The Market Plunge

Yesterday the stock market dropped almost 1,000 points intraday before rebounding late in the day. Does this matter to the world of entrepreneurship and startups? Yes and No.

I’m no expert in the stock market but I read a bunch of experts blogs. I liked this from Steve Place:

High Frequency Trading broke, then saved the market

This will probably be the most controversial thing I’ll say. Quant firms have been keeping the market in a fairly low volatility state as they seek mean reversion and arbitrage strategies. By doing this they provide liquidity in the market for institutional players and funds. Their risk models are based on statistical distributions, behavioral finance, and other voodoo. When these models go out of wack, they can exacerbate the situation– that did occur in 2008 when liquidity dropped out of the system.

However, I feel that program trading (eventually) provided the liquidity for the snapback of this rally. If it weren’t for quants betting on extreme mean reversion, we would have held a much deeper selloff comparable to 1987. What evidence do I have of this? The sheer snapback of the price in such a short amount of time. It certainly wasn’t fundamental traders who all of a sudden found “value” in the market with a trailing P/E. The only sort of quick analysis that provides that kind of price action are done by non-humans at quantitative firms, and they saved the market from something much, much worse.

What Steve is saying is that computer driven trading drove the plunge and then drove the rebound. It was not human trading stocks that caused the price action. It was machines that had been programmed by humans.

There’s a lot of talk about machine to machine interaction coming into our lives. Yesterday afternoon at 2:45pm, we saw what that looks like. For the people who make their living trading in these markets, it was a sick feeling in their stomaches. For the rest of us, I don’t think this is too much of a big deal.

However, there are some big issues in the capital markets right now. From the bottom last April to the top a few weeks ago, the S&P 500 was up about 70% in a year. It was close to getting back to its pre meltdown high. Maybe the markets came back to far too fast. Its not like we are past all of our problems.

Money is cheap, too cheap. You can’t get a yield anywhere. As my friend Howard points out, junk bonds trade at 8%. Money is going to get more expensive soon. And that will not be good for the stock markets.

And then there’s the coming regulation of banks and brokers, which will likely put pressure on the stock markets. 

So what does matter to the world of entrepreneurs and startups is that stock markets may not have much more room to go up. I’ve been thinking that we are in for a long period of low public equity returns. I have no idea when that will happen but the macro environment just doesn’t look that great to me.

That doesn’t mean that you can’t make money with your startup and it doesn’t mean that you can’t make money in venture capital. The returns in startup land come mostly from taking nothing and turning it into something. If you take hard work, sweat equity, and a few million bucks of startup capital and turn that into a business producing $5mm a year of cash flow, then that is value creation of the old fashioned kind and it will work in any market environment.

But it also means to me that we should not be banking our business on the IPO exit. The public markets are a fickle thing. And it looks like machines are running that show now. I’m more optimistic about institutions turning to the private markets where capital is still traded by humans. I believe the secondary market where institutional private capital comes into the cap tables of startups and provides liquidity to founders, angels, and early stage investors is the next big thing for liquidity in the startup business and I am pleased to see that market continue to develop nicely.

So I don’t think the “crash of 2:45pm” as our friends from StockTwits are calling it matters much to those of us working in the world of startups, but it may be indicative of things to come (as markets tend to be) and it is worth figuring that part out.

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Comments (Archived):

  1. David Ashwood

    Nice write up Fred – essentially we’re in the long-haul leg of market dynamics. Personally I see it as an exciting time – building really strong, long-term companies that’ll be the foundation of the web in years to come.

  2. jd

    Wouldn’t read too much into the 1,000 point drop since it was driven by a human error.

    1. JLM

      Other than we have a system which is so fragile and volative that a human error cannot be corrected in real time thereby creating real lasting residual damage.This is the financial equivalent of nicking an artery and bleeding to death.A great surgeon has lots of blood and clamps on hand BEFORE the operation starts and is able to save the patient even though he went in for a very simple procedure.This is why such crack house frenzied computerized trading should be outlawed — it can bring the house down.

      1. Tereza

        Totally agree.Good surgeons are often arrogant SOBs, but they generally take their job very seriously. Get their 8 hours, eat right, stay fit, etc. They view themselves as life-giving machine, and respect the need to be ready if the sh*t hits the fan.And when it does, there are consequences. Families to talk to, malpractice premiums go up.They have massive amounts of schooling, and apprenticeship training.Oh, and he’s taken an oath to “do no harm”.Would love to see traders take that oath.

        1. JLM

          One of my best friends is a very accomplished orthopedic surgeon. He is a very, very odd type — probably the reason we are friends.He is a pilot also — a fairly weak one in my estimation. But he is otherwise easily the most professionally engaged person I have ever met. The reason I mention he is a pilot is because one would think he would exhibit the same meticulousness in that undertaking as he does as a surgeon. Not so.It causes me great heartburn to see how seemingly accomplished he is as a pilot and how weak his technique really is, in fact. I often tell his wife I will not fly with him.His level of professionalism as a surgeon is extraordinary. He has recently turned me on to a series of books written by a brilliant surgeon, Atul Gawande, which though focused on the profession of surgery are quite full of great lessons for “normal” people. Like us. Not really normal but able to pass in polite company.Recently Atul Gawande has written a book, the Checklist Manifesto, which though founded in medicine is almost entirely useful for the rest of the world. Even the normal people.

      2. Leland

        Agree here too JLM. It keeps coming down to the algorithm-based markets that we have developed. Day to day real-time trading is dominated by statistical models, and the reaction time is so fast that if a human error is made, the entire system is shocked.

  3. Dan Ramsden

    Fred, I think on a certain level this all relates back to your venture math problem from last spring. Low yields, machine trading, are symptoms of too much capital in the system. The limited upside opportunity and fickle ipo environment stem from limited capital deployment alternatives relative to available liquidity. (As I type this the idea of inflation comes to mind.) Anyway, the market having gotten as far ahead of fundamentals as it has, one can interpret that as a bubble or as a market that trades on option value. Either way, the venture model and its recent realities are not far-fetched comparisons.

    1. fredwilson

      good points dan

  4. George A.

    good post. especially on the cost of money. ITA.

  5. Louis Berlan

    “I’m no expert in the stock market but I read a bunch of experts blogs.”That sounds like the “but I did stay at a Holiday Inn Express last night” ads 🙂

    1. Mark Essel

      The post analysis and understading the financial system may be the most valuable service financial experts can provide.Understanding the macro effects and future trends is probably a big part of the value USV provides it’s LPs and founders. Good on Fred keeping his ear to the groundIt’s those edge sources that we can pick up valuable patterns from that make specific bloggers irresistable. I don’t invest a cent beyond 401k which I pretty much ignore (not the life/retirement plan I’m looking for). I enjoy Howard Lindzon’s, Andy Swan’s , and Dave Pinsen’s posts even though they are heavy market-centric blogs (they all sprinkle in startup ideas).

      1. Louis Berlan

        I totally agree with your sentiment, and really liked the post.The wording of that sentence just reminded me of those ads, that’s all. Tongue firmly in cheek.

  6. sigmaalgebra

    I believe that your concerns for computer programs doing trading are not justified.Computer programs do SOME of the trading. So be it.Uh, in principle there can be MANY investment/trading strategies that make money. That some of these are programmed into computers does not mean that others don’t work.Or, there’s no single ‘truth’ in portfolio management: That computers make money doesn’t mean that they are the only way to make money.There’s another huge fallacy in venture capital, implied in your post: The Sharpe capital asset pricing model (CAPM). For some ideal version of the NYSE, assuming everyone has all the relevant information all the time, maybe the CAPM has something to say. The index fund people believe it does.Then for the fallacy, the venture capital limited partners try to use the CAPM thinking to regard venture capital as an ‘asset class’. Garbage. Brain-dead, get an F in the course, garbage. The reason is, in venture capital, for both the entrepreneurs and the venture partners, that everyone has all the relevant information all the time is nowhere near passing the giggle test. Or the returns are not just a random variable for the asset class but a random variable considering both the venture partner and the entrepreneur and the extra, possibly unique, information they have. Of course, if the venture partners choose to ignore this information and make decisions based just on the public information, say, a graph of recent ComScore data, then we move closer to the CAPM.For low interest rates, if people want higher rates of return, and with such low interest rates now they certainly should, then they should find better investments. The main way to do this is to get better information not readily available to others and, thus, not already ‘discounted’ in the market. For this, venture capital is made to order.Or, there are claims that now venture partners do not know how to separate the wheat from the chaff by any means other than just, say, a graph of recent ComScore data. If so, then that goes a long way to explaining the separation problem.Again, the grand opportunity in venture capital is extra, often unique, information available with nearly worthless companies; but to take the opportunity, this information has to be used and not just ignored.More generally, can still make lots of money both as a business owner and as an investor: Just find a market need and fill it in a way that makes lots of revenue with high margins. How to do this? Uh, for now, take advantage of information technology and other relevant knowledge, think, pick a good market need, and get the coveted solution. Then there is nothing about the market or interest rates to keep one from making a $1 B.

    1. steveplace

      High frequency trading currently accounts for 60% – 70% of the trading volume in equity markets.You’re right about business and interest rates. You can create a very profitable business regardless of central bank policy. But if you want to get funded, that’s a different story. There’s a glut of cash from central bank capital infusions that has to find yield, or else the money managers are fired. And finding yield is easier said than done, and the VC market probably has way too much cash already. You also wouldn’t find those crazy Russian investors if it weren’t for the current global environment.

      1. Dan Ramsden

        If HFT is done by the largest institutions with most capital, and this constitutes 70% of volume, is it safe to say that current market is fundamentally a fed reserve & treasury vehicle? Particularly in the aftermath of tarp, etc?

        1. steveplace

          Probably. MBS got bot by the Fed, the banks had fresh cash they needed toput to work.The best explanation about this here:

      2. Mark Essel

        Hey Steve, you mention automated trading percentage by volume. But what about trading measured by profit? I’d like to know how the ~65% automated trading compares to the ~35% manual just out of curiosity.I find it helps to pick quality features and understand what drives them in any estimation problems.

        1. steveplace

          Mark:No idea. Expectancies are different. Algos are willing to risk 2 to make 1,because their p(success) is 75%. Other funds may risk 1 to make 4 with alower probability. Time frames, position sizing and execution style allvary.

          1. Jared McKiernan

            The money has to come from somewhere; since you rarely hear about billionaires deciding to start trading for fun and blowing through their bankroll, it seems like most of the HFT profits are coming directly out of the pockets of mutual funds and therefore the 401(k)s of most of America’s middle class.

        2. kidmercury

          goldman makes money 97% of the time.…there are two types of automated trading: the kind done by some dude in an apartment (using tools like tradestation, metatrader) — these people are not causing stuff like what happened yesterday. then there is another kind of automated trading known as high frequency trading (HFT). this is done by market participants who can front run orders and are shown prices before other market participants are. these are the people who cause all the trouble and are basically stealing money from other traders; since they are frontrunning (they can see what orders are coming and thus can buy ahead of a big block of orders that will push prices up) they are basically stealing (because that big block of orders they bought ahead of will get a higher price since the HFT program “cut in line,” so to speak).HFT also works on the way down, in fact some say it works better on the way down. i don’t know enough about the subject to know if that’s true or not.

          1. Mark Essel

            That just doesn’t sound legal.

          2. kidmercury

            that’s the most f’d up part — it totally is!!!! now should it be? lol, of course not. but it also illustrates how the stock market is fundamentally broken.

          3. alphaG77

            The SEC put a ban on flash orders earlier this year – the practice you are speak of. That’s why companies like Investment Technology Group (NYSE: ITG), which is one of the original dark pool liquidity & cross-network providers, have seen their businesses cut in half in the past few months; go check their stock price.

