Why I'm Not Blogging

I've been at this since July 2006, doing my thing. Writing when I've felt inspired, irked, righteously indignant, touched, happy and sad. Blogging has become a significant and meaningful part of my life, one where I am able to express myself on my terms, write about issues rattling around in my head, and to connect with people across the world and from different walks of life. Discovering blogging has truly been a gift. It is hard to imagine living without my blog.

Then why am I less interested in blogging than I've been in nearly three years? While I'm certainly not the most prolific blogger, I've created a veritable War and Peace of content during my blogging career. 2-4 times per week, very consistently, with a few 2-week "vacations" and some jags where I've written nearly ever day for weeks. But I can honestly say that I've never felt less interested in writing than right now. I generally keep a list of potential topics and I currently have stuff on that list, but whenever I look at it I think, "That's work." Blogging has never been work to me, so that kind of feeling is both unpleasant and scary. Have I lost my inspiration? Has my well run dry? I have written a lot about a wide array of topics, and my writing tends to be pretty intense and detailed, not little pithy entries or linkfests, so maybe I'm just spent. Or maybe...something else is going on.

I know my feelings have to be anything but unique, but I am mainly interested in the "why." Has anything changed in my life over the past, say, three months, when the frequency of my postings has notably declined? Well, after passionate and enthusiastic writing about the economic crisis, the Obama Administration, the Treasury, Paulson, Bernanke, etc. I just got tired. Is it because of the "bear market bounce?" Maybe. Is it because I don't want to simply write derivative crap of the stuff I've written previously? Possibly. Is it because I don't feel anyone gives a shit what I say? I'm sure that plays a part in it, too. I tried really hard for a period to be heard by those in Washington, in positions of power, but to no avail. There were plenty of voices to be heard, and mine simply was not one of them.

But there has been some other stuff that has been going on as well. I've never worked harder at my investment business, IA Capital Partners. Between working on new investments, my Board commitments (which I take very, very seriously), some advisory work with some of my companies and considering taking some outside capital, it has been pretty time consuming. Also, my trading company, Kinetic Trading, has been taking lots of time. I've been very focused on building this business, and it has been going very well. Starting something from scratch is hard, and making the transition from a "virtual" company to an organization with a home base, employees, strategic partners and outside capital is very exciting but a tremendous amount of work. Finally, I've been super committed to my boys and their love of baseball. Coaching my older son's team and supporting my wife in her coaching of my younger son's team (and acting as their pitching coach) is a labor of love in the Spring, but man, does it take time. No complaints, but I feel as if I spend 50 hours a week on my feet. Oh, and then there is my Board work for my kids' school, Little Red School House/Elisabeth Irwin High School (LREI). Again, a labor of love and something I deeply believe in (progressive education, humanism, providing opportunities to children across the socioeconomic continuum, etc.), but I chair the Finance Committee (making me Treasurer), am a leader in fund-raising and other stuff. In short, I'm in pretty deep.

So when all of this is mushed around, I think my lack of interest in writing has less to do with time (I've never had any, anyway; I've always just created time to write somehow) and more to do with lack of mind share. My brain is pretty stuffed with all my current interests and responsibilities, and I simply don't have the opportunity to contemplate my navel and think deep thoughts right now. My thinking is much more task-focused, much more project oriented. And since my blog isn't a business for me, it is a passion and an outlet, I'm simply not compelled to write. It's sad, but true. While this is my current state, I am hopeful that when things calm down I'll once again feel the inspiration and have the mental capacity to get back to it. On a certain level I feel guilty about not writing; I feel like I'm letting my readers down. But even more importantly I simply miss it. I miss the feedback, the dialogue, the back-and-forth, the spurring of new ideas that come from those who comment on this blog. And if I don't write, I completely miss this dynamic.

In the immortal words of the Governor of California, I'll be back. I just wish I knew when.

The Quants Must be Crazy

As a number of historically top-ranked long/short managers have decided get out of the LP game, there is another pocket - a quieter, more stealthy pocket - of the hedge fund universe that is heating up to bubble-like proportions: high frequency statistical arbitrage trading. Where long/short managers were once the kings of the hill, the AUM titans that could move markets with the mere awareness of their interest in a particular security, the secretive, underground, geeky uber-quant crowd is now being feted by top shops looking for talent. Hedge fund strategies rise and fall in favor in a cyclical manner, as "hot" strategies become over-crowded and returns get compressed, while those out-of-favor are fertile ground for some truly differentiated alpha generation. Then those shunned strategies attract new assets while the previously desirable lose assets. And so it goes...

