 cent tax on trades held under 1 hour. Another version I've heard is to levy a similar penalty tax on any capital gains reaped on a trade held less than 3 months (i.e. taxed as income plus a penalty; right now it's just taxed as income), and to move the lowered long-term capital gains tax rate to gains on investments held for more than 2 years (right now, long-term is 1 year). This would certainly discourage short-term trading, but that would mean that it would also make trading slightly more expensive for everybody, which some people think would be a good thing in that it would make people think twice before they traded something, while others argue that it would be a terrible thing because it would hurt the smallest players (individual investors) the hardest - after all, they're the ones who feel trading costs the most in percentage terms (trading costs as a percentage of the amount they're investing).
As a final thought, while all this trading and short-term thinking seems like it hurts us in the long-term, I don't think this is where our energies should be focused in terms of regulation. Trying to get people to stop short-term trading in the market would be like trying to get people to stop going to see movies for all the violence. Sure, it'd be nice if everybody thought like Warren Buffett in the market, and it'd be great if everybody just wanted to watch Stanley Kubrick films. But the important thing is not to get people to be "better," but to ensure they can't cause much damage as they're acting on their impulses. People like violence, but we keep guns away from them. People like short-term trading, so we need to keep LEVERAGE away from them. If you limit leverage, you limit bubbles and busts. It's that simple and that difficult. Bubbles and busts will still happen because people will chase up prices of some securities and then run for the hills once prices falter, but you need to make sure they're just running and not rocketing. Leverage is that rocket - limit it, and you've got the most elegant solution to the major problems of the financial markets. Don't try to enforce good behavior; just limit the power of bad behavior.
[1] Some people complain about the size of the cut that Wall Street takes for these services. The cut is stable and large for 3 reasons: 1. There's an oligopoly at the top. 2. The risks to a failed capital raise are huge, financially and reputationally for the company raising capital, so they usually opt to go for one of the few top players (protecting the oligopoly). 3. Like most large negotiated transactions, there are higher costs of doing business (think cars and houses).
[2] In the primary markets, the area that probably poses the biggest danger to the economy and society as a whole is when it gets into non-plain-vanilla securities, i.e. stocks & bonds work just fine, but derivatives and other instruments (like some asset-backed securities in the last crisis) get a bit more tricky. But I'm going to leave those aside for now since Mark Cuban is mostly addressing trading in the stock market and plain vanilla capital raising.
[3] The costs have been pretty stable for long stretches of time without seemingly barring companies from raising capital or making the capital raise so prohibitively expensive that people don't participate. And on hyping the securities, investors know that there's a financial relationship between the company and the bank, and they're for the most part pretty aware of this and therefore do much of their own research. All the major mutual funds and hedge funds do their own research and know not to rely on bankers (to the point that many portfolio managers ask that the bankers remain silent during meetings with companies that are raising capital until the discussion gets to specific deal terms, and if the company is not raising capital but just meeting with portfolio managers or analysts, the PMs or analysts often don't even allow bankers in the meeting room but ask them to wait out in the lobby or waiting area).