          4. kidmercury

            my understanding is that the ban on flash trading does not prevent all types of frontrunning (and i think the practice is still occuring in some areas, as i’ve heard direct edge was flash trading on may 6). broker-dealers are still sub-pennying (i.e. frontrunning by less than a penny); they are the only ones allowed to sub-penny, giving them an unfair advantage, and basically driving up costs for everyone else.

          5. alphaG77

            However, to your point – the big boyz definitely favor certain clients, including their own sponsored hedge funds, over other clients. That is not an HFT thing though – that is front-running by another name. It’s all done with soft-dollars so to speak (institutions/firms that transact lots of volume through the Goldman Sachs trading platform get the benefit of being a favored client, while GS gets to pocket a larger margin from handling both sides of the trade – one leg efficiently and the other side, not so much). This allows them to get around the various regulations meant to curb that particular activity.

  7. Dan Lewis

    One thing you’re missing: The lack of an IPO exit opportunity is horrible for startups because it creates a huge liquidity problem for employees.Just look at Facebook, for example. In any other universe, Facebook would be on the brink of an IPO if they hadn’t already. Because they aren’t, their employees have a lot of paper wealth which is 100% illiquid, so Facebook opted to allow employees to sell some of their shares to private equity investors. I agreed with Charlie O’Donnell who questioned this when it happened, but by now, I think it’s a necessity. As Facebook’s value rises, the pool of potential acquirers falls, redoubling this problem.Combine this with other factors — second time founders who are looking for a huge payoff and are already comfortable; a culture of swinging for the fences (buttressed by VC math); and a startup economy, especially in SF, where equity compensation is considered base, not bonus; and you have a toxic cocktail. I suspect that (again, especially in SF) you’ll have a lot of people who have worked for successful, cash-flow positive, no-exit startups — and therefore are paper rich, cash poor. These are exactly the type of people who you want working on the next generation of startups, but more likely than not, they’ll be unable to.I think we’re seeing the start of this already; it’s why Jason Calacanis put together his loyalty rant. Employees aren’t being disloyal. What they’re seeing is that the startup they’re working for is successful, albeit moderately so, and the startup has two choices: sell too early and give the founders a $5MM payday, or wait and wait and wait and wait and hope that there’s a 10x exit in a decade. Either way, there’s little reason for the employee to stay. Maybe they spend the next 2 years at another startup, and 2 more at a third, and by the time they’re 40, those investments of their time paid off. Or maybe not. But either way, it doesn’t seem like a sustainable cycle of innovation, because from age 30 to 40, they’re almost certainly working a “real” job while starting a family, and it’s hard to leave that security — especially if you hit a payday at the end — to start something new.

    1. David Ashwood

      It depends a lot on your perspective – but building a company around an exit strategy rather than long term value essentially builds empty companies.In the current climate where investments can be much smaller, infrastructure is cheaper and simpler to scale – achieving 10x return on investment within 5 years is fairly straight-forward.

      1. Dan Lewis

        Sure, I totally agree. My concern is finding employees in thatclimate, not founders; and that the pool of potential founders/rolodexceos of larger endeavors is going to shrink.

        1. Donna Brewington White

          “My concern is finding employees in that climate…”Spot on, Dan.

    2. fredwilson

      i am seeing employees participating in many of these secondary transactions via employee tenders and also i am seeing them actively selling on exchanges like second market

      1. Dan Lewis

        What’s an employee tender?Re: the secondary private market, I think that’s a limited exceptionin practice. The odds of your ability to participate are low. Eventhen, the restrictions on sales are significant. It’s a goodmakeshift solution, sure, but it’s still makeshift.

    3. JLM

      Not to put too fine a point on it but the “liquidity problem for employees” is part of the delicately fashioned ‘golden handcuffs’ which provides the glue which holds such organizations together.I am a huge fan of going to the pay window but I am in favor of everybody going at the same time.And, yes, hell yes, I love the golden handcuffs. If I make a bunch of folks rich, the very least they can do is wait in line with me.

      1. Dan Lewis

        Except that it doesn’t work that way. The employee’s equity vestsover time without regard to when it becomes liquid. So an employeecan earn a pile of options/restricted stock over the course of twoyears. If the company is stable but unlikely to be huge in the nearfuture (if at all), there is little reason to stay. If anything, theliquidity problem is the *opposite* of golden handcuffs. That’s partof my point 🙂

        1. JLM

          Since I run a public company, I am pretty sure that’s the way it does work.The employee’s equity vests over a period of time which is consistent with the company’s improving fortunes. I personally am a big fan of cliff vesting at 4-5 years at which time the fortunes of the company are apparent and the employee has contributed to creating that condition plus the company has enjoyed a stable work force.A stable work force is the outcome of having applied the golden handcuffs correctly.Philosophically the employee does not “earn” anything until there is a reward for everybody. Everybody goes to the pay window together or nobody goes at all.Business is a risk and nobody is entitled to any particular outcome. Employees must be very careful for whom they work. Dr Koop anyone?

          1. Dan Lewis

            I’ve never seen a startup which began as a public company :), nor onewhere equity vested w/a cliff beyond a year, so I can’t really relate.

          2. JLM

            Absolutely correct, public companies are where many start ups want to end up.My point was nonetheless that even in an environment which has reached the seeming finish line, the imposition of the golden handcuffs is a legitimate and appropriate business strategy.While I have often invested my own money alongside institutional investors, the sense of entitlement that an employee has — who has made no cash investment — is not appropriate given the instability of all businesses today. Particularly start up businesses.We all should be happy to have a job and one with some upside — even 5 years in the future — is all the better. This is the new employment paradigm given 23-24% effective unemployment in the US.There is no reason why the guys who actually own the company should be in the back of the line. Everybody goes to the pay window at the same time.Employees have to make the same decisions that VCs have to make — is this where I want to put my sweat equity investment?

  8. andyswan

    I think Steven is an incredibly smart guy, but I think he’s wrong here. This video, in real time, shows why: the robots were freaking out, stampeding to the exits…HUMANS with experience like Cramer were chuckling and saying “look you just have to buy here.” very calmly.

    1. steveplace

      I’m not saying humans didn’t play an active role in creating demand for the market, but they aren’t the ones making the market on a short term basis. I was pounding the table on selling volatility into that move, but some orders that I had never got filled because the market was swept up too fast by the algos.Cramer *nailed it,* but by the time he said go buy it, the market reverted. He also suggested limit orders, and if you had executed the trade as such, you wouldn’t have been filled.

      1. andyswan

        I hear ya. I thought the video was a really neat glimpse into the experienced human mind reacting to wiley robots :)I’m not saying following Cramer would have been profitable…I WILL say that he is a great indication of how fund mgrs not on TV were reacting.In any event, this fat-finger excuse is bullshit. It’s either a lie and a coverup or indicates the market is an absolutely broken casino….their choice.

        1. Mark Essel

          Nevermind the odds, in Vegas it’s all about the lights, oxygen pumps, and free booze.

          1. ShanaC

            Banks have free booze too- look up bottle service.

        2. kidmercury

          “In any event, this fat-finger excuse is bullshit. It’s either a lie and a coverup or indicates the market is an absolutely broken casino….their choice.”agree 100%

          1. raycote

            If there was ever a case of two mint in one this is it!

        3. ShanaC

          The idea that robots are wiley are confusing. If I program it- don’t I make it alive? It has my intelligence….

      2. sweller

        For the average person, there is too much latency involved. Your servers are simply not close enough to the action to take advantage before the algos kick in.

        1. Jared McKiernan

          There needs to be a trading equivalent to net neutrality.

        2. Leland

          Sweller you are right. Anyone trying to play vs the algorithms at their own game are going to lose every time.

  9. Harry DeMott

    It is an interesting issue. The way I look at it – for venture backed companies there are only 4 forms of liquidity: IPO’s, M&A, private sales of securities on secondary markets and harvesting cash flow – and the IPO and M&A market are almost 100% correlated. If you start disaggregating returns of funds over the years there were some staggering IPO’s returns during the bubble – and a few unreal home runs (GOOG etc…) but these generated all of the return. Now with no IPO market – and with stocks coming down – there is less impetus to do strategic M&A (Google and Apple not withstanding) so you are left with doing secondary sales at high prices to DST or others jumping into the late stage game – or best of all – building the company to generate actual free cash flow. The way I figure it, the IPO market, the M&A market and the secondary market (these guys have to get out of their positions don’t they?) are all fickle. The only way to guarantee success is to build free cash flowing companies. And the only problem with that is that most Venture investors demand faster growth over profitability. So you get a few rocket ships – and a lot of companies that could be real businesses getting pushed too far too fast that flame out. A good secondary market certainly makes sense.

    1. David Ashwood

      Exactly demott 🙂

    2. robertavila

      Free cash flow suggests the possibility of a greater reliance on debt financing for growth than has bee the case in the past. There is a very large non-bank lending industry in this country that has historically focused on traditional small business and real estate investment. Does anyone think that there might be an opportunity to fund growth here?

      1. ShanaC

        Yes, especially if there is a way to do small time bond marketing (defer the debt and let it float at will). That might be interesting, but I have no idea how it would in practice (though I do know early cell phone companies worked this way…)

      2. Harry DeMott

        sure. If your business is throwing off serious cash flow – then I think there is that possibility. However, most bank lenders (even non bank lenders) focus heavily on hard assets – which many of the more modern new media company just do not have – so you are forced as a lender to either a. lend less or b. really understand the technology and team. Tough either way.

        1. robertavila

          Among non-bank lenders I know of some that will loan against established records of cash flow.

    3. Mark Essel

      Excellent perspective, appreciate the quick an dirty breakdown. This is definitely a post worth topic.

    4. ShanaC

      So basicly the following:1) we need a liquid-semipublic market (this means that the Public market is very screwed up)2) there probably should be derivatives on its own semi-public market, because it’s inherently more risky, and people will want to hedge.3) Free cash flow is now a necessity because if you develop a 1 and 2, how are you really going to understand your hedging when these companies get big? After all, we’re chasing yield (that’s why we chase big companies and turn them into rocket ships)This sounds bubbly and unhappy. Effectively you doom companies to shell baby companies to be passed around to different stage investors with no real out because the primary markets are screw balled. How are you supposedly to effectively manage rocket fuel (I mean you can send stuff to the moon, including proverbial companies, but will anything get there?)

      1. Harry DeMott

        Having a semi liquid or somewhat liquid private company market would be an excellent stepping stone to the larger markets. Look at some of the info that Benchmark has put out on its portfolio. I believe they have something like 13 companies doing more than $50M in revenues and profitable – yet all are private. Going public is no panacea. If you think VC’s demands are tough – wait till you see the irrationality of public market investors. I view the public market as an exit for a VC – but for the CEO and the employees it is just a new form of shackles. The best of all worlds would be to remain private – and have enough of a market in your equity so that both employees and VC’s can get sufficient liquidity. Problem is – once you start getting to a sufficient number of shareholders – you are forced, in effect, to go public.

        1. fredwilson

          we need to fix that last part. there needs to be a middle layer of capital between VC and public markets. I was in DC last week and told them that.

          1. Michael R. Bernstein

            Fred, have you blogged about what you think this middle layer should look like?

          2. fredwilson

            Yes. I’ve written about it a bunch but there’s no easy way to find them. Try searching for secondary market on this blog’s search field. I can’t promise good results though

        2. JLM

          Technically, you are only REQUIRED to report like a public company, you are not required to trade like a public company.There is way too much angst related to SEC reporting. It really is just a “monkey see – monkey do” environment and there are many sound practices which good companies would willing embrace but the SEC simply forces you to do.Nobody should lose sleep about being an SEC reporting company. It is pretty tame stuff. It is like aviation, sailing, skiing — gravity is working for you big time but everybody pretends that the goofy names they call things really means something. Go stuff a halyard, an aeliron and an edge wherever — but do not ever, ever, ever cross the law of gravity.

