Data Is Coming

If we take a look of the largest firms in terms of market capitalization, we can see a clear trend:

1. Apple Inc.
2. Alphabet Inc. (Google)
3. Microsoft
4. Amazon.com

They all are IT-companies that deal with a huge amounts of data. Especially Apple and Google have been in the news many times when issues concerning privacy and data gathering are presented by different government authorities. Seems that data is going to be the new oil.

In this blog I talk about little about the roles of these companies in the society and explain why they are going to change the world. My prediction is that these 4 companies are just not going to renew their industries, but they are going to crush completely three traditional industries: Banking, transportation and retailing.

Banking

First of all, a quick word about the PSD-2 regulation (Payment System Directive 2). It is a new regulation that basically allows other institutions than banks to enter to the business of payment systems and transfers. Soon you don't need a bank account to make transfers or payments, it is enough for you to have your personal Amazon account with Amazon Pay or an Apple ID with Apple Pay. Also other players like Bank of Norwegian and even Starbucks are allowed to enter to the market of payment systems.

In this battle banks however have one advantage: information and data. Currently the banks possess all the information about their customers and the way their customers act. Banks know about the places you go, where you make payments and how much. The bank can even know about your girlfriend's pregnancny before you.

But what happens when firms like Apple, Google and Amazon can buy, trade and gather this same information? Banks become useless. These IT-companies have the same data and can offer the same services half the price and with more flexibility. You can have separate services for different purposes and you no longer are tied to the one bank that knows everything about you and can thus offer you its services.

From European banks I believe that Nordea has noticed this change. This has caused a rapid cut in expenses and massive investments to digital services and data gathering to fight this battle. In the same time many branch offices around Finland, Sweden and Norway are being closed and Private Banking services in Switzerland and Luxembourg are being sold to UBS in order to gather strength and resources against Apple, Google and Amazon.

Nordea's quest for digitalization has even gone so far that last fall a co-operation was introduced with Apple Pay as the first bank in the Nordic countries. This has raised concerns on Apple's efforts to try to buy and gather data from the bank's customers for its own purposes. We will have to see what happens with these companies in the following 5 years or so.

Retailing

Now this isn't anything new. It has been a trend for a long time that consumers tend to buy more goods from online than from traditional retailing stores. This has caused problems for traditional retailers like Macy's, Target and Stockmann. Retailers like Alibaba, Amazon and Zalando have taken huge pieces of the market. This has caused retailers like Walmart to invest heavily into digital services to fight against Amazon.

Last summer Amazon announced to acquire Whole Foods, a grocery store specialized in unprocessed and unrefined plant foods (which is, if you haven't noticed, quite trendy at the moment). This added to the concept of Amazon Go is going to crush traditional retailers. Now even Jounin kauppa with it's social media attendance can compete against that.

When you go to do your groceries in Amazon Go, you can just take your items to your basket and walk away. Infra-red detectors detect the person who is buying the groceries and will take the money automatically from the person's Amazon account. No credit cards, no cashiers, no bank accounts. You can clearly see the linkage for Amazon's role in competing against the banking industry as well?

Transportation

Especially Apple and Google are investing into driver automation and self-driving technology. This makes sense, since according to the study perfromed by Volvo in 2013, 90 % of all truck accidents are due to driver error. Not to mention the reduction in costs when you wouldn't have to pay wages for your drivers.

Driver automation has been a hot topic recently. Different forms and stages of driver automation have been developed and researched by companies like Apple, Google and Tesla. Even Amazon is entering the market in a co-operation with Toyota to include their Alexa-virtual assistant to the cars. Traditional automakers should stand on their toes. This has also raised a concern for my-self: weaponization. I'm not going too Terminator about this, but self-driving technology could easily be misused for darker purposes. Beware.

Not only road vehicles are planned to be automatized, but also air traffic. Currently autopilot does pretty much everything during a flight expect take-off and landing. It is just a matter of time before these stages are also automatized and we don't need pilots anymore.

Conclusion

Conclusion is that the 4 largest companies of the world are coming and they are coming fast. These firms are going to shape, rebuild and destroy the industries we know today. It might be that in 10 years we don't need banks, truck-drivers or grocery stores.

The ones who want to survive must brace themselves. Data is coming.

Text: SW
Pictures don't belong to me

Free Lunch For Everyone

Guess what is happening in the USA at the moment? The Trump administration is introducing massive tax cuts and increasing domestic government spending to stimulate the economy. But could that actually work?

Is a tax-cut a free lunch? According to the Ricardian equivalence theorem, no. The theory was formed by the Great Master of comparative advantage and international trade, David Ricardo.

The Ricardian equivalence theorem suggests that when the government is introducing tax-cuts or stimulating the economy by more debt-financed government spending, the aggregate demand in the economy doesn't change, thus no economic growth is achieved from these actions. This is because the consumers expect the government to finance its increased debt-burden by raising the tax rates in the future. Because of these expectations, the consumers are more willing to save their extra income instead of spending it into goods and services.

The theorem relies on few assumptions. First of all it assumes that the credit markets are perfect (which they duh). We assume that the interest rate on which a consumer can both lend and borrow are identical and it is always possible the borrow money with this interest rate. As I wrote earlier, usually the interest rate on your savings and loans is very different and your solvency decides whether or not your bank thinks you are credit-worthy to get your loan.

