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David's Macro Blog

Analysis and commentary on business, economics, real estate, financial markets, and other fun topics


Category: Business and Finance

Over the next five years almost every major product vertical will be rethought to be social. GET ON THE BUS!

The bottom line we found was that you make something social and that rethinks the whole space. The social version of anything can always be much more engaging and outperform non-social versions.

There are just a few amazing business minds in every generation and Mark Zuckerberg definitely is at the top for his generation. His answers are truly amazing for a 26-year-old technologist.

Mark Zuckerberg Interview at Web 2.0 Summit


(quotes are Mark Zuckerberg unless otherwise noted)

We don’t really use it (email) that much… because it’s too slow. ..What they (HS student) meant was it’s (email) too formal. – MZ talking to a high school student about what they use to communicate

The approach you’re taking is right; we’ve got to go push the boundaries and figure out where they are, because if we set rules too early we won’t figure it out. We just won’t — we’ll stay in the past. – Tim O’Reilly

I think that in the five years most industries are going to get rethought to be social and designed around people.

A few years in, a couple of engineers at the company branched off and said we’re going to build new products. We got photos, the first version of groups, and events. At this phase, all these projects had the same thing in common; groups of 2 or 3 people competing against whole start ups that were out there… we had these teams of just 2 or 3 people building just over a couple of months very simple versions of these products… but the thing that it had was it was very deeply, socially integrated. You uploaded a photo and it went immediately so that all your friends could see it… and it turned out that that social feature was more important than every other feature put together. And very quickly our photos product became the most used photos product on the web, same thing with groups, same thing with events.

The bottom line we found was that you make something social and that rethinks the whole space. The social version of anything can always be much more engaging and outperform non-social versions.

There have been four game companies that have been built almost entirely on top of Facebook: Zynga, Playfish, Playdom, and CrowdStar.

Games have been the first big vertical to tip, that have gotten completely rethought to be social. That’s actually true on most platforms. On the iPhone and iPad, games were some of the first major things that took off. Even if you got back to the first PC, one of the things that got people to bring PCs into the home were games.

Anything that doesn’t have to be built by us, we’d rather have it not be built by us.

We are a pretty small company, we have a few hundred engineers. (crowd laughter) I think its small.

Over the next five years almost every major product vertical will be rethought to be social. GET ON THE BUS!

There are five values we have and two I’d hammer home right now are: move fast, and be bold – take risks.

Technology companies are interesting because a lot of companies get strong with scale. With Coca-Cola, the bigger it gets, the bigger its distribution network gets, the stronger it is. Technology companies have some scale advantages but also they just tend to get slower. Then they get replaced by smaller companies that are more versatile. One of the things I think about every day is how can I make this company operate as quickly as possible.

A lot of that is about encouraging people to move quickly but a lot of it is just about building out really good infrastructure that enables people to move quickly on top of solid abstractions we’ve built.

Really good people (employees/engineers) have this way of seeking out what is the most impactful position for them to be in.

The lead designer on the project joined us as an intern. We always do these management presentations where interns do these management presentations about what they did that summer. I asked him some questions and he just went off on me and had all these awesome points about why I was wrong on my criticism of his project. I was like this guy’s awesome — we’re definitely hiring him when he graduates.

I’ve made many mistakes running the company so far. Just about any mistake you can think of I’ve made – or will make in the next few years. The Facebook story is that if you are building a product that people love, you can make a lot of mistakes. The lesson from that is focus on building something that people really like and that is valuable.

A lot of enterprise software gets developed from the mindset of a feature checklist rather than what is really good to use.

What social applications have is that they are much more engaging.

The first chapter has been building out Facebook the application, the site people use every day. But long term… will be that the vast majority of the social ecosystem will not be Facebook, but we’ll help those businesses get built… That I think is a bigger long-term opportunity.

I like this map you have up here but my first instinct was that your map’s wrong. Because the biggest part of the map has got to be the uncharted territory. One of the best things about the technology industry is that it is not zero sum… of the best things is that we are building real value in the world, not just taking value from other companies.