        3. ShanaC

          And opening up the debt markets? Despite the tradition of media companies not going to the debt market- could it be done? It would definitely screw up VC returns (Debt holders go first, even if they have no voting rights, a very different kind of rocket fuel) Is there a way to give access to short term paper, even if it is short term junk paper?The market is also access to cash- even if it is an exit. Some companies go to market for that access: Granted few are tech/media companies. However, it is a model that exists. I view being privately held and publicly held at this point in my life as something you switch back forth from….if only for historical reasons.Remaining private is generally better. However, without access to ability to raise cash competitively- this is sticky business.The end goal for all of these companies is to keep under X shareholders to remain’s not about panacea- it’s about how these markets are structured and who is involved. I don’t think a semi-public market would be VC only- it would be anyone who qualifies (it would effectively be a mini-public market.) We already know that employees are selling.(are they buying? That’s a question I would like to know, I only have journalism access to SM?) What is to stop anyone from investing as if it were a public market once they pass the qualification point, such as a hedge fund, with quick in and quick out? I think what would happen is that the type of people investing would chase the higher yield that comes with the risk of private companies. Different cares, different irrationality. Managing that distinction may cause people to want to search for money in a variety of ways than they do now.I don’t think you are getting rid of any shackles. And I think most people involved are irrational. And I see a large chunk of this highly linked. The market is the market- no matter what it is, eventually some sort of market will come back to haunt you.The question is- now public, semi-public, or really private: How to best get your fuel to grow. Beats me….

      2. bernardlunn

        Totally agree. Giving up on public markets is a really bad idea. If its broke, fix it. Murky private markets that only some people can play in will make ordinary people more wary of markets and capitalism.

    5. fredwilson

      i agree with you about cash flow. it is the ultimate determinant of value and sustainability

      1. Leland

        Indeed, and it is very strange that cash flow is seen as a added bonus with today’s SNS companies.

    6. bernardlunn

      If we give up on public markets and place our trust in secondary markets we are in deep doo doo (I assume this is a family blog and I cannot use nasty words). Seriously, if we assume stockmarkets are rigged and the only way to invest in real companies is on private exchanges we lock the private investor out of capitalism and that seems like a bad thing. The SEC has worked hard to get transparency in markets, lets build on that.I really like what Mark Cuban is suggesting. Put a 25c tax on all trades. And make all capital gains and dividends zero if you hold for 5 years. More here: believe that technology can also get the public markets back to where they add value to our lives again:

      1. Leland

        I agree Bernard. Do you happen to have any thoughts about the reliance on AI programs to handle real-time extreme-speed trading? Does it add value to our lives/the market or not?

        1. bernardlunn

          Anything that adds to the ability or buyer and seller to exchange information is a good thing. Companies can raise money on public markets because buyers can sell when they need to. Liquidity is good and trading enhances liquidity. I don’t think high frequency trading is bad. It is a perfectly legitimate way to make a living. But in terms of value to the market it is diminishing returns. Beyond a certain point it does not add to liquidity. Does an investor really care whether P&G is traded 10x per second or 1,000x per second? Traders may care but investors don’t. And investors are more important to the real market – to companies raising money so they can grow and hire – than traders.That is why the Cuban tax proposal is smart (boy, “Cuban tax proposal” sure has a good ring to it, you can see people having fun with that). It is both propositions together:1. 25c per trade, incentive to trade slightly less frequently (or if you can find a way to still do that very profitably, the the tax $$$ roll in).2. Zero Tax Capital Gains & Dividends if you hold for 5+ years. Incentive to invest rather than trade.Incentives matter.I would love to see blogosphere/social media momentum behind this. That has worked on other public policy matters.

  10. Tereza

    Sounds more like a market Dunk than a plunge.I grew up in the “squeeze water from a stone” school of business where you try to create dollars out of nickels. That’s what I love, am wired for, and will keep doing.As a general rule, financial machinations are a turnoff to me. So are, as JLM has said, people who haven’t ‘held the trout in their hand and stuck the hook in themselves’.I’d personally like to see little less of the former and more of the latter.That’s not a political statement, just a wish.

    1. Carl Rahn Griffith

      I misread ‘dunk’ for ‘drunk’ initially – somewhat ironic Freudian misreading, I guess – the markets often being as incoherent, random and talking gibberish as a barfly …

      1. Tereza

        I was imagining bobbing for apples when I wrote that.But if you prefer apple brandy, that’s fine too!

        1. Carl Rahn Griffith

          Ah, I see! Apple Brandy? Urgh, I will skip, thanks! ;-)AI seems as far away as ever, but *AS is most certainly here!*Artificial Stupidity

          1. Aviah Laor


          2. Carl Rahn Griffith


          3. Tereza

            Andy still gets his Pappy.

          4. Mark Essel

            We have to be careful how much we say Andy and Pappy or he may own that Google combination

          5. Tereza

            Artificial Stupidity – funny.I know it’s just about Friday happy hour/Pub time for you Carl.It’s 8:30 am here. And yet somehow I feel I need a drink.LOL

          6. Mark Essel

            Segwaying from David’s comment, are we likely to see AA artificial art?

  11. kidmercury

    high frequency trading (HFT) is not merely algorithmic trading. the real issue is that the way it is done and who is doing it and the regulatory environment (or lack thereof) allows too much frontrunning: the bots jump ahead of limit orders on the books, thus giving limit orders a worse fill. many of those limit orders are placed by folks providing real liquidity to the market. they are thus discouraged to provide real liquidity. “I believe the secondary market where institutional private capital comes into the cap tables of startups and provides liquidity to founders, angels, and early stage investors is the next big thing for liquidity in the startup business and I am pleased to see that market continue to develop nicely.”here’s a prediction: the government comes in and regulates it as soon as it becomes a viable replacement for the IPO market for VCs (maybe even sooner). in doing so, the opportunity for entrepreneurs and VCs gets closer to being extinguished, and the banks that control everything will find a way to get their piece of the startup pie. the only solution is meaningful governance reform. also, valuations are in bubble territory, as fred boldly admitted in the comments here several days ago. in order for their to be profitable exits on these bubble valuations, the public market is needed to get the public to buy at the top and then lose all their money. perhaps i’m mistaken as i don’t know much about these secondary markets, though i’m inclined to think they are not large enough to support/absorb bubbles. If you take hard work, sweat equity, and a few million bucks of startup capital and turn that into a business producing $5mm a year of cash flow, then that is value creation of the old fashioned kind and it will work in any market environment.that’s the way it’s supposed to work. the VC/entrepreneur community right now is betting on ignorance of the fact that the markets have been broken by government; even though entrepreneurs are supposed to solve problems, i see very few people trying to solve that one. most are just hoping it will go away and they can go on being ignorant. lack of respect for free markets ensures they will be taken away from you. of course, it’s our choice, so we get what we deserve, and are free to choose otherwise at any time via our actions. until the people take responsibility for their government, doom and gloom will prevail. the global economy is in need of profound structural reform, and until this happens, there will be no growth. indeed, a new world order is needed, but don’t fall for the false one promised by government. hopefully, five years of kid mercury’s annoying comments and bizarre jokes have made the case for why that is. anyway, stock market is of little concern to me, i’ll be polishing my gold coins regardless. they’re looking especially pretty today.

    1. Tereza

      We may see another spike in those suburban gold smelting parties!(does anyone else here know what I’m talking about? What a racket.)

    2. iamronen

      I’ve come to believe that an “us and them” perspective usually does not have enough momentum to go past criticism – into, for example, actionable change. Government, no matter how much you may oppose it, is an inherent part and reflection of society. Going against government is pretty much like going against society. It’s a losing battle not because government is strong. It is a losing battle because of it’s inherent limitations, weaknesses and escapes. Weaknesses that are prevalent in the society it is governing. Weaknesses that a government has to cater to in order to govern.I feel that a larger war is raging – much larger then people vs. government. In one corner there is all that we know to be compromised (government, corporates… to each his own). In the other corner is advanced thinking (that does not automatically inherit old allegiances and critically reviews values) and spirituality (people seeking freedom and purpose). What we now perceive as weaknesses were once strengths – they are the foundations on which we now stand (and criticize). They have brought us this far and are no longer capable of carrrying us further. They are forces that oppose progress – futile though that is. HFT is a marvelous sign of our times. It is a child of the startup culture. It is an undeniable business success – it has made it’s makers rich. It has no intrinsic value. It creates nothing. It drains potential energy from those which try to create. Maybe it’s purpose, unknown to it, is to cut off the branch on which it sits… so that something better may grow?Government, as we know it, is founded on taking responsibility away from people. There is no way for “people [to] take responsibility for their government”. That is a description of destruction and collapse (which seems to happening). I would stop at “people need to take responsibility” – that is where the greatest potential for change lies. That also happens to be one of the qualities of the VC/entrepreneur community. It feels to me that the alienation of this community from existing social constructs will eventually shape it into something better (which it can and should be).

      1. kidmercury

        I disagree, I think people are responsible for their government in any society that regards itself as free. The price of freedom is eternal vigilance. If we don’t want to pay the price, we don’t get freedom. If we don’t get freedom, we don’t get free markets. As always, we get what we pay for.Sent via BlackBerry from T-Mobile

        1. iamronen

          I don’t agree or disagree… I just can’t see how that fits in with what seems to be happening. There seems to be a discrepency between that theory and the way things are. It feels like you are preferring a theoretical society (which probably sits well with you) to the reality of the society you live in (which seems to sit less well with you). On a purely personal note and perspective. I don’t feel responsible for my government (Israel: – usually it feels as foreign to me as I imagine it does to it’s enemies (and of recently it seems to its allies as well)… and I find it hard to relate to your suggestion to “take responsibility for my government”… and (ironically) I have already been at war with it for personal freedom:…I have paid dearly… and I don’t feel I am getting what I paid for at all!

          1. kidmercury

            i don’t prefer a theoretical society…..i simply believe a better society is possible and work to achieve it. most people don’t, and accept the current reality as unchangeable. of course, it is a self-fullfilling prophecy.

          2. iamronen

            I wish we could to this in person…What is a better society? Whatever your answer to that, how can you know it to be better? How do you know that your theories won’t blow up in your face should you somehow manage to apply them (like has happened to people before you and I who brought us to where we are now)? How do you “work to achieve” this better society?My point of origin, when I remember it, is that now (a spiritual concept of “present”) is the best there is. My belief is that this is the best point of origin from which we can move forward. This makes being critical of the present my problem & burden – I’m probably missing something.Again on a personal note. I grew up most of life in a highly critical environment – and I ended up a reasonably developed intellectual … but also depressed. Over recent years I have experienced and witnessed miraculous affects of acceptance and support … (dare I say love & support) … and how they can magically lead to “better” that I never dreamed possible.I have a hard time buying into “making the world a better place”. It is a tempting notion – but I have found it to be mostly illusion. The best actionable strategy I have come up with and actively pursue is bettering myself.Thank you for the energy you have put into this dialogue.

          3. Mark Essel

            Great conversation, wishing for it to be in person is akin to wishing for a better society, our communication is what it is ;), let’s use what we have.As to a better society, my personal take is that when outcomes and motivations better match my internal ideal I feel as if I’m in a better place. I seek to shift social values to improve freedom, compassion, and critical evaluation of assumptions. This may have an effect on society, hopefully a beneficial one but you are correct, we don’t know the outcomes of our efforts. But that doesn’t stop us from acting in the best way we can imagine.Why did Pirsig write, why did you analyze it through Twitter and later your blog? An entrepreneur or social agent of change seeks a higher quality of the world around them.

