Charts #27: Carol Dweck's Growth Mindset

Carol Dweck's seminar work has resonated ever since I found it on Google. It links back to work, education and personal improvement. The FT chart below is a keep.

We might have seen how fixed mindset people trap themselves in their own bubble. By ignoring feedback, they are locked in their own deterministic world. The way to defeat them is then working hard on our own growth mindset. Find lessons that move us forward and widen the gap between us and them.

This could be continuously reviewing the options, working together with like minded peers and innovating much faster and better than fixed mindset people who tend to work alone. We must also be vigilant and not slip into fixed mindsets ourselves. As the Marines would say,

"The only easy day is yesterday!"

Merry Christmas! Huat Ah!

Negative Yielding Corporate Bonds

There are c.$13 trillion of negative yielding bonds globally. This accounts for 25% of all investment grade bonds. Please take a minute to digest this. Investors are willing pay $13 trillion for an investment that would not give them back their principal. This amount is a quarter of the bond market. This is the warped logic that the world of investing has come to accept.

It first started with sovereign bonds. When the ECB went into negative interest rates to boost the economy, the governments who could get away with negative bonds issued them ie Germany. Japan then followed suit. It was initially thought that the arrangement would be temporary, when the economy gets back in shape, we can stop. Well, we didn't.

The chart above from Bloomberg shows the magnitude and breakdown of negative yielding bonds. Today, corporates are issuing negative bonds as well. This is an excerpt from a reputable internet news source:

Siemens (SIEGY) borrowed €1.5 billion euros ($1.6 billion) over two and five years. Those bonds offered a zero coupon (interest rate) and were priced with negative yields, meaning investors are effectively paying to lend the company money if they hold the debt to maturity. The remaining €2 billion euros ($2.2 billion), borrowed over 10 and 15 years, offered tiny rates of interest. The two-year note, whose yield reached minus 0.315%, was "the most negative yielding corporate bond ever to be priced in the primary market," the source said.

As this went on, experts realized a few things about negative yields: it is like drugs or steroids. Once you are on it, it is very difficult to get off. It has certain positive impact but the side effects can be very bad. In finance, it was believed that negative interest rates would boost lending, force people to put money to work and hence bring the weak economies back to 2-3% growth. But instead, the side effects are manifesting.

Asset prices distortion: negative interest rates had brought down global returns. Recall the lessons in basic finance. Asset returns are based off risk free rate. This was the return on government bonds, usually the 10 year bond. It used to be 3%. After the Global Finance Crisis, it went down to 0-1%. Today it's negative! When the risk-free rate is negative, all the returns of the different asset classes are affected. Investors used to demand 8-10% returns on equity, maybe now they are happy with 5%. That is why we are seeing for 30-40x PE stocks that many are happy to buy. 

Real estate is the big beneficiary. Why has Singapore property market gone from S$1,000 psf to S$1,500 and S$2,000-S$2,500 psf? Did Singapore really more than double in attractiveness? Did the property developers suddenly make much higher quality condominiums with a smaller balcony and better interior? Did our government really make Singapore super attractive in with lots of greenery and better MRT, better healthcare in the last ten years? I think it is just global negative interest rate in action. Global property prices in global cities have been going up. Asian cities have reached 1+% rental yield. This means that it will take almost 100 years to recoup your capital if you don't sell. Singapore leasehold properties are only for 99 years.

Private equity markets gave us another interesting story. With negative yields, investors started hunting for returns everywhere. They found hundreds of unicorns - startups and disruptive technologies that promised to change the future. Alas, most aren't real. We saw how WeWork blew up. Uber and Lyft also saw the share prices plunged. Investors were willing to put a lot of money into dreams about rainbows and mythical horses because there was simply too much money around and nowhere to invest to earn good returns.

To sum it up, we are now in unchartered territories and we must proceed in prudence to find the optimal way forward. First, own at least one property because we don't want to get caught short. Property prices are not going to fall as long as negative interest rates continue to dominate the bond markets. Next: focus on equities because it would continue to grow with bonds becoming less attractive and private equity being too cowboy (re: Theranos). We also need to tweak how we use valuations. We can no longer work with 15-20x PE in the new negative yield regime. Maybe we have to buy good companies at 30x PE. The new cheap could be 20x PE. Hope this helps!

Huat Ah!

People, Management and Networking - Part 2

In the last post, we talked about people and management in companies. Today we shall delve into personal networking and how it can help us become better investors. Investing is too difficult to be done alone. While there are probably some super smart, genius investors who require no mental sparring partner to come to the best conclusions about stocks and investing, most of us do.

Warren Buffett has Charlie Munger and George Soros had Stan Drunkenmiller. Most of the best investment outfit in the world are made up of small teams and the decision makers constantly challenging one another's assumptions. That is the best way to come up with the best answers. There might be heated arguments but there are no hard feelings because everyone has a bigger goal - to earn money or don't lose money. The investing team is the all important network to achieve success.

For the team to function well, all teammates have to trust one another. They must understand that it's about coming to better conclusions. It takes a lot to achieve that. Teammates need to respect one another, understand hierarchy and keep personal ego in checks. When the team gets too close, it is also about giving space to one another. Some people like to keep working relationships professional, so it's important not to force them to network during their private time. Most importantly, we never betray our teammates. No games, no politics. We should even think carefully how our words could hurt.  Don't say things that we would regret. Actually, this last point goes for every kind of relationships.

Trust takes years to build and networking takes time. Hence it is better to start young and start early. Most of us don't really realize it in school but that's probably one of our first networks. We spend two, three or sometimes six years together. We had common goals - to tackle examinations. We were too young to play politics. So it was all fun and laughter. As we age, it gets harder to build good networks. Ultimately, a network requires some bigger common goal to bind everyone together. It could be investing, it could be a common hobby or religion or volunteer work. So when we want to build a new network, we need to think clearly about the goals and whether the people are committed to the same goals.

These goals must also be clear or else politics would take over. This happens too often in the corporate world. Just think of any large MNCs, like Unilever, Singtel or General Electric. Does everyone share the common goal to make General Electric the best conglomerate or Singtel to become the #1 telco in Asia? Even in an investing outfit, does everyone think more about making money for the firm or for themselves? Is it really profits first or is it a beauty contest in many ways? What about the KPIs for back office people who are not involved in direct investment decisions?

As the network gets bigger, hierarchy naturally needs to come in. To bind people to the common goals, we need leaders. The top dog has to lead with vision and strategy. The middle managers need to lead their teams to achieve their goals for the firm to achieve bigger goals. After a while, it all tend to get messy. The best companies can keep finding good leaders and do this for a long time. Like 30-40 years, some companies can last for 100 years. That's perhaps the best outcomes. So while we say buy-and-hold, it's