My Notes

  • Mark thinks of Facebook as a platform for inspired entrepreneurs to rethink whole industries (e.g. movies, music, news) and develop new content and distribution. That’s a huge vision.
  • Facebook’s plan to dominate the internet is to build low-level social media infrastructure that enables entrepreneurs to build on top of it (like Zynga, worth a few billion as of this recording). This is the same as Microsoft’s vision during the PC era. Now Facebook will be able to generate streams of income from these apps in ways Microsoft never could. Scary. Maybe Facebook really is worth over $100 billion (as of mid-2011 when the company is still private).

When did Wall Street become the dumb money?

Why did traders who lost on their bets still earn millions (sometimes tens of millions) in income?

Author Micheal Lewis (Liars Poker, Moneyball, The Blind Side) explains the answers to both of these questions in his best-selling book, The Big Short. He writes so that even his mother could understand the intricacies of the financial system that the wrecked the global economy for the next decade.

The most remarkable thing to me is that individual traders on BOTH sides of the bet (for or against subprime mortgages) got rich while their firms collapsed and taxpayers got the bill.

Watch the C-SPAN interview with Michael Lewis below:

My Favorite Quotes

That the Wall Street firms had become the dumb money at the poker table. Somehow these firms, which used to be the smart money… When I left Soloman Brothers, the last thing you wanted to do if you were an investor, was be on the other side of one of Soloman Brothers trades. There was some zero-sum bet to be made with Soloman Brothers, you did not make it because you were sure to lose money. And what had happened was somehow the firms had become, had turned stupid as institutions, they’d become the dumb money. That made me curious. Something big had changed. The natural question was, who was the smart money? That led me to my characters because they were the smart money.

They didn’t know their own balance sheets. He doesn’t persuasively know his own business.

The whole financial system is organized around a bet.

The minute that the Wall Street firms were in the business of harvesting middle class and lower middle class Americans for their home equity value (via sub-prime loans) and making loans to them against it, there was a natural risk of abuse because just generally in financial transactions people are bewildered.

There were lots of cases where the nature of the loan was sort of disguised from the person who was borrowing the money. Teaser rates should be criminal. You essentially talk someone into taking a loan out that has an artificially low rate for the first couple of years so it looks very tempting. Then it skyrockets after two years.

There were 3 trillion dollars of loans there were dubious [referring to sub prime and alt-A]

But then seeing this explosion of lending again in this beast he (Steven Eisman) thought he slayed back in the 90’s, the sub-prime mortgage lending business and he says this is all going to blow up again, this is going to end badly because I know how this business is done. It’s a sinister business.

Interviewer: “So the $180 billion taxpayers dollars that went to AIG then went to Goldman Sachs (and other Wall Street firms) to pay off bets?”

ML: “Yes, yes, yes – for bets”

Interviewer: “Why did Hank Paulson and Ben Bernanke want to pay off the gambling debts of AIG?”

ML: “Because all the other Wall Street firms were on the other side of (AIG’s) bets and if AIG didn’t pay off then those firms would have experienced losses. For example Goldman Sachs lost on its bet to Michael Burry, but they thought they were just brokering the bet between Michael Burry and AIG so they paid off Michael Burry and they are out of pocket. They want to get paid by AIG, or they have a $13 billion loss. Paulson and Bernanke are thinking, if we don’t make the Wall Street firms whole, they will collapse, the market is not going to believe they’ll survive. And they would have all collapsed.”

Interviewer: “Who got hurt?”

ML: “Not the Wall Street firms. The rest of the country got hurt by what the Wall Street firms had been doing the last five years, generating this frenzy of finance where finance shouldn’t have happened.”

This was to me, my revelation. First, that the financial system had organized itself around this bet. And second, no matter which side of this bet you were on, you STILL got rich personally. Your institution might have lost huge sums of money, but you yourself got rich.

The only social purpose I had in writing the book was, I thought if I could explain this to people, they’d be outraged. And they need to know.

Derivatives are meant to redistribute the risk in an intelligent way.

None of those people in Davos made a lot of money betting against the subprime mortgage market. If they really understood it, that’s what they would have done.

Michael Lewis on his personal profession of book writing:

The interesting thing that I do is learn about something and communicating it in words.


Credit Default Swaps is the mechanism created in 2005 to bet against the subprime mortgage market. CDS is like an insurance policy and costs a couple percent per year.