          4. iamronen

            welcome Mark :)I truly can’t relate to “I seek to shift social values to improve freedom, compassion, and critical evaluation of assumptions.” and I’m a Yoga teacher 🙂 I can shift myself, I can give a student tools that may help him/her shift too (in their own direction) … I don’t know how to shift “social values”.As for why Pirsig wrote and why I did what I did – that’s a great question I happened to address in the followup post – and I quoted Pirsig:“There were no deep manipulative ulterior motives. Writing it seemed to have a higher quality than not writing it.”I believe there’s an ocean of wisdom in that if you don’t read into what’s not there 🙂

          5. Mark Essel

            Heh, ok I’ll try then.The premise is that one’s thoughts, words, actions, and demeanor can influence others. The common social norms are defined by the group, but their values can be influenced by the actions of leaders.Society as I see it is a set of cascading communities of increasing size. There is at the most localized level, the individual, and any social norms they hold. These change over time, and location. Then there are pairs or small groups of friends, family etc. Already at this level there is a huge diversity of social values, but the group can generally distinguish between strong healthy/positive activities and negative ones.Expand the social groups to organizations, class rooms, clubs etc. The diversity increases but social norms begin to become easy to perceive. Walk into a college class, a grocery store, or a drum and bass club, and you can figure out proper etiquette fairly quickly. Continue growing your societies to counties, states, nations, and global communities and there are more broad societies, many across organizations and boundaries. My words are only so strong at effecting societies, even small ones. My actions are somewhat stronger. If I lead by example, it is possible to influence larger slices of society. My observations have lead me to believe the most profound changes to the broadest groups are exhibited by leaders of businesses. The concept of a corporate culture dedicated towards the health and well being of each of it’s team members is what I wish to pursue with my energy. Deep down I trust that there is a connection between providing real value to society, being financially rewarded, and absolutely loving what you do each day. In a systematic way these resources can amplify the efforts of the business as a social platform. This is how I see the greatest financial and social opportunities for change as an entrepreneur.

          6. iamronen

            So 🙂 If you carry that logic another step forward and acknowledge that you are not alone… that in one way or another (consciously or unconsciously) almost all the people in your diverse social circles are actively making choices and acting on them, like you … that “social change” is bigger then any one person or any group of people. It is a bigger entity:…What observations have led you to “believe the most profound changes to the broadest groups are exhibited by leaders of businesses”? I don’t see that at all.I too trust that there is a connection between providing real value to society and being financially rewarded. But I have a feeling it is opposite to what you are hinting. I believe that the things that are most valuable to a society have to live on it’s fringes because society is incapable of appreciating them – or even holds them in contempt – it definitely does not reward them. Social systems and values are over-digested leftovers… they are mostly mediocrity. Change comes from the outside … and is mostly unwelcome.John Coltrane comes to mind 🙂

          7. Mark Essel

            My perception is biased by blockbuster startups, but think about how we look for information. The web is a big place, and Google has really changed how how and where I go to seek out knowledge. The liberation from crawling through massive libraries is profound. That’s hard to measure with $$.There are many other examples of smaller startups doing equally incredible things. These patterns can even effect large scale behavioral changes on society.Think about the society of two, the shares between yourself and myself. This type of small connectivity over thousands of miles has had a positive impact on how I think. Societies don’t have to be just large geographical culture based ones, they can just as easily be small and threaded throughout the world. Agreed that there are many things that society can’t put a price tag on and I’ve written as much before, ironically writing about monetization for the web 2010:Should We Give Our Best Away for Free?For several months I’ve been persuading readers (preaching) to discover work that compliments their passions. My fear is that the process of monetizing detracts from our best message. Any truly great work, be it art, functional or a mix, that comes from the core of our being and needs to be passed on has great value (at least to ourselves). But the manner of trying to cost that, profit, or putting a price tag on our creations may tarnish the work. It’s a healthy fear to keep in mind, as it channels creative energies towards coming up with revenue streams that doesn’t sully our integrity, honesty, and genuine judgement.

  12. kidmercury

    for those looking to learn more about HFT/frontrunning, i highly recommend this article from ellen brown.

      1. Aviah Laor

        great idea for a non net neutrality cable provider, isn’t it? a 1$ for each stock trading packet. After all, they put the cables.

        1. Mark Essel

          That’ll just driver bigger transactions, one packet can be a huge order

          1. Morgan Warstler

            +1 for Jumbo Frames

      2. kidmercury

        IMHO that will create many other problems (i.e. Penalizing innocent participants, plus what happens to tax revenue — who gets it?) I think all real solutions begin with monetary policy reform, IMHO that is the disaster from which all other disasters stem.Speaking of which, did you see that the senate agreed to an audit the fed bill? I’m not a believer though, I don’t think it goes nearly far enough and seems more like an attempt to placate the audit the fed crowd, rather than meaningful reform IMHO.

        1. Morgan Warstler

          I’m 110% for a Fed Audit. I actually think the entire Fed Book should be visible in real time. When the true cost of government is known we will have less of it. Nothing serves the interest of business more.I’m not in favor of any new tax, but I’m in favor of tax offsets. Which isn’t hard. You just have to do it when the Dems are back on their heels. Trading, gas, anything that you want to limit… offer comparable reductions in corporate taxes.

          1. todd

            isn’t the theory that if the “entire Fed Book” was “visible in real time” we’d know just how fucked the big banks actually are, leading to less confidence in the big banks, leading to big bank collapses, leading to…more government? be careful what you wish for?

          2. Morgan Warstler

            no way. the country runs on start ups and small business. any hit would be overcome by the pure raw adrenal gland rush that would come from the unveiling.I’ll go further…. FDIC banks shouldn’t be able to sell off their loans. They should be boring long term players.It would lead to a whole new kind of “virtual local mutual bank,” where the rich laid $250K deposits into banks run by a guy from his house. With very little cost overhead, he’d be able to compete on loan rates.He’d make local loans, stuff he could sit on and watch, and his entire book could be exposed (like CoVestor), so depositors could see across all these local players, who was making returns and who wasn’t.The idea being here, the banks are Mutual – so at the end of each year, the banker takes a big chunk of profits and spreads it across the depositors accounts.

          3. todd

            And start ups and small businesses run on banks. So if by “the pure raw adrenal gland rush” you mean “a federal government bailout” then I completely agree.

          4. Morgan Warstler

            Um, don’t be daft. Money doesn’t all disappear – it has to be invested – it has to find return. And forcing banks to keep their loans on their books, leads to a race to cut costs of running FDIC banks. Which means virtual banks (direct deposit, ACH, ATM) with the only other costs being FDIC insurance.It removes far more than half of the stuff (our mortgages) that gets CDO’d from the fire, and brings rationality to finance.Finance is meant to be boring. Let the traders go back to stocks and bonds.

          5. todd

            Um, just so we’re not being daft, CDOs *are* bonds.

          6. Morgan Warstler

            gah. no they are not. 1000 mortgages packed into a newco and paying off monthly is not a bond. can you pls not nitpick me to death?The bigger argument is the fun one: FDIC bank should have to keep their loans on books. The only reason we deposit with them is safety, the federal backing. If they are going to get that advantage, then they should have to live on the boring business of how they loan they money out.This changes banking and trading situation overnight. I’ll argue for the better.

          7. todd

            Yikes! You don’t understand that a CDO is a bond?See, here’s the bigger issue: you make all these snide little comments about how the government is so awful, how the government is the problem, how the government ruins the economy, how the government is so stupid etc etc, but you show a huge amount of financial ignorance and a low amount of sophistication in not understanding that a CDO is a bond.Sorry for getting personal. But if you’re going to be so anti-government, please get your facts straight. I don’t think it’s nitpicking to ask for that.

          8. Morgan Warstler

            CDO:, I’m totally unsophisticated. You have an argument with the dictionary not with me.I do not make snide comments. apparently you do. again, focus on the idea please, explain specific cause and effect on the actual policy suggested.otherwise, why waste your time?

          9. todd

            Wow. Did you even read the entry you cited? It says “Collateralized Debt Obligation. Filed under: Acronyms, Bonds, Fixed Income.”I’m reminded of Murphy’s Law: never argue with an idiot, people might not be able to notice the difference.So with that, I’m done with this.

          10. Morgan Warstler

            my god man, for the purposes of conversation are you able to distinguish between a conventional corporate or government bond and a CDO created from a pile of mortgages? And then the multitude of stuff built out of them? The difference is clear in my mind.the question is why you think you are arguing. you aren’t making arguments. From go, you could have mentally made note of my distinction and focused on the the actual idea.but you didn’t. perhaps if you used a real identity you’d try harder to discuss the idea presented. maybe not.

          11. kidmercury

            in morgan warstler vs todd, i’m taking morgan’s side of the beef. whose side you guys on?

          12. ShanaC

            As mean as Todd the anonymous guy is- a CDO is a bond because of the way they are structured….or technically they are a debt instrument (which a bond is a type of). They both have regularly recurring rates of payoff, and can theoretically have their rate of return be calculated….

          13. ShanaC

            In that process- money can disappear. remember, money is only an intermediary to goods/services rendered. If money’s velocity slows down, it effectively disappears….And those loans are tied to the bond market- FDIC banks can and will go under because they will have to chase yield if the pro-rated interest of those loans don’t cover the cost of making them (see, now versus later cost of money as we understand the bond market…) It’s bad if too many banks go under, undermines the security of the idea of banking overall, no matter the idea of insurance…

          14. Morgan Warstler

            ShanaC, I’m not saying money supply doens’t go down, I’m saying it doesn’t all disappear. And once the what $600T in derivatives are unwound, the real thing that actually disappears is the fees from trading them.Look historically the argument for FDIC banks selling off loans they wrote was to free up the cash, so they could make more loans, the argument was this would reduce cost of borrowing. All true… in 1985.Also historically, the very best “community aid” style banks were mutual – the actual profits from loans are spread out over the depositors themselves.But we’re virtual now. So you can run a bank with very little overhead… no actual building, a single employee, everything digital…. so cost of money can be low, without selling off loans.So why not limit FDIC banks this way? We ALL still want our money in FDIC, so we get thousands of small local banks run by one guy who spreads out profits with depositors.Suddenly the rich, are placing their wealth across hundreds and thousands of local virtual banks – and we can all see which bankers are making good loans that perform and which ones are eating it. All FDIC insured. But the money stays local, the focus is on small business, on main street.It’s just an idea – I’m just tossing it out there for feedback.

          15. Mark Essel

            Sounds post worthy, distributed micro banking. Hit us.

          16. ShanaC

            I’m not totally sure if everyone will go for all their banking needs virtually- I do know there is one bank trying to do this.Sometimes you still need the human touch (like when my debit card got screwed up because of a system error…) I’m not sure if overhead costs will go away completely, or be deferred to some other overhead cost we don’t know of’s partially doable… definitely partially. I still wonder about the total cost of leaving debt on book or not on book. It’s not something done in a while, and would be a very experimental (and remember, the very rich are making money off our debt that is on their books, not ours…so theoretically you may be right, the downside is they may also lose that money too)

      3. Harry DeMott

        Cuban maybe right and he maybe wrong – but he always has interesting thoughts.In this case, what he is arguing for is a liquidity tax. When the exchanges went from large commissions and price increments in 1/8’s and 1/4’s and moved to fractions of a cent – volume exploded – and the only way to efficiently deal with all this extra liquidity was to let the machines do a lot of the work (remember all of these changes happened during the time when computer processing power was increasing in the heart of Moore’s Law).If you essentially go back to a $0.25 spread implicit in every trade – you remove a ton of machine trading (which are playing for pennies at a time) and force people to think longer term about owning a fractional share of a business – as opposed to renting shares for milliseconds.This is not necessarily a bad outcome – or am I missing something?