Generally, such strategy shifts are a function of alpha opportunity: investors will generally tilt towards strategies that can generate the most alpha in the current environment, and since investment conditions oscillate strategy allocations oscillate as well. But there is a new factor weighing on investors' minds (and pocketbooks) that is having a pronounced effect on strategy allocation: liquidity. Among the universe of hedge fund strategies, which is the one that has the best liquidity profile? High frequency stat arb.

With signal horizons measured in sub-seconds, minutes or sometimes hours, these strategies trade highly liquid instruments long and short and generally will end the trading day at or near flat. Money is made through rebate capture strategies, rapid-fire pairs trading and the like. They good high frequency books tend to have Sharpe Ratios that are multiples of those of long/short and relative value strategies, specifically because the volatility of these strategies is muted due to the microscopic holding period. But this gives rise to the big drawback of high frequency stat arb - massive capacity constraints. In general, these strategies don't scale well, and as the frequency goes up (with "ultra high frequency" being the moniker for the most silicon-intensive, millisecond holding period strategies) the capacity tends to go down. Books of $10-$20 million are not uncommon, and it is hard to build an ultra high frequency book north of $100 million. This compares to the multiple billions that can be profitably run via a value-oriented long/short strategy, where much more concentrated positions and much longer holding periods rule the day. But in today's environment, this is not what investors want. Long lockups and high volatility? Out. Short redemption periods and low volatility? In.

And investors are willing to grant much higher payout to such strategies, and for good reason. Gains are losses are realized daily, not weekly, monthly or yearly. The mismatch between strategy holding period and the payout of incentive compensation is the driver of the backlash by LPs towards many of the premier long/short funds, and it makes sense. If your strategy has a holding period that is 18-24 months, should incentive comp really be paid quarterly? There is no rational argument for why the industry has grown up this way, and my guess is that this feature will, over time, come to an end. Both the timing and level of incentive comp needs to be calibrated to holding period - when these finally come into line, there will be a true alignment of motives between GPs and LPs.

But back to the high frequency frenzy. Of course, there is no free lunch. The influx of capital into what is a fundamentally capacity constrained strategy will compress returns and strip the alpha out in short order. And unless these funds amp up leverage as they did in 2007/08 to try and keep returns constant while spreads were compressing (which is what contributed to the quant fund blow-up), capital will necessarily flow out and into strategies previously tossed to the side where alpha once again exists, e.g., long/short. This is simply the nature of things. But for the hedge fund industry to rebuild its asset base and develop a healthy relationship between managers and investors, the timing and level of fees has to match the strategy. A "one size fits all" approach is neither appropriate nor desirable. It's high time the LPs asserted their power and the GPs grew a conscience to do the right thing for the industry.

Twitter is our id, Facebook is our Ego

I was speaking with my good friend Howard Lindzon, my partner in several Twitter-related investments, about the differences in the way people communicate on Twitter and Facebook. Howard's sense is that everybody lies on Facebook; that people represent a kind of "false self," so that it is hard to really know what a person is like from their Facebook profile. He feels differently about Twitter, however, holding the belief that people's tweets are a much closer representation of their true self than Facebook. So that someone who is a jerk on Twitter is likely a jerk in real life, and someone who is thoughtful and careful in their tweets is also like that offline. After considering Howard's theory, I am convinced that he is right. Then it hit me. There is a framework for conceptualizing the differences in peoples' communication between these two media: Freud's structural model of the psyche. In short, Twitter is the id, while Facebook is the ego.

The Twitter experience is one of quick bursts, rapid-fire communications that flow from one's brain straight out to one's fingers and onto the screen. For most, there isn't a ton of premeditation that goes into one's tweets. As we've learned with email, there are things people will say in an email that they would never say to someone's face: this has cost large corporations hundreds of millions of dollars in fines and billions of dollars in lost market value resulting from thoughtless, unmediated behavior. An entire industry, email monitoring, has emerged from the disasters of Wall Street and other businesses where impolitic, hurtful and downright stupid communications have been dredged up in discovery associated with myriad lawsuits. While real-time messaging behind the corporate firewall is now aggressively monitored, the lion's share of message volume is out in public for all to see. And there isn't a ton of motivation for mediating one's tweets; also, given the bounded nature of the messaging, it often results in a quick stream-of-consciousness that reflects the need of the tweeter to be heard and/or their desire to impress or shock. Consider Freud's description of the id, circa 1933:

It is the dark, inaccessible part of our personality, what little we know of it we have learnt from our study of the dream-work and of the construction of neurotic symptoms, and most of this is of a negative character and can be described only as a contrast to the ego. We all approach the id with analogies: we call it a chaos, a cauldron full of seething excitations... It is filled with energy reaching it from the instincts, but it has no organization, produces no collective will, but only a striving to bring about the satisfaction of the instinctual needs subject to the observance of the pleasure principle. [Freud, New Introductory Lectures on Psychoanalysis (1933)

In short, it is all about me, I can't really control it, and it feels good. This seems to me to be a pretty interesting way to think about many peoples' use of Twitter: "I'm getting a coffee;" "I just had a lousy subway ride;" "Check out this article, it's really good;" "isn't Congress missing the boat on this issue?;" etc. I WANT TO BE HEARD. I WANT PEOPLE TO CARE. I WANT TO FEEL IMPORTANT. READ ME! READ ME! Do most people actively manage their image on Twitter, or is it merely a reflection of one's inner self? I'm going with the latter.

Facebook, conversely, requires a much bigger upfront investment to get value out of the medium. A user needs to create a profile, invite friends, join groups, and establish an identity. This is a deliberate process, one which prompts at least some thought (at least among those over the age of 21). It is clearly not the ADD Twitter experience, where one need take no more than 5 seconds to rip out a tweet off the top of one's head. The user has enough time to use their conscious thought to create and maintain a Facebook presence, leading to an output that is more reasoned and more calculated than their Twitter identity. This sounds a lot like Freud's description of the ego:

...The ego is that part of the id which has been modified by the direct influence of the external world ... The ego represents what may be called reason and common sense, in contrast to the id, which contains the passions ... in its relation to the id it is like a man on horseback, who has to hold in check the superior strength of the horse; with this difference, that the rider tries to do so with his own strength, while the ego uses borrowed forces [Freud, The Ego and the Id (1923)]

With a Facebook identity representing a stake in the ground, it takes on a sense of permanence, of solidity. This is something that begs for more time and consideration than the Twitter stream, a constant cacophany of jabs, jokes, jousts and jeers. A mountain versus a river. A stock versus a flow. Their characters are entirely different and appear to tap into different parts of our make-ups. It is the difference between what we want others to see and what we can't help showing. The ego and the id. Our mediated self and our raw, inner being.

Twitter = Discovery

As you may have read, Stocktwits just closed its Series A round with True Ventures. Tony Conrad, of Sphere and WordPress fame, will be joining Howard, Soren and I on the Board. I am very excited about our new partner, and know that Tony's entrepreneurial IQ and product development expertise will be a huge asset to the Stocktwits team.

I have shared my views about Twitter in the past, and have only become more wedded to the ecosystem through my investments in TweetDeck and bit.ly. Given the passage of time and my greater intimacy with the medium, I decided to do a re-read of my "foundation" post of October 2008 titled Twitter: Monetize the Apps, not the Platform. Here is an extract from that post; it still accurately reflects my feelings about Twitter, its promise and its shortcomings:

I love Twitter because of its immediacy, the "one to many" concept and the fact that culturally, so many of those on Twitter monitor and manage their messages with a vigilance far exceeding that of email. This is its power at the most basic level. But when you think of creating communities around Twitter, be they related to companies, brands, entertainers, common interests, politics, etc., it is easy to see the massive power that can be harnessed pretty quickly.

So what do you need? Groups. Perhaps human-curated groups. With hierarchies and sub-hierarchies to help people best search and discover pockets of people they want to follow. Much as AOL, iVillage and the other major portals did to help organize and target their massive horizontal audiences. This easily helps new users get engaged and get busy, as they can simply wade in and find relevant groups with a few clicks. Further, groups are great targets for future advertising and lead generation, as they've self-selected into particular areas of interest.

You also need vertical applications. Investing. Shopping - cars, music, etc. Travel. And on and on. With a sufficiently robust API, the developer community can innovate in much the same way as they have for the iPhone. Create a Twitter App Store? Maybe. But the main goal should be providing the environment for developers to come up with great stuff that will be used, that ultimtely people will be willing to pay for.