CDS quickly became a way to bet against mortgages, instead of just an insurance policy against your own bonds defaulting.

Subprime mortgage bonds are pools of loans. Most were betting the bonds would pay off, just a few were betting against it – they were the smart money who ran the numbers, not just looking for commissions and transaction fees.

The unit selling most of the CDS was AIG FP (AIG financial products group). They used AIG’s AAA rating to sell insurance but reserved no capital against losses.

Municipal bonds are supposed to be one of the safest investments, especially for small private investors saving for retirement or using the interest income for their living expenses. Unfortunately states and other local municipalities have borrowed more money than they can pay back.

Wall Street analyst Meredith Whitney says muni bond failures (i.e. a default on the bond obligations) are inevitable. The analysis by her and her team concluded there just isn’t enough income to pay back the principal and interest on all $3 trillion worth of muni bonds.

60 Minutes – State Budgets Day of Reckoning with Meredith Whitney

Meredith Whitney Predicts Billions of Dollars of Muni Bond Defaults on CNBC Squawk Box

Local governments have to decide, “do I default on debt investors or my constituents.”

Paraphrased: The federal government will have to bail out the states that have to bail out local municipalities. Will Texas citizens want their taxes used to pay off bonds for a water treatment project in Illinois?

Whitney on Bloomberg

Legally taxpayers are required to make up any shortfall in pension funds. Legally everyone’s going to be required to pay higher taxes.


There are two sides to the equation: income and expenses. The Great Recession reduced income, which exposed the muni bond issue. Governments borrowed more money than could be paid back with a reasonable margin of safety given fluctuations in the economy and tax revenue. Note on the second video Whitney agrees with PIMCO’s Bill Gross, who says “states” won’t default but municipalities below the state level probably will default or restructure.

One of the biggest drivers of annual expenses is obligations to retired government workers. This issue will continue to grow as more retirees draw income and medical benefits from all levels of government.

During the height of the 2008 credit crunch, Lehman Brothers, led by CEO Dick Fuld, was not bailed out by the government. Instead, it was allowed to fail and become the largest bankruptcy in history.

How did this 150-year old firm that survived the Civil War and the Great Depression fail?

The short answer is, the firm was obsessed with growth so it chased returns with little regard for prudent risk management.

Their business model during the 2000’s economic growth period relied upon:

  • Excessive leverage (40 to 1): a couple percent drop in asset prices renders the firm’s balance sheet without equity.
  • Being the largest securitizer of sub-prime real estate mortgages.
  • The overnight repo market to fund daily operations.
  • Accounting gimmicks such as Repo 105 to make the balance sheet look good for quarterly reporting.
  • Unrealistic modeling with faulty assumptions such as real estate prices only go up and the overnight repo market is always liquid.
  • Believing “this time is different” and not preparing for the inevitable market cycle to reverse course.
  • Retaining ownership in some securities they created to increase their profits.
  • Incorrectly believing they would get a bailout from the government like Bear Sterns (after rejecting a bailout from Warren Buffett before late 2008).

What lesson can individual investors learn from this?

Be wary of investments requiring excessive leverage and market conditions remaining the same in perpetuity.

Barry Ritholtz – Dick Fuld’s Fantastic Revisionism!

Startup businesses are often toughest on the owners because they have to overcome so much adversity on the road to eventual success. Online shoe retailer Zappos, led by Tony Hsieh, endured about a decade of failures before its successful acquisition by Amazon Inc.

Success is the ability to go from one failure to another with no loss of enthusiasm.
-Sir Winston Churchill

Inc. Magazine’s “10 Steps to Zappos’ Success” highlights Zappos’ struggles and eventual success:

  • Being in a bad business with a track record of failure.
  • Running out of money multiple times.
  • Tony selling his San Francisco home to pay for a distribution center.
  • Tony taking an annual salary from $24 to a high of just $36,000.
  • Rejecting Amazon’s first buyout offer of $370 million.
  • Eventually selling to Amazon after a decade of hard work for $1.2 billion and being able to remain as CEO and keep the company independent.

For entrepreneurs, even the path to success is filled with mostly failure after failure.