        1. NI

          Liquidity is paramount in all markets. If you push out liquidity (whether from HF funds or market making desks/brokers) due to higher transaction costs, all market participants are penalized. Traders will be forced to hold positions longer or trade less, so how does that help everyone else who needs to buy or sell for a slew of legitimate reasons? Less trading/thinner volume leads to more volatile markets. If you don’t believe me, simply look at a market during the holiday’s or other periods where most traders are away from the office.All asset managers, including the mutual funds and ETFs managers that many people hold in their accounts, would simply pass along any extra fee’s to the client and we would all be paying multiple indirect and direct costs. Similar to why it’s in everyone’s interest to have a liquid secondary market for stakes in private companies, it’s a good thing to have liquid markets for public companies. There needs to be regulation to ensure the machines and larger players in the market play by the same rules as everyone else, but if you price them out, you end up doing a bigger disservice.In my opinion, a large part of the 2:45 crash was due to humans turning the machine’s off (and the liquidity disappearing). Everyone was already on edge due to the uncertainty in Europe, so as soon as people got spooked, they ran for the exits. It only proves that liquidity should be preserved.

  13. steveplace

    Thanks for the mention, Fred. 5/6 certainly was an interesting day, and I’m still trying to sort out all the voodoo. It appears that some HFT firms hit their circuit breakers and stopped trading, pulling liquidity out. I’m certainly looking forward to the trading opportunities coming this summer.Completely agree about a pseudo-public market for firms to sell equity. Liquidity encourages price discovery– and the sooner that happens, the sooner people will stop arguing about how much facebook is *really* worth.

    1. Mark Essel

      It’s always cool when Fred share’s another great blogger. Going over your post now, 😀

    2. fredwilson

      i’m wearing my “i survived the crash of 2:45pm” t-shirt todaythe stocktwits team sent me it at my office yesterday

      1. howardlindzon

        so funny.

  14. Joe Siewert

    I seem to recall another situation where machines, programmed by people, had some undesired results.Ahh, here it is:

    1. Mark Essel

      Hahah, I don’t have to click to know-> perfect Joe ;)ba dum bum bum bum”I know now why you cry, but it is something I can never do”

  15. jonsteinberg

    Couple thoughts: I’m first of pretty sure it’s impossible to short 16 billion shares. A “b” would only be in the mix if a buysider IMed (which is common) a trading desk to make the trade and the trader then entered that order. In which case, I’m not sure a even derivative can execute in the quantity. I don’t buy that story at all.Second, if startup liquidity comes from DST deals, or even smaller second market transactions, the buyers will need to feel they can eventually get some liquidity which returns to the public markets question.

    1. alphaG77

      Hi Jon,Not trying to sound too controversial here, but in my opinion DST is the best possible investor/shareholder a company could ever hope for – these guys are no different than the other Russian oligarch tycoons who were born out of collapse of the soviet union in the early ’90s. I’m not entirely sure that they need or require a return. Owning facebook or twitter for them is like owning a 400 ft. yacht or a faberge egg. It’s a landmark and a claim on something that is American.

      1. Leland

        So true. Funny how money is very frequently not the fruit of hard work, but instead, the fruit of being in the right place at the right time with the right sort of background.

    2. fredwilson

      they can trade shares with each other. i’ll buy the FB shares DST bought at $9/share.

      1. jonsteinberg

        Really need a lot more liquidity than now exists

  16. John Minnihan

    An observation, about this & other recent events: will we ever be sufficiently removed from the context in which these events occur to objectively analyze (or even fundamentally assess) both their cause(s) & affect(s)?Without that, we’ll continue to attempt to manage things in ways that result in more things that we attempt to manage, resulting in more… well… you know.

    1. Mark Essel

      We can’t stop trying John, it’s in man’s nature to want to fiddle with things and map nature into systems we “understand”.Hundreds of years from now, people of the future may laugh at how wrong we are about science and medicine but they wouldn’t have achieved their level of understanding without us plugging away.

  17. David Semeria

    The returns in startup land come mostly from taking nothing and turning it into something. – Fred Wilson.Art is making of something out of nothing and selling it – Frank Zappa

    1. Mark Essel

      And there are droves of poor struggling artists. A keen eye, and a steady hand are our most valued assets.

      1. David Semeria

        The implication from the two quotes is that entrepreneurship is a form of art.

          1. Mark Essel

            Nice Shana 🙂

          2. fredwilson

            yeah, i like that piece she blogged

        1. Mark Essel

          Of course. Just adding that the number of founders who don’t succeed greatly outnumbers those who do.

        2. Dave Pinsen

          I vaguely remember from reading Dante’s Inferno in high school (John Ciardi’s translation) that there were “sins against art” and that by “art” (or whatever the word was in the original Italian), Dante meant business. I.e., art –> artisans –> craftsmen –> creativity –> creation –> commerce — something like that.

        3. fredwilson

          that’s what i took from it david. nicely done. and anyone who quotes Zappa is doing a good thing

    2. howardlindzon

      if you catch it…see a doctor and get rid of it!steve Martin

  18. Julien

    I agree with u guy, for working for 5 years in investment bank on the IT side of the trading, i can tell you that machines do the main part of the job, actually algo which are put in these machines. And when the code goes wrong, we all depend on the limits.As Kerviel pointed it traders are in a virtual world, these games are no more than evolute gamers. 30% of the structure is rotten and has to be revamped. Of course bankers do not want the revamp as it would mean less money, less assets in their personal portfolio. I said it and will re say it, these guys creating trading automatons do not bring any value to the economic system. How can asset’s valuation vary from 70% from a year to another one ? there is strictly no way it happens on a wide range of asset. Some guys are just pocketing in the difference.Assets should be correctly valued and derivatives should only serve hedging purpose not speculation.

    1. Tereza

      It makes me sick to my stomach picturing my hard-earned water-from-a- stone market value taking a huge hit because of a programming glitch in a virtual game.If P&G and Accenture are not immune I shudder to think how exposed the rest of us are.For years various banker friends have smugly noted to me that their systems are vastly superior to all else and that outside-the-industry insight is useless and inferior. Mine is mostly media, CPG and services.I spent some time last fall doing some front-end business requirement collection at one of the bulge bracket banks. A system their corporate clients interact with daily. (Yawn. Have to pay the bills somehow)It was my first time in a bank and I have to say I was speechless at the lack of sophistication and investment in the system. One that their clients use. For years they paid out huge bonuses but not invested in systems.It’s smoke and mirrors, and it’s broken.And the pricing and access distortion it has created in my local life (housing, schools) remains out of control.I’m all for rabid pursuit of wealth. But smoke, mirrors, virtual games and entitlement attitudes are wrong and not sustainable.

      1. jim

        If your value can take a huge hit because of a programming glitch, I wonder if it should really be considered “hard earned”? Or “value” for that matter.

        1. Tereza

          well, it felt ‘hard earned’ to me, when i was earning it.does that not count?

          1. Leland

            Tereza, all people have a different frame of mind when thinking about the value of a dollar. 🙂

          2. Tereza

            Yeah. Tell me about it.

        2. Leland

          This value is different on the stock market because the value of a dollar is different to the people who trade there.For example, most people understand the value of a dollar based on how much time they have to spend making it, and how much utility they can get out of it. However, on the stock market, dollars turn into virtual numbers that, frequently, were not directly earned by the people, and increasingly, the programs, controlling them.The stock market follows the mind set of the majority of it’s users. On the whole, those users do not directly earn the money, and do not have a sense of “value of a dollar” necessary to act according to Tereza’s feelings.Mark made an interesting topic about the value of a dollar on his blog recently: “http://www.victusspiritus.c…”

      2. robertavila

        Hubris is a marvelous thing…

      3. Joe Siewert

        It’s all just duct tape and glue behind the closed doors.

        1. Tereza

          Yes.I walked in happy, excited to learn some “best practices”.I walked out disappointed and angry.Oh, and the art on the walls was exquisite.

          1. Joe Siewert

            Haha, yes, may I direct your attention to the fine art, pay no attention tothe man behind the curtain.

          2. ShanaC

            Don’t you know, you can make art out of the man behind the curtain and the ducktape….

      4. Dave Pinsen

        You can protect your portfolio with Portfolio Armor. I did. Of course, it’s a lot more expensive to buy protection now that the poop has started to hit the fan. I made that point in a recent post, albeit with a cleaner analogy: “Buying umbrellas when it’s sunny out”.

        1. alphaG77

          Dave,When did you launch Portfolio Armor? I pitched this exact idea to some folks back in the beginning of ’09, only the idea was to try and match all of your portfolio’s positions with a portfolio of puts – all you would have to do would be to select a total amount % of loss you were willing to incur for 3, 6, months, and 1 year out. At the end of the day, though, you only need to buy puts options against SPY or another major index ETF to protect most 401k or “retail investor” portfolios regardless of their composition. Also, what prevents a Charles Schwab or E-trade from offering something like this tool to their clients for free? [That was the one of the objections I kept getting] Anyway, nice execution. I see you are running this as a subscription business? Are you associated with an SIPC licensed firm or an RIA? Have you considered partnering with one and offering the service for free and instead make money off of either a slight markup to a limit order spread on put options bought by finance professionals using it or perhaps on percentage (perhaps very tiny) of portfolio value insured to date. The latter model would essentially be percentage of the spread between aggregate market value of holdings and the aggregate sum of share weighted strike prices.

          1. Dave Pinsen

            The site launched earlier this year. Investors can use it to hedge individual stocks or index ETFs like SPY. Buying puts on SPY or other index ETFs (e.g., DIA) does hedge an investor against market risk, but puts on individual stocks are useful when they want to hedge against the idiosyncratic risk of those positions.The algorithm that Portfolio Armor uses is proprietary (it was developed by an all-but-dissertation finance Ph.D. candidate) but I suppose a discount broker could try to develop a solution independently. Or they could just license it from me.I have had conversations with the head of a regional Midwestern broker/dealer about a partnership, but that will probably be more of a conventional affiliate relationship.I do think it would make a lot of sense for a large discount broker to license this or pay a bulk subscription fee and offer Portfolio Armor to its clients free. They would make multiples of the subscription fee in new options commissions. I’m sure there are a lot of investors out there who want crash insurance and would buy it if someone simplified the process for them. Portfolio Armor does that.You just enter the symbol of the security you want to hedge, the number of shares you own, and the most you are willing to risk seeing it decline, and Portfolio Armor shows you the optimal put option contracts to buy to get you that level of protection at the lowest possible cost.Getting in front of the right folks at a big organization can be a challenge though.

        2. Tereza

          dave you should take advantage of the current moment in the environment to do a big marketing push.get some testimonials of your clients/users who saved X on THURSDAY because they were using Porfolio Armor.It’s top of mind and you need to strike while the iron is hot.Then find people who got hosed on Thursday and send this to them. This may mean placing an ad (I don’t usually like dumb banner ads, but…) on a site or sites where they frequent.Or do an adly where financial folks say “damn, i’d still have $XX in my accts if i’d used Porffolio Armor (w link)””

          1. Dave Pinsen

            Good ideas, Tereza, thanks. I’ve got some testimonials on the site, but it might not be a bad idea to target some marketing now too. The economics of PPC ads are tough though, particularly in the financial space, where the ad rates are high.I like the 37 Signals approach of generating new customers through blogging, and I’ve done some of that, but it would be a huge boost to get exposure on a blog with a big readership. The big blogger could become an affiliate and get referral commissions so it would be a win-win-win (one of those wins is for the subscribers, who would be able to protect their portfolios).

          2. Tereza

            Send some direct notes quickly to a bunch of those bloggers. Must be clear, concise.Also, sounds old-fashioned but can you write an Op Ed?

          3. Dave Pinsen

            Bloggers I will hit again. Not sure how op/ed page editors would feel about an op/ed that is sort of an advertorial though. I do have a journalist friend I’ve approached about writing a piece on it for a financial adviser industry trade mag though.