Additionally we assume that the consumers save their extra income, even if the hiking tax rates aren't expected to come during their lifetime. Because of these unrealistic assumptions, the Ricardian equivalence theorem has been criticized throughout the years, especially by the Keynesian economists.

But if tax cuts seem a highly popular way of achieving economic growth, could the Ricardian equivalence theorem be true? Are people really saving their extra income and wait for the tax rates to rise again to offset the debt taken during the tax cuts?

We have to remember that we live in a historical time. We live in the time where the interest rates are negative and debt investments offer practically zero profit for investors. The interest rates on the loan that you can get from your bank are historically low. Could this make a difference toe the situation?

Interesting evidence can be found from the time of the financial crisis in 2008. Studies show that the within the European Union these seemed to be a correlation between the increase in the government debt and the capital flow to financial assets (stocks, funds etc) accumulated for 12 of the 15 countries within the union. This suggests that consumers were really saving for the day when the government spending decreases and the tax rates are expected to rise.

On the other hand, this flow of capital to financial assets can be explained by other factors as well. During 2007-2008 the financial markets were booming and more and more capital was flowing to the financial markets before the crisis. During this same time, governments might have had the incentive to take more debt to finance more government spending. It just might be that the the increasing flow of capital to financial assets might not be the causality from the increased government debt. More data is required to investigate this. Inflation rate in 2007 was almost 3,5 %, way above the goal of the European Central Bank. This might also brought its spice to the situation.

So, could the Ricardian equivalence theorem exist in the real-life? Not any conclusions here.... yet.

The reason I'm writing these points down is because I'm soon in the situation where I have to face my greatest fear, my Master's Thesis. The existence and evidence for and against the Ricardian equivalence theorem is very interesting and currently the number 1 topic at the moment. I probably need to investigate this further and gather more data so that I would have sufficient material for my thesis. Then you can hopefully read my 100 pages of whether this theorem exists in real-life or not.

In The Middle Of The Cap

Time for my first blog of 2018 and this time it is about mid cap-enterprises, which have entered the spotlight in the past few years especially in Finland. Mid cap enterprises are considered as interesting among investors and economics, since investors see lucrative valuation and potential profits, economists see great potential for the economy.

Finnish company Inderes performs analysis to Finnish stocks and they are among the very few who produce information and analysis considering the Finnish mid cap firms. This partly has probably raised the interest towards these firms even further.

Usually mid cap-firms, as you might expect, fall into between of small-cap and large-cap firms in terms of market capitalization. Unlike small cap firms, mid cap firms have proved the that their business works in general and they have passed the most rapid phase of expansion. However, mid cap firms haven't entered yet the maturity stage and that's why offer good potential in revenue growth. This especially is the major cash flow driver that the investors are interested in.

So if you are considering investing in mid cap firms, what can they offer? First of all, the mid cap firms, especially the ones that aren't valuated or followed by analysts, can be undervalued. A mid cap firm in the shadows can offer hiding potential before it enters the spotlight of analysts and investors who then start to control more the quote of the stock. This combined to the rapid revenue growth could make a mid cap firm a good choice for your investment.

But I don't think that Finnish mid cap enterprises are the winning horse.

I've examined some Finnish mid cap enterprises, both listed and unlisted and I've faced some risks and specialties that we must think about. If the firm is listed and is analyzed by only one party (Inderes, for instance), whatever this party says about the stock can have a major impact on the quote. For example, if a party like Inderes decides to drop a stock from its TOP-3 list even if the stock is still performing well and the fundamentals don't change, investors might still drop the stock as well from their portfolio, causing the stock to crash several percentages without any fundamental reason. I'd like to call this the "Inderes-risk". This is because there exist no other information or quantitative analysis from the stock that the investors could chew on.

Another major risk is the business environment. In Finland, where the markets are relatively small, mid cap firms can be dependent on one large customer. The customer might have bargaining power for the firm and the gross margins can vary considerably, thus affecting the cash-flow of the firm. Also if the markets are small, how big is the potential for rapid revenue growth?

Another major concern that comes from possessing one large institutional customers is the cash squeeze caused by accounts receivables turnover and accounts payable turnover. A friend of mine who has been working with Finnish midcap enterprises, described that usually large institutional customers can negotiate long terms of payment for their bills. The mid cap-firm however commonly possess a relatively short terms of payment for its payables. If costs are paid fast and no cash is coming from the customers in the same pace, the firm might face some troubles.

Midcap-enterprises can also possess more private debt than large cap enterprises, for instance. This will cause their credit rating to suffer, which then again makes them pay higher interest to the borrowers. This increases the firms operation costs.

But the biggest problem in my opinion is the general business environment in Finland itself. In the start of the 21st Century, Nokia and the technology sector become the most important businesses in Finland. This created a need for new products, product development, product deisgn, product this and product that. This boom in Finland created an increasing demand for product oriented engineers to drive more innovations to Finland. These same engineers are now also very commonly in charge of the corporate governance of the (surprisingly, technology oriented) mid cap firms in Finland. The directors are very product oriented and might in worst cases possess no real experience in management or financials of a business. This makes also the marketing communication of these firms very product oriented and generally just bad.

So here we are. Even though Finnish mid cap enterprises are blazed all over the financial media, I don't think that they have just yet the best to offer. The corporate governance, the cash flow drivers and the potential of these firms in the domestic markets have to be evaluated in more specific to get me excited.

Sincerely, an investor of European and American large cap enterprises and value stocks.

Text: SW
Pictures don't belong to me