Interestingly enough, many of my predictions have come true. There has been an explosion of applications built on top of Twitter, attempting to make sense of its vast and disaggregated audience. To this day, if I go on the native Twitter site and use its search functionality, I don't get much out of the experience. I get infinitely more value from the apps that have been built courtesy of the Twitter API. The problem then as now relates to discovery: how do I find people who care about the stuff I care about, find people from my past just as I do on Facebook, build a universe of people whom I follow that creates real community as opposed to a series of disjointed entities? These are still questions that remain to be answered. At the end of the day people want connectedness and relatedness. Yes, news updates and worthwhile and I follow a handful of bots to keep me current, but my follow list is largely comprised of people whom I like and respect, people who create interesting content that stimulates my thinking and brings me new perspectives. But I'm sure there are many more people out there I'd like to be following that I simply can't find, and vice versa. This is a mega problem that will invariably be solved, but it hasn't been yet.

Stocktwits is merely one answer to the profound question that is discovery. In its domain, it is a category-killer product. But we need many more Stocktwits to drive value to vertical communities - and affiliates and advertisers - across the Twitter landscape.

What Keeps Me Awake At Night: Economy Edition

The stress tests are done. All is well. Green shoots are popping up all over the place. The worst is behind us. Everything is cool, right? Well...

This is how my nightmare goes. The US Government has adopted the following mantra: BUY TIME. Buy time for:

• the stock market to recover;
• sentiment to improve;
• retail demand to pick up;
• credit markets to open up;
• bank balance sheets to be rebuilt;
• banks to lend to both consumers and small businesses;
• businesses to begin hiring again;
• homeowners who were once on the edge to be able to pay their mortgages;
• real estate prices to rise;
• residential and commercial mortgage-backed security prices to rise; and
• TOXIC ASSETS TO BECOME DE-TOXIFIED.

The US Government has done everything in its power to avoid the perception that it has lost control. Statements such as "None of the largest banks will be left insolvent," providing both direct capital injections and indirect support through the FDIC debt issuance guarantees, the AIG payouts that were funneled to Wall Street counterparties, TALF, etc. Further, the SEC and Congress were silent when FAS 157 was relaxed, providing further support to bank and insurance company balance sheets "as is." Buying time. Congress could have forced transparency, could have let the largest banks get restructured, could have facilitated a comprehensive plan against the illiquid asset problem. But this was not the path taken. And if the stock and bond markets continue to go straight up and if risk premia fall, then the "Big Brother" approach taken could be vindicated.

But what if, just what if, the economy hasn't turned the corner? What if job losses continue apace, residental mortgage defaults continue to rise and corporate bankruptcies spike? As defaults ripple through the system, given the lack of transparency and granular, easily accessible data around mortgage-backed security vehicles (CMBS, RMBS) and credit default swap (CDS) positions, how are we to untangle the mess in a timely and efficient manner? How are investors supposed to accurately price risk in the absence of this data? The US Government can continue its posture of uber-borrower, but this game can only go on for so long. Let's say the Chinese government gradually reduces its net purchases of US Treasuries, and also shortens the duration of its Treasury portfolio. As the US Treasury continues to run the printing presses, the Chinese would gradually build a compelling argument (and a powerful economic position) as to why the US Dollar should no longer be the global reserve currency and the basis of exchange in oil. Profligate spending coupled with fewer willing buyers will drive up US dollar long rates, debase the currency and set off a very unpleasant inflationary cycle. With plummeting real asset values, spiking inflation and high credit costs, the US would be in a very uncomfortable position, indeed.

The Administration and Congress have clearly taken the path of least resistance. Wiping out of the stockholders and unsecured bondholders of our largest financial institutions would have been a political nightmare, but it would have enabled the market to purge the excesses that our system has wrought over the past decade. An emphasis on generating comprehensive data and full transparency around toxic asset portfolios would have also helped in the process, creating a much clearer picture of ultimate ownership and a basis for working out the problem credits (and counterparties). This wouldn't have produced nightmares, it would have yielded wakeful pain followed by catharsis and and way forward. The path taken looks and feels good today, but potential troubles lurk just below the surface.

Is there a monster in my closet? Well, maybe...

On a Crash Course With the Rule of Law

As noted in my post on the invariable failure of the Treasury's PPIP initiative, it is impossible to coax liquidity from the sidelines if asset owners are unwilling to trade at a price approximating market value. In this case, banks perceive themselves to own a valuation call option, one where they hope time will boost asset values such that underwater (at least on a mark-to-market basis) securities have time to recover. While this is a negative approach supported by weak and ineffectual accounting rules, banks are not violating the rule of law.