          4. Leland

            I agree Tereza. Dave, craft a personalized message to influential bloggers/journalists and pitch to them the real value of your system and how it can help protect people in the market. If your argument is common sense and genuinely helps people who might read their blog, they will spend their time championing your idea.Just keep it personal and truthful and your message will go a long way, even through word of mouth alone.

          5. Tereza

            Have a “crisis” marketing plan at the ready, when this happens again — a list of targets and a pre-crafted message that you can just alter with the facts. The core message is the same.And I’m pretty sure this will happen again.Be ready to pull the trigger.

          6. Dave Pinsen

            That’s a good general idea. Your wheels are turning. BTW, my SRS post for you, in advance of seeing her show tonight: Everyday Rapture.

    2. Mark Essel

      The only way a fair market can function is for their to be a transparent layer of sanity between artificial inflationary forces. Supply and demand works great for physical goods, but there are some serious fluctuations in the perceived value of information. We could use some stabilizing forces in prices, but so far regulation has proven to be dumber than an absolutely free system. How do we protect the earnings of real social wealth from expert market systems (parasites?)? Is there even such a thing as intrinsic value?My thoughts here always come back to the same point, our financial estimation systems need an overhaul.

      1. Leland

        Information DOES have an intrinsic value.However, many times, the value is directly related to the situation, culture, and ecosystem that the knowledge exists in.For example, the knowledge of this month’s hottest fashion trends has value to a Hollywood celebrity, but probably has a value approaching 0 to a man stranded in the desert with no water.However, to that man in the desert, the information about where the nearest oasis lies is probably bordering on infinitely valuable.Thus, I believe there are good reasons for the constant fluctuation of the value of information.

    3. fredwilson

      i reblogged a bit from this comment Julien on

  19. Jim Goodlett

    Fred, et. al., not understanding why anyone would think that a majoritive of trading was NOT done thru algos that analyze the variables and make the plays against other comps and the lone wolf traders who think they have the market cornered on research…reminds me to a degree of the chumps that bid on eBay items vs those using a high speed computer to computer transaction tool like that guarantees you will win the auction’s product as long as your max bid amount is the highest…doing it otherwise are for the newbies…tangential comment in reverse to the trading we saw yesterday…

  20. Morgan Warstler

    It was horrifying. Sitting there hitting refresh over and over on GOOG Finance, listening to Cramer demand people go buy P&G.Anyway, here’s a good place to raise the issue… the non-IPO market and the lack credit leads to an obvious VC play: GOV2.0. I’d encourage folks including Fred to see the series I’m working on for Big Government.…None of the productivity gains that have happened in private economy (which have lead to doing far more business with far fewer employees) have occurred in government.The VC industry should be lobbying and placing their dollars on whichever party agrees to API the government and allow its processes to be updated and replaced by start-ups.In fact, I’d argue we wouldn’t be in tis situation today if the Public Sector had seen gains of 5% productivity per year for the past 20 years, like the Private Sector has.We’d be carrying a surplus right now. It is unacceptable for the VC class to seek hyper thin efficiency in their private plays and SHRUG when it comes to SS, Medicare, Education, and the Post Office.

    1. kidmercury

      “It is unacceptable for the VC class to seek hyper thin efficiency in their private plays and SHRUG when it comes to SS, Medicare, Education, and the Post Office.”agree 100%. i’d like to add federal reserve reform to the list. that’s the best one IMHO, because seconds after ignoring that they will complain there is too much cheap money. lol

      1. Morgan Warstler

        +1 It terrifies me because sometimes Fred reminds me of Jeff Immelt… the difference is Immelt has to suck up to the government.

        1. fredwilson

          man, that hurts. Jeff Immelt???

          1. Tereza

            That would suggest that Fred’s moving up to New Canaan, the land of pink and green.

          2. fredwilson

            Never gonna happen

          3. Tereza

            Can’t see which comment that was for. But my finely honed women’s intuition tells me it was about NC

    2. fredwilson

      i agree Morgan. although my vision of gov 2.0 may not be the same as yours

  21. Tom Hughes

    Financial deregulation in developed markets, combined with larger forces that propel globalization and cross-border capital flows, kicked off a wave of innovation in finance; I think it’s a safe prediction that the pace of innovation in that area will slow way down. Thursday’s shenanigans, combined with the 2007-2009 Great Recession, and the debt implosion in the PIIGS — all these will support a re-regulatory narrative.Innovation on the web was and is enabled, in part, by thorough-going deregulation of telecommunications (a trend less likely to reverse, I think, because of its popular support — politicians will run against credit-default swaps long before they run against your mobile phone). Obviously a lot of forces combined to create that wave of innovation, but deregulation was one of the necessary ingredients. I wouldn’t be watching YouTube on my Droid if AT&T were still a monopoly.What’s the next frontier of deregulation?

    1. Mark Essel

      Human rights 😉

    2. ShanaC

      Here is the thing- there is a comment by Fred somewhere around here back in 2004 about most bottom things, we’ve built, including databases. Today MongoDB is in USVs portfolio.I think we built out a massive wave of financial innovation. It took nearly ten years to process the idea that computers belong in the trading room (during the 70s) And then ect, ect….And I think we are still really processing this one. I think oddly, the next big thing is going to be solving how the networking really works- the money will be made by understanding the networking of the market.

    3. Leland

      I like how you said deregulation in developed markets instead of saying “all” markets.I’m a firm believer that developing markets in smaller countries should be protected completely by the state until they are ready to compete with global firms. Globalization is a good thing, but only when it is not forced by the first world nations onto nations that cannot compete with the massive amount of imports coming into their country.Is this your train of thought as well Tom?

      1. Tom Hughes

        I was observing that deregulation is one of the ignition ingredients for most modern innovation; whether the resulting innovation is good or bad, I’m not so sure. Deregulation is one of those things that moves in waves and we’ve been in a general post-Great Society, post-Communism wave of deregulation and privatization since the late 1970s. Arguably, if “Communist” China and India continue on their current paths, that trend has a long ways to go, even if it stalls or reverses in the developed world.I guess I subscribe to the idea that blind, dogmatic subjection of emerging economies to developed-world capital markets is not always a positive. This seemed to be the emerging consensus after the ’98 collapse of Long-Term Capital Management. But looking at 1998 through the lens of 2008-2009, was the LTCM problem really the vulnerability of emerging markets, or the illusion of invulnerability that captivated the Masters of the Universe?Maybe Meriwether and his band of Nobel prize winning economists — like AIG, Goldman, and others of recent notoriety — were figuring to privatize gains and socialize losses. (Emerging-market bonds and stock playing the role of subprime mortgages and credit derivatives.) In this reading, the problem of 1998 was not loose regulations on countries like Malaysia and Thailand and Russia that were hit the hardest, but loose regulation on regions like Greenwich and Mayfair in London, where the predatory hedge funds live in a cocoon of government protection!In any event, many of those emerging economies got smart, strengthened their balance sheets, reduced their exposure to confidence-sensitive hot capital (hence the re-regulation), and that’s why 2010 didn’t hurt them as badly as 1998 — which is strange if you think about it, since the “real” economy in their customer countries (that would be us) was hurt much more in 2008-2009 than in 1998. If only Greece had been paying attention…

  22. Mark Essel

    Our current market turbulence appears like thousands of competing chess programs blasting away with enormous complexity. If the market is really out of human hands (on a per trade basis) are we really in control of value any longer?Private equity is safe for now from automation and funds, but I think it’s naive to expect our most powerful predictive systems from having barred access to private liquidity. I expect Digital Sky Technologies doesn’t invest purely on human instinct, but has automated techniques for identifying “must own” trending companies. The cool thing for me is seeing the money go where regulation isn’t.

    1. Joe Siewert

      “are we really in control of value any longer?”I think we’re just along for the ride.

    2. fredwilson

      DST invests in thing Yuri thinks are good bets. he is not a machine, at least i don’t think so.

      1. Mark Essel

        Thanks for the personal touch. Interesting to see hunch based investing at that level. Maybe he works like Warren Buffet. Can’t beat consistent performance.

  23. cyanbane

    1.) The machines decided to buy because of human actions/influence.2.) The people (Cramers, etc) decided to buy because of the mechanical response.What happens when the code is smart enough to cause #2 just to get a variation? or is that the secret sauce to all these algos? (sorry I’m an HFT noob).

    1. ShanaC

      Me too, but I supsect secret sauce. Psych and Sociology will tell you- it’s all correlation. At some point, the machines will die!!! (because we’re oddly random)

    2. Leland

      Algorithms to predict and act upon #2 are already in place and being used. This sort of AI is not difficult to code. The only limiting factor is how much capital the computer has to push around the game board.Also, humans are very clever creatures, and sometimes the mathematical models and algorithms these programs are based on can be exploited once the trader recognizes the machine assisted pattern.

      1. cyanbane

        Got any good techcentric links/book suggestions on the topic?

        1. Leland

          Well, I have never looked into it, so I don’t have any suggestions. However, going on a search for AI programs related to social media would be the place to find the solution you might be looking for. My comment was based on my own personal experience working with related AI systems. By using the social APIs that currently exist (twitter, facebook, and others) and feeding the data into a FSM AI program (or you could use something more robust like a fuzzy AI script / generational learning script) one could easily come up with something workable. The difficulty would lay with tweaking the parameters correctly and keeping the existence of such a system out of the public eye.Just by knowing the fact that a system exists to aggregate social data and plan high frequency trading based on real-time data will inevitably change the trading patterns of those affected, which could throw the system out of balance. However, as long as the majority of public traders do not know about your system, you could theoretically juice the predictable (usually) herd mentality of our markets.As a disclaimer, I am not a professional in the stock industry, and I may be leaving out important information in my brief analysis. ^__^

  24. Brian Dosal

    The market crashed? Exactly… Good summary post on yesterday.

  25. howardlindzon

    finally, fat fingered people are getting the exposure we deserve after years of being ridiculued.thanks for the post Fred. I think Stocktwits showed it’s true value again yesterday as a social and emotional stream to connect people in a niche where everybody is passionate. In general, it’s an idea network, but while Yahoo headlined the plunge as dizzying 20 minutes later, we were already on to all the opportunities and issues and wonderment of wtf just had happened.The stream just brings context and processing by real people in real time.

    1. Mark Essel

      At the very least there’s over a hundred thousand folks who can drown their sorrows together.Did anyone in Stocktwits win big yesterday? Always looking for anomalous patterns and the mysteries of their actions

    2. kenberger

      that’s exactly right– Stocktwits had a real shining moment here, providing real-time reason and light, amidst hysteria and darkness. That alone is enough, but it also brought actionable insight to boot. True value indeed.

      1. howardlindzon

        exactky. we will get better at connecting like mionded and oppositethinking people and surfacing the best’s american idol of finance every minute.

      2. Dave Pinsen

        These were two I shared on StockTwits Thursday morning that have worked well since:# Another new short position, $HGSI:… 11:21 AM May 6th via web#New short position, $PXP:… 11:20 AM May 6th via web

      3. Leland

        About Stocktwits…. is real-time all that useful for the average stock trader? With real-time micro fund management being handled increasingly by AI programs, I feel it is in the best interest of most people in the stock market to use their gut instinct and long term experience to predict the true value of a stock.Day trading is done by AI programs, not people. So where does Stocktwits real-time fit in?

        1. ppearlman

          Leland,As long as humans are involved in markets (and humans are still the ones programming artificial intelligence and quant strategies) there will remain significant market inefficiencies and as a result trading opportunities. This is as simple to see as changes in volatility measurements such as the $VIX (ie: the volatility of volatility).The best on StockTwits who can be found on the Suggested stream here:… contribute a ton of value and wisdom across time frames and asset classes. They provide a measured and experienced tone even while many lose their bearings during periods such as the present one.StockTwits is NOT just for short term equity traders. We produce incredibly high quality content for market participants across asset classes and strategies.If you are a value investor, guys like @ToddSulivan are second to none. If you are focused on Forex, you will learn endlessly from people like @KevinMHughes and @RagheeHorner.If you interested in price behavior or technical analysis over multiple time frames. Fugghetaboutit, there is no better place to observe and ask questions than the charts stream and….Guys like @Alphatrends, @TraderFlorida and @WeeklyTA are pros, tireless and most often generous in responding to the questions of others.If you are looking for trade ideas or to learn, regardless of your strategy, there is so much happening on StockTwits. Take a closer look and you will see what I mean.

          1. Leland

            Thanks for your well reasoned reply. I am not a trader, but I can see now where stocktwits fits in.

    3. Dave Pinsen

      Good point about the value of sharing ideas in real time. The key is being able to find the best, actionable ones.

    4. William Mougayar

      Notwithstanding the fact that Stocktwits was an excellent showcase and proofpoint for the value of connecting people in real-time, I sometimes wonder if all this hyper-activity is any good or sustainable for the long term. Real-time puts everybody on steroids and caffeine. Good and bad.

      1. Leland

        I absolutely agree with you here William. Real-time is good, but oft-times i just don’t care about the real-time stream.Many actions in our lives do not require real-time information, and paying too close attention to the real-time stream as you said can cause information overload and a decreased capability for inflection and long term thinking.

    5. fredwilson

      real time stock chat is what stocktwits invented and that is your greatest asset Howard

  26. kenberger

    New post idea: more about secondary markets, “class FF” shares, etc. This is a HUGE aspect that wasn’t really around in prior venture cycles (was a boutique business until recently), and changes so much. We really need your amplification here, Fred!One point is the fear that it can encourage unworthy behavior. Some entreps will enter, knowing that they *never* need to figure out how to make money, since they can get a decent payout way before the finish line.Looking fwd to that post (or series) (I feel like I’m making a request to the piano man 😉

    1. fredwilson

      sing me a song, mr piano man!we don’t use class FF shares. so i don’t think i am sufficiently clued in to talk about them

  27. Andrew Stern

    If we learned anything from five seasons of Battlestar Galactica, it’s that eventually the machines will attempt to take over and kill us all.

    1. Aviah Laor

      all these movies know nothing about bugs. Their server will fall in the most crucial moment.

    2. Donna Brewington White

      …and don’t forget the Matrix.

  28. sweller

    I think this is all a misunderstanding. The ‘b’ was for ‘bailout’. 😉

  29. HowieG

    The market has averaged through the mid-90’s 7.9% returns a year since the 1929 crash. Which was the highest return for any investment. If you look at the Dow in segments certain things you notice. Flat during war times. Also if you told someone in 1983 how fast it has risen since then the traders then would think your hocked up on LSD. In 1983 the Dow was 822. So it was way overvalued at 14000. Based on historical perspective it is not undervalued in my opinion. But markets do not behave rationally because people are not rational and as long as people are willing to buy above value or below value we will have volatility.As Fred mentioned money is cheap. Yes money is too cheap. The amount Governments have to give in interest is way below the risk of the instruments. But the market views other investments as riskier. Thus the disconnect. But beware because no one said the US or other countries can’t default or have to devalue their currency. This could happen.

    1. JLM

      Money is too cheap?I actually think that there is almost no money available for small businesses and medium size businesses but it is NOT available at a nominally lower price.No loans at 5% and now no loans available at 3.25%. There is not a “cash flow” lender open for business in America today.I have literaly raised or borrowed over a $1B in my life and this is the worst market I have ever seen for basic business cash flow lending.The banks are under the tyranny of the examiners like never, ever before. The administration thinks they are in charge of fiscal policy when in reality it is being set by bank examiners in short sleeve shirts with clip on ties.Ask your banker what their policy is on “cash flow” lending and see if I am not right.This is why there is no job creation.You literally have a better chance of winning the lottery than getting a cash flow loan.I have recently had banks tell me that they cannot even lend me the money I have on deposit because of the classification as a “cash flow” loan.

      1. HowieG

        Money is not cheap for small businesses and people. Only banks actually. And what they are doing is borrowing at really low rates and investing them in places with safe returns that bear higher interest. This is called the Carry Trade. And it sucks for the average person. It is a money machine until rates rise.Problem is in the past Banks would lend to people/businesses when the rates to them were so low. Now they aren’t. And if the Fed forced them to the GOP and Free Market Folks goaded on by the Banking Industry would scream Marxism, Socialism, and Communism. Bad catch 22.

        1. JLM

          “Money is not cheap for small businesses and people.”Substitute AVAILABLE for “cheap” and you have a winner!Banks should perform certain actions — make loans up to 80% of deposits — to be able to obtain and maintain a charter as a commercial bank and to be able to enjoy FDIC insurance on deposits.

  30. JLM

    We live in a world of paradoxes which have now all come to be unsnarled and resolved at the same inopportune time.We (not you and me, but the collective of which we are a part) have allowed good ideas to spin out of control and to multiply like a cancer such that the good becomes bad and is on the verge of killing us all. The spice curse — a pinch makes a savory stew and a handful makes it poison.We all know that the housing bubble was created by fundamentally unsound principles — providing enormous credit to fundamentally uncreditworthy folks. Liar loans. No doc loans. Who really cares whose fault it is, it happened.We allowed these flawed loans to be chopped into grotesque triptych wastrels and then lied to ourselves that one of these ugly little bastards could actually be of noble birth — the rating agencies applauded our daring and wisdom and the insurance companies placed their imprimatur upon them and all the time we KNEW they were the illegitimate spawn of 27 year olds with mousse in their hair.Now we see public markets which were created to provide an orderly auction place for calm patient shareholders to be manipulated into crack houses of trading frenzy. This is not why they were created. Naked short selling, no uptick rule, even short selling, computerized algorithm driven trading is not why companies list their shares on public exchanges. And remember it is the companies themselves who make the decision to list their shares on the public exchanges.It is time to get back to simple, orderly practices which enhance the transfer of ownership between investors not opportunistic traders.Companies should be able to control the markets which are made in their stocks rather than traders.Management, of public and private companies, should focus on creating great products and building great companies. The valuation of their stock should be influenced almost exclusively by how well management is able to discharge this responsibility.In private companies, nobody should be able to go to the pay window until everybody can go to the pay window. A pox on those who express entitlement to be first in line.Banks should actually lend money and, if not, should lose their charters and FDIC insurance. A bank should have to be 80% loaned up to receive the protections afforded banks.The government has to declare peace on the entrepreneurial class and should stop penalizing success and successful people. We should collectively glorify business success as it is the only way to create JOBS and we desperately need jobs right now. Almost 1 in 5 of our countrymen are out of work and nobody really seems to be concerned.Government has to stop stealing the labor of hardworkers and giving it to those on the couch. What kind of government calls a check to a guy on a couch a “tax cut”.We all need to simplify and get back to the basics of life.Marry your college sweetheart, be kind to your parents, learn to dance and wear sunscreen.Orderly markets are the result of order in our lives and right now it is in short supply.But, hey, I could be wrong!

    1. howardlindzon

      insanely good stuff.

      1. fredwilson

        JLM is the man howard. he takes commenting to a new form of art. i just love his stuff

        1. Tereza

          Yep, JLM’s the one to beat. Establishes a very high level of play.I covet his Points-to-Comments ratio.Not that I’m tracking it, or anything…

          1. JLM

            BTW, I notice that my “likes” have been stuck on 144 for a couple of months. I wonder what is up with that?

          2. Tereza

            You sure? Are those the ones you’re doling out, or getting?

          3. JLM

            Either way it has to be amiss cause I am very, very, very easy when it comes to my doled out “likes” cause there is so much to like. It seems to be stuck on a “gross” for some reason.I figured there must be some tax implication or other. Isn’t there something in the health care plan about that?

          4. Tereza

            LOL.Like too many things and you will PAY!

          5. fredwilson

            Those are the ones you are doling out JLM

          6. Tereza

            Disqus’ syntax is confusing and I’ve seem some of our highly intelligent commenters thrown off by it.When you look at your own profile, “Points” means Likes you received from others. “Likes” means ones you’ve given out.

          7. obscurelyfamous

            I can see where that can be confusing. We’re refreshing this part of the default theme and it’s much clearer. Thanks Tereza.

          8. ShanaC

            Really? didn’t realize that…

    2. raycote

      YES! Financial innovation is all too often a euphemism for gaming the relationship between paper assets and their theoretical isomorphic mapping onto the underlying tangible goods and a services that supposedly give those paper assets substantive value.Our under regulated, predatory, financial industry is choking off capital allocation that should more productively be directed at the real economy.Bring on the organic-process-literacy and let us get on with dancing to networked realism.

    3. Donna Brewington White

      “The government has to declare peace on the entrepreneurial class and should stop penalizing success and successful people. We should collectively glorify business success as it is the only way to create JOBS and we desperately need jobs right now.”I scrolled down hoping you’d turn up and, once again, was not disappointed. If you run for president, you have my vote.I’m in your grand ole state for a hot minute, but I imagine that Dallas and Austin are light years apart.

      1. JLM

        Ahhh, Darling, you are technically right that Dallas and Austin are both geographically in Texas but Austin is in a whole different place.Austin is the only place in Texas I could ever contemplate living.

        1. fredwilson

          Its the only place in the US outside of NY, LA and New Orleans I could ever contemplate living

          1. JLM

            Charleston, SC — fabulous food city with a great warm humid southern feel that awakens the wickedness in all of us. Feast upon the Low Country in the courtyard of the Planters Inn then lanquish in the arms of your beloved under the lazy ceiling fans. This is where sin, delicous sin, recharges when it feels the urges.Of course, I could be wrong!

          2. Tereza

            JLM when in Charleston do you own or do you rent?LOL.Please don’t answer that.

          3. JLM

            Now, now — I have been happily married for 31 years though my beloved wife scores it at 29-2 with only 29 of them happy. She says the two years when I tried to retire when I was 45 were a bit spotty. But she’s a very tough grader.But there was a time, back in my prime ……………Of course, I actually think I am just closing in on 26 years old mentally just now. Who really knows?

          4. Tereza

            Now that sounds more like it.Some days this place is like a locker room, other days like a pickup basketball game. Some days like a really good cocktail party. Today is a fun cocktail party.Hope you guys have fabulous things planned for your wives/mothers for tomorrow.If not, get crackin’!I trust my husband is very busy himself at the moment planning something fabulous, given that I’ve been chasing my girls around all day.Enjoy!

          5. Donna Brewington White

            Happy Mother’s Day, Tereza!

          6. ShanaC

            If this is you at 26 then how old am I???

          7. Donna Brewington White

            Tereza!(but I’m still laughing…)

          8. Donna Brewington White

            You’ve got a bit of F. Scott Fitzgerald in your soul, I think.

    4. fredwilson

      you are not wrong.that is the contract for america, right therecan we convince you to run for senate JLM?

      1. Tereza

        Seriously. Even when I disagree with him, I like him.That’s a gift.(and well-practiced skill)

      2. JLM

        If it flies, floats, fornicates or votes — rent it. It’s cheaper in the long run.

        1. Tereza

          I’d boost your score to 145 for that but I’m on iPhone email.

  31. growandmake

    Last week I read a scoble post which suggested something along the lines of we are witnessing the arrival of a skynet or terminator type of global intelligence through cloud computing. At the time I dismissed it as more scoble near-jerk opining. However, the fact that the market was driven so radically by a collective computing ‘hive’ seems to reinforce the notion that we are witnessing a new type of inter-operable intelligence emerging from networked computers. This time it was fairly benign, but it does give me pause to think what we’re going to see in the next twenty years in other domains.

    1. Aviah Laor

      in many SciFi the “skynet” like machines want to rule. But if it will evolve from FB we will just have a giant salesman. And a new class of shields against financial markets scheme: “the computer ate my analysis”.