Consider, however, the looming time bomb that is the Commercial Mortgage-Backed Securities (CMBS) market. With the hundreds of billions of 5 year paper originated between 2005-07, there is a huge refinancing requirement just over the the horizon. Many, if not most, of these projects are not readily financiable in today's market environment. Further, the complexity of their capital structures has given rise to an array of misaligned motives that will invariably find their way into court. Think about the unrated, junior most layer of the capital structure. These investors, with expected IRRs at inception of 20%+, are looking at a zero payout at this point  However, many also hold the servicing rights to the structures, and are charged with the responsibility of acting in the best interests of all debt holders. With the scepter of refinancing just 1-3 years out, all is not looking good. But with the hammer of their contractual rights and historically low interest rates, they are currently able to service the debt without the pressure of necessarily selling out, which is exactly what the AAA senior tranche would like them to do. So you have the AAAs who felt very secure in a liquidation scenario not controlling the timing or manner of liquidation, while the unrated z-bond holders are bust on a mark-to-market basis but holding most of the cards. At the end of the day the magic of securitization didn't disseminate risk, it spread responsibility. And in the absence of a need to mark-to-market, the vehicles can continue to exist as members of the walking dead. Now that the day of reckoning is rapidly approaching, their legal construct will necessarily be tested. The General Growth Properties bankruptcy will be our first mega-scale test of whether these Special Purpose Entity (SPE) structures hold up. This is a clear indictment of the way these vehicles were established, and the blame lies squarely at the feet of the structurers (convoluted and conflicted, no?), the rating agencies (AAA-rated super senior? Really?) and the investors (were these documents ever read?). When all is said and done, the rule of law will show us the way. But if the courts determine that the legal underpinnings of the CMBS market were somehow flawed and that the contractual terms between the junior and senior creditors are abrogated, then what is an already complex and fractured market will only get worse with a seemingly endless stream of litigation and confusion.

Another train wreck is the auto companies. Chrysler is currently staring into the abyss, soon to become part of the Fiat family. In the meantime, Chrysler's bondholders are in a game of chicken with the US Government, which would like to portray them as "obstructionist" and "putting their interests in front of preserving the company." Well, duh. What else did the the Government expect them to do, donate their holdings to the Chrysler pension plan? The kind of coercion and stiff-arming going on here, if not amicably settled, will land the Obama Administration and recalcitrant Chrysler creditors in a pitched court battle, which could have ramifications for not just the auto industry but any sector where the Government seeks to get "enthusiastically" involved. Is restructuring under the Administration's watch somehow more beneficial to all constituencies than under the experienced eye of the bankruptcy court? While the Administration has been pulling strings from the sidelines and tacitly engineering the bailout of the financial sector, it has steadfastly refused to force troubled institutions to face into their problems, whether through bankruptcy or radical restructurings of their businesses. The inconsistencies between the treatment of the autos and the banks is blinding, likely leading to suboptimal outcomes in both cases. Pussyfooting around with the banks. Wielding the hammer with Chrysler and GM. It just doesn't make sense.

One thing is certain: while many transactional lawyers have found their business drying up, bankruptcy lawyers will be in strong demand for years to come. May heaven help us all...

Private Equity Markets: Not Today, Perhaps Tomorrow

Claire Cain Miller penned a story in last Wednesday's New York Times concerning the development of private markets for venture-backed equity investments. The article raised several important issues, but I'd like to provide further color beyond my quotes in the story. Private markets, their opportunities and risks are very complex: my belief is that while it would be great for a "third exit" to emerge, its realization remains far, far away, except for the most popular, "branded" private companies. Think Facebook, Twitter and the like. Legal and regulatory issues are a problem. Scaling is a problem. And the demand side is a problem. For these and other reasons, I believe it will take years for a true alternative means of liquidity to emerge.