  32. Christian Brucculeri

    Great to see your thoughts on this- thanks for posting.There was a lot of discussion in my personal circle about a mistake that was made on a P&G trade, but no much discussion about how trading is run between machines and how evident that became this week. It’s not necessarily a bad thing, but it’s certainly gut-wrenching to watch billions of dollars in market capitalization evaporate in a matter of a few minutes.At a minimum, I feel for anyone at Accenture who watched their stock disappear.

  33. scottsemple

    “If you take hard work, sweat equity, and a few million bucks of startup capital and turn that into a business producing $5mm a year of cash flow, then that is value creation of the old fashioned kind and it will work in any market environment.”And some of those companies are large enough to be publicly traded on the major exchanges. The trick is finding them and filtering out the hype.

  34. Donna Brewington White

    Once again, sane words in the midst of madness. This post belongs in the “best of” collection.”…but it may be indicative of things to come (as markets tend to be) and it is worth figuring that part out.”Hopefully you will do a follow-up post on any developing thoughts.

  35. Leon Liebman

    One’s focus should be on the capital destruction going on in Europe (and being widely recognized elsewhere). However it is packaged the Euro’s “southern problems” plus Ireland will destroy a big slice of the value of their bonds held by (mainly?) European institutions. The behavioral impact of these events will cause people to step back from “optimistic spending” and slow general European growth. And it will constrain European banks’ lending practices. As this happens it will take away from US growth (lower exports). Will it be a sufficiently large hit to materially slow our recovery?Also, the destruction of capital from the fall in bond values may hurt equity markets. A result may be that it will probably make institutions and investors more careful about investing in early stage opportunities. Some deals being considered will move onto the back burner. And less available capital will raise the cost of money when it is available. Increasing taxes in many countries will have the same impact.I can’t see how anything significantly positive can come out of the current adverse situation.

    1. fredwilson

      i agree with you Leonbut i do think there are many positive things happen in venture portfolios right now

    2. JLM

      Almost without exception every troubled country is a proxy for an underlying economic philosophy and if we are smart about it, we will pay attention to the implications of these lab experiments.There is some tough love and harsh medicine to be doled out here but we are all seeing the implications of penicillin v phen-phen.Make your choices and take your chances.

    3. Leland

      Leon, I think in a future comment like this, it would be helpful if you appended the source of your ideas to each point. Seeing some research/news that backs up your statements would be very helpful for those of us attempting to understand the current state of the economy. 🙂

  36. William Mougayar

    In my opinion, the very root of these types of over-reactions is the US debt and the fact that every once in a while stock markets go through a flush (or correction) that bring people (and prices) back to a more grounded level. This flush was a bit unusual in how it manifested itself. Back to the US debt and the still complexity of financial instruments that can continue to trip us,- increased inflation will be the only way to gradually decrease that debt burden on the American people. So, the question might be: will the return of inflation be good or bad for venture capital and start-up companies?

    1. JLM

      Inflation will be very good for folks who are using OPM and getting a slice of the equity. This has always been the case.A slice of inflated dollars — big or small — is more likely than having to return the “real” buying power of the OPM.It will be very good for VCs and it will be good for entrepreneurs and it will be a bit spotty for the OPM suppliers.

      1. William Mougayar

        Yup, that’s what I thought.

  37. David Haber

    Thursday was a perfect example of why investing in a cap weighted index makes no sense to me… The fact that P&G can drop 17 pts and cause a 200 pt dip in the DOW is absurd. I totally get CAPM and that a cap weighted index might be a better proxy for how the American economy is doing – but its certainly not the type of investment product I’d like to hold.What most people will tell you (if you don’t have the background or time to pick specific stocks) is that you should be investing in an index, and if you do so — you’ll be diversified…The fact is that in most cap weighted indexes 85% of the weight is held by 10% of the stocks. That means that when irrationalities in the market happen to the big guys, like yesterday’s fiasco, or more systemically (like the late 90s) – all is well on the way up… but as soon as the bubble pops, you’re stuck holding the chain (i.e. Nortel ~ 5% of your portfolio circa 2000 —- oops)…I personally don’t think any of the HFT care whether or not the “market” is going to continue going up… they’re taking speculative bets on specific stocks and would actually prefer more VOL. But for most Americans, who have their retirement accounts, and pensions benchmarked to the “market” – this kind of stuff really matters…To me, it all comes down to diversification. Investing in a cap weighted index would be similar to giving three of your portfolio companies 85% of your fund… I just don’t think you’d be willing to do that — and certainly not if they’re overvalued or sluggishly large.

    1. Stiennon

      What I can’t understand is how the markets can be up 70% while real estate languishes. Wouldn’t it be a could idea to diversify into something that is still at its bottom? And please, when will my house be worth more than my mortgage again??

      1. JLM

        The technical name of this phenomenon is DEAD CAT BOUNCE.Real estate is the most pervasive asset class in all of wealthdom. In some form or fashion every business endeavor is somehow tied to real estate. You cannot have a weak real estate market and hope to have a stable economy.Right now, I think that troubled real estate — and all real estate is neither troubled nor honestly valued just yet, so beware — is the best asset class to invest in. It will always hold some residual value, always.Your house BTW is already worth far more than your mortgage simply because it is YOUR house and it is the home base for your hopes and dreams and family and life. A house is more than just a home. It is where your soul resides and where your love goes to rest and recuperate.

        1. Leland

          JLM your comments are excellent.A home is more then the sum of it’s parts. Thanks for reminding me of this fact. 🙂

      2. fredwilson

        I think you just answered your own question

  38. Harry DeMott

    Boy – a lot of comments here on this topic.I do believe there is a third way (to steal from the current FCC Chairman).Right now in the private debt market – there exists a number of services – Intralinks being the primary one – where sophisticated – or qualified – investors are given information on private companies. Enough information to allow investors to buy and sell securities in the private market.There’s no reason this could not happen in the VC marketplace.The biggest issue that I have seen is that often times the owners of the companies in question (in many cases the VC Boards) want to keep this information relatively private – either because they do not want to have to mark their holdings like hedge funds do – or because they do not want the competitive information in the market.You need transparency – and you need a committment to transparency – from both the management team and the existing owners – in order to make a real secondary market happen.

    1. ShanaC

      what would cause transparency….basically force the intralinks situation to occur….

      1. Harry DeMott

        I think what would cause transparency is a willingness on the part of investors and management teams to be completely open with other potential investors. You are going to give up some privacy and maybe some secrets there – but ultimately the liquidity that you will be provided with is more than worth it. I’m not sure too many people can discern the secret sauce of a company by reading the financial statements. If you read Google’s private company financials you could not have recreated Google – but you would have known just how insanely profitable the company was – and thus bought in earlier.

        1. ShanaC

          Slightly chicken and egg….How do external parties get this sort of information with a private company under normal circumstances if they want to essentially sell research on discount (lets pretend we’re setting up a fake investment bank here…) The information is per say valuable. We’re not forcing hands yet until people feel like they want to be forced….that’s the essential problem…The other option might be trying to set up a bond desk with information open (very 80s) to compete, the information might have to open up if you want to go stock side….

          1. Harry DeMott

            I think what you need to do here is to have a central clearing house – with a very standardized set of documents – and very full control over who sees what – paid for by whomever wants to make a market in the securities (could be the company itself – could be the VC’s who own the equity – or preferred). There are tons of secondary sale sites – but none of these are sponsored by companies and investors. It would be easier to have them officially sponsored – and most likely it would have to have some sort of size limits on the transactions to make sure the companies don’t run afoul of the SEC reporting guidelines (not hugely onerous – but still a real cost in terms of time and $). It becomes more of a utility than a huge business given the sizes we are talking about – but real investors could then transact with some transparency – and VC’s would have a way of laying off some risk (I won’t even go into what sort of side letter agreements could be forged – I’m thinking of selling down a stake but keeping the pro rata rights – or having a voting agreement etc…)

  39. Scott

    Fred,In light of your post I have several comments.At present the most popular explanation for the sharp decline is that someone entered a $1 billion at market sell order in Proctor and Gamble that should have been a $1 million order. Big difference. The sudden plunge in this Dow stock may or may not have triggered automatic responses or shutdowns in automatic trading programs; the evidence is simply not clear at this point. As there doesn’t appear to be any confirmed, rational explanation at present, I don’t think it’s productive to focus on the specific incident. My own opinion is that there was some “one off” confluence of technical factors that created a vacuum to the downside in the form of a complete lack of bids for a very short time. I think that the most important message that you can take from this event is that this incident beautifully and graphically illustrates the impossibility of taking advantage of “mispriced” issues and market inefficiencies as an investment strategy. The entire collapse took place over a period of less than 10 minutes based on the timeline in the WSJ Friday morning. Lots of issues were in fact mispriced and the delivery of price information was tremendously inefficient for a very short time, but by the time anyone could have reacted in any scale, the event was already over. We’ll see more complete analysis in the financial press over the next few days and eventually some reporter will write a detailed second by second description of the mood and actions on the NYSE floor; might even be Pulitzer Prize material. It will make for fascinating reading but what’s most striking about what happened is that the equity markets once again demonstrated efficiency in the face of unforeseen sudden and violent behavior.Secondly, HFT is a hot topic right now. It creates an amazing ability to make the market that much more efficient. But, at the end of the day, computers account for majority of the trading on the exchanges. The humans behind these machines create models and algos created on “paper” markets/behaviors/reactions, which we can all agree is unrealistic. Every model is flawed. I do not think HFT should be done away with, but rather more appropriate powers need to be in the hands of the exchanges to curtail mismanagement of the market structure. For instance, certain trading desks have access to pre-market data to use in their algos, while others are simply left for the “punch-in-the-face”. Not sure this is fair or even ethical. Markets were created to work not to let others have a distinct advantage over another. If that advantage happens to be cerebral – great. But let’s not make it unfair.On another note Goldman Sachs partakes in HFT, with a majority of their revenues coming from their trading desk. Interestingly, according to its web page, they state that “Our clients’ interests always come first” and “Integrity and honesty are at the heart of our business.” While in Mr. Blankfein’s testimony he states that Goldman had no legal obligation to disclose that they were betting against the securities because, “We are not fiduciaries.” This is correct, brokers are not held to the same fiduciary standard has an investment advisor. The CEO goes on to explain that brokers should be held to that same fiduciary standard. Something is not right here. It is irrelevant whether GS wins the battle or not, what is it hand is where the average investor is placing his/her wealth. With a broker or investment advisor? With a Wall Street firm or independent firm?A revolution has already occurred in Australia. All brokers tell their prospective clients that they DO NOT have to act in their client’s best interest. The same regulations are already beginning to take place in the UK. The US could greatly benefit from this disclosure. It is quite obvious that a broker will not serve you in the same capacity as an independent, fee-only advisor. Why do brokers use one legal standing to obtain clients and business repertoire, but use a lower to defend litigation?But, I am bias.Although, my experience does tell me one thing; having worked on the “dark-side” for quite some time I have my fair share of horror stories. In the end, the prospective clients I run into are usually taking too much risk given their situation, concentrated positions, and using multiple advisors. All these mistakes eventually lead to deterioration of wealth – and lots of it. My firm, an independent, fee-only wealth management firm using low-cost, institutional style funds added substantial value for our clients over tens of years. No, I am not picking great stocks or past performers or timing the markets, we have been using the same funds for the past 80 years. It is simply objective.So, I have a challenge for you. Contact me and let’s see if your results look the same, I have a high degree of confidence that they do. If your results beat what my clients have achieved on a risk-adjusted basis, I have some things to reconsider.

  40. Leland

    I am deeply averse to a stock market completely run by intelligent AI scripting. I understand it is legal and such, but our financial markets shouldn’t be controlled by an unsupervised system.

  41. paramendra

    Most tweets in future will be machine to machine, talking about machines. It just makes sense.