Not a Technology Problem

First off, let's be clear: this is not a problem that subjects itself well to a technology solution, at least not now. The hardest issues with these types of transactions are operational: compliance with transaction documents, e.g., Right of First Refusal provisions, etc.; transfer and custody of physical stock certificates; receipt of stock powers; alterations to books and records; collection of sufficient information about the company to make an educated investment decision, etc. Due to investor demand and regulatory limitations, technology as a vehicle for price discovery hasn't really been necessary. So those that consider this a technology problem to be solved are far off the mark. Think of one of the single most successful financial start-up of the past decade: Gerson Lehrman Group. The company is worth over a billion dollars. The vast majority of this market value is not attributable to technology, but to making a match between information seeker and information provider. The technology that has been built in recent years is nice but certainly not a key driver of firm value. The largest and arguably most successful company in the private/illiquid asset space, SecondMarket, has painstakingly built an back-office environment to rival that of a small broker/dealer. Companies that are at all successful in this space will have significant infrastructures to handle the operational requirements of trade execution and settlement. Everyone else is simply pretending.

Not a New Idea

Making a match between a large seller of restricted/private stock and a buyer. Hmm, that sounds familiar. Who else does this? Right, Mergers & Acquisition bankers and block desks. Depending upon whether the sale is to a strategic buyer or a financial buyer, Wall Street has long dealt with exactly the problems these private exchanges are purporting to solve. If it's employees with small holdings ok, not the same, but if it is a venture firm like Union Square Ventures, Kleiner Perkins, or DFJ looking to find an alternative path to liquidity, they can always call up their friendly investment banker and place the stock through them. Bankers can do the job of price discovery just like a listed market, and the prices will be much more reflective of the kind of size the sellers want to move than a shallow indicative level that doesn't do the venture firms much good. It will take years to cultivate a truly new investor base, e.g., high net worth retail, to take up the stock. Moving large size in private companies tends to be an institutional phenomenon, those same institutions that are currently no bid in the largely dead IPO market.

Depth in Demand Does Not Exist

The investors that generally drive the IPO market - not high net worth individuals but mutual funds, hedge funds and other institutional investors - are largely on the sidelines. There is a massive emphasis towards liquidity in today's environment, and private company stock is not high on most institutional investors' shopping lists. So in the absence of these key players, are accredited investors (in Securities Act of 1933 terms) really sufficient to pick up the slack? It's not as if angel investors have been deploying large amounts of capital, and those "super angels" that have been bridging the gap between founders and institutional rounds are primarily "first-money-in" investors; they are not looking for Facebook stock at $4 billion or Twitter stock at $350 million. So the fact that there isn't a vibrant IPO market says to me that there isn't a deep private company stock market, either. In the absence of real demand, all the recent buzz in this space appears to be a solution looking for a problem.

The Regulatory Environment is Hostile, and the Trend is Not Your Friend

All of these private markets are predicated upon either the Accredited Investor or Qualified Institutional Buyer (QIB) rules; these provide safe harbors from a host of SEC reporting and disclosure requirements, on the assumption that investors in these buckets are sufficiently sophisticated to make investments in risky, unregistered securities. These restrictions, coupled with the 500 investor limitation pursuant to the Securities Exchange Act of 1934, sharply limit the potential parties that can underpin the demand for these private markets. In effect, for the volume of these markets to scale, the same institutional investors mentioned above need to participate. And if they won't buy shares of more profitable, less risky IPO companies that will provide detailed SEC-compliant disclosures, then why would they be motivated to invest in less profitable, riskier private markets companies with limited disclosure requirements? Answer: they wouldn't. Further, in order for these markets to truly flourish, rules such as the 500 investor limitation would need to be relaxed. But with today's environment awash in scandals, trillions of losses due to illiquid and non-transparent asset portfolios and the taxpayer and Congressional backlash arising from the bailout, is anyone really in a position to ask for relaxation of rules that are designed to protect investors? Good luck. The timing could not be worse.

Private Markets Could Work - Someday

The key needed for these markets - any private market - to succeed is real and durable demand. When that will emerge I do not know, but I am pretty confident it won't be for another 18-24 months, at best. Another factor are the public company listing, filing and compliance requirements. Sarbanes-Oxley (Sarbox) has certainly raised the bar for companies going public, and represented one of the key motivations for markets such as GSTrUE and Opus-5 to emerge. But if Sarbox were rolled back or recast in such a way that compliance was less complex and cheaper to implement, then the need for private markets might go away. I don't buy the argument that a "long tail" of demand exists for non-brand name private companies, except insofar as these companies are raising capital, not for investors who are looking to sell out. Just as with GSTrUE, the companies that were able to be placed were top-shelf names with big brands and significant pent-up demand. This kind of dynamic does not exist in the long tail. It seems to me that Internet investors are seeking to apply web logic to a Wall Street phenomenon. Sometimes characteristics of the online world don't necessarily apply to the offline world. I could be wrong here, but I doubt it.

The Bottom Line

I appreciate the desire for a third path to liquidity, and acknowledge its importance, but you can't manufacture demand where none exists. Demand will pick up at some point and these markets will be viable, but their growth will be sharply capped due to both the "brand name" and "head of the tail" phenomena and the regulatory environment. So this is one to keep an eye on, but my sense is that this third path simply won't become viable for a long, long time.

The Peter Lynch of Consumer Internet is.....

Fred Wilson. Why this just hit me today I do not know, but after thinking about it I know it to be true.

I was having a conversation with a very good guy from MTV Digital today, Michael Bloom, and we got to talking about the NYC investment scene. Invariably the conversation winds around to Fred and his partners at Union Square Ventures, and as I always do I mention how I could never invest the way Fred does. This generally centers around the way Fred is able to invest in platforms that often generate massive audience and upside but which is not at all visible from the outset (del.icio.us, Twitter, etc.). Lacking such vision, I generally focus on businesses that have clear paths to revenue, require far less capital than platforms, are generally more B2B and less B2C (with some notable exceptions) and which generate valuable data and/or metadata that can be repurposed and reused to generate additional revenue streams. This has always been my rap.

Michael, astutely, says "Well, it seems that Fred invests in stuff he likes to use himself." Now, it isn't that I haven't thought of this before but I've generally thought about it in more clinical terms, e.g., Fred sees something cool, tries it out, posts it on his blog, gets a ton of feedback, does additional homework and makes a decision. But after thinking about the lion's share of his investments, I think Michael is right. I think he really does eat his own cooking and invests very close to home, e.g., in companies that do stuff and make things that he himself likes. This is a much more elegant way to contextualize the differences in mine and Fred's investing styles. He is a consumer geek and a gadget freak and his investments display this passion. I am a data geek with a quant background and most of my investments display this passion.

In short, Fred is the Peter Lynch of consumer internet investing. Invest close to home. Invest in things you understand. Invest in things you have passion for. And invest in things you use in your everyday life. It certainly worked for Peter. And now it is working for Fred.

The US Government: Over-engineering for Under-performance

Beginning with Bush and Paulson and continuing with Obama, Geithner and the newly-emboldened Ben Bernanke, the US Government has adopted the posture of over-engineering our emergence from the financial crisis, with an eye on stock market performance. Plans have been highly complex, rescues have been largely one-off and Congress has gotten into the business of executive compensation, company-specific tax policy and other minutia. The alternative: broad, sweeping, clearly communicated and transparent policies, those to which investors and taxpayers alike can rapidly assimilate and react. It is a matter of trust, and trust has been in short supply ever since the crisis hit. Unfortunately, the US Government's involvement has done little to rebuild trust on Wall Street or on Main Street. The result of the Administration's plans is depression followed by mania followed by depression, as incomplete or misleading information is slowly disseminated into investor consciousness while the equity markets see-saw depending upon which side of the wave we find ourselves. And recent bank earnings are only one shining example of why we are now locked into a painful, protracted process of false hope, failure and rebirth, when we could have chosen quick, deep pain, and transitioned to real hope and rebirth in a much shorter time-frame. But the US Government does not believe the US citizen can withstand such pain; they'd rather take the path of least resistance, delay the inevitable, buy time and pray that we - the collective "we" - get bailed out. Unfortunately life seldom works this way. If you've got it coming to you it generally comes: the only question is how quickly you can get it to go away.

When I hear friends both inside the major banks say "But we just reported earnings of $x billion and beat Street estimates; why is our stock getting hammered?" or "Our stock is trading at x% of book value when our earnings power is improving, why do investors continue to lack faith in our institution?," it only highlights the disconnect between the Wall Street (and Administration) world(s) and the real world. Clearly few investors look at Citigroup and Bank of America's headline earnings and think them to be of high quality: out-sized trading revenues, debt revaluation and one-time gains dominate the story. Customer revenues generally are poor. Credit charges are skyrocketing. Every kind of loan portfolio is under pressure. And with the mind-bending error of weakening the mark-to-market guidelines, transparency and financial statement clarity is worse than ever. The American Bankers Association and their lobbyists thought they were really smart; let's press the Financial Accounting Standards Board (FASB) to weaken FAS 157 (mark-to-market guidelines) in order that our member firms can show better earnings and capital ratios. And they were successful. But surprise! Investors are not all as stupid as they sometimes appear. They looked right through the reclassifications and accounting changes and determined that earnings quality stunk. Hooray! Citi beat Street estimates. Yippee! Bank of America hit the cover off the ball. But not if what you are looking for are real earnings and true indications of sustainable revenues and financial health. Once again, we have taken a big step backward in the transparency and trust departments. These are areas where the Administration and Congress should be showing strong, decisive leadership. Sadly, they are not.

You now have CEOs of TARP recipients rattling their sabers saying that they want to return the funds, shortly after printing historic trading gains off the backs of US Government debt guarantees and TARP funds. This is clearly not the outcome the US Government had in mind: a direct transfer of value from the US taxpayer to common stockholders of TARP recipients. But if you develop a program as complicated as TARP which impacts multiple constituencies in vastly different ways, it is not surprising that chaos and adverse PR would result. And, suffice it to say, we are still mired in the toxic asset issue. As predicted, the PPIP is dead on arrival. With a weakened FAS 157, regardless of the demand fomented by enormous liquidity on the sidelines together with cheap Government-sponsored leverage, the supply side will simply not show up. Without a clear requirement to clean up their balance sheets, banks will simply milk the option delivered to them on a silver platter by the FASB. They will wait it out, not lend significant sums, engage in financial engineering to make their capital ratios look good, all with the tacit if not outright support of the US Government. This was not the way it was supposed to work. But if you take the path of least resistance, you generally deserve the least attractive results. Not surprisingly, this is where we've ended up.

The US Governments, past and present, had a clear idea of how they wanted the financial reconstruction to go: stabilize the largest, most troubled institutions; let one go to show that they are still free marketeers at heart; loosen accounting standards to make supporting the largest institutions less costly, at least in the short run; use moral suasion and cajoling to encourage supported firms to lend; and then let time work its magic by enabling broken portfolios to recover in value and for earnings to be rebuilt through "riding the yield curve" and lending with Government-subsidized borrowings. But all did not go according to plan. Policies became highly fragmented as each institition was treated as its own separate case, creating uncertainty in the markets and on Main Street. Public relations became a problem as bailed-out firms started paying bonuses, ostensibly with taxpayer dollars. Compensation caps were enacted. Tax policy was used to attack contractual bonus payments. The forest was long ago lost for the trees. The dream of engineering a soft landing is now long gone. The best that can be hoped for is getting through without a financial crisis of staggering proportions. And it didn't need to be this way. Fewer, clearer, more aggressive policies with an emphasis of transparency and communication. Then let the markets do what they will do. Obama & Co. should really be called the Bloomberg Administration: because with such a focus on Wall Street and the stock market there must be a Bloomberg terminal on every desk. Our leaders need to switch them off - now. They do not hold the answer.

A Few Thoughts for a Breadless Holiday

Yes, I am referring to Passover. A truly wonderful holiday, one which chronicles the Jewish people's exodus from tyranny in Egypt. As part of our remembrance, we don't eat "leavened bread" (stuff that rises). In short, no bread. Given the depths of the financial crisis, bread is in short supply among those of any religious persuasion these days. We're all in the midst of our own personal exodus, trying to find our way from poverty back to a healthier, more sustainable prosperity.

The irony of Passover story and its linkage to today's circumstances isn't lost on me, so I thought I'd share a few thoughts about what I'd like to see "Pass over" in the ensuing weeks and months:

1. Pithy sound-bites from the US Government about how the worst of the economic crisis is over;
2. Erratic and conflicted thinking as it relates to the banking sector and every other sector in need of assistance;
3. The thought that propping up sick banks will actually make bad assets turn into good ones, like magic;
4. Immigration policies that keep those outside our borders who can best help our country remain at the forefront of research and innovation;
5. Senior politicians in positions of power with real or perceived conflicts with those whom they influence;
6. Adjustments to accounting rules that make bank earnings look rosy when underlying portfolio problems are still acute;
7. A loss of focus on the importance of alternative energy even though oil prices are 65% off their highs;
8. The sentiment that Americans who choose to save and/or de-lever are somehow un-American, because Americans are supposed to borrow and consume, right?;
9. The White House trying to please everyone all of the time, instead of taking bold stances and pushing through difficult, but correct, legislation; and
10. The power of lobbyists and special interests in times of crisis, when their influence should be marginalized for the greater good.

This is merely a start. But as I sit here breadless and thinking about our future, I hope, and have confidence, that the best is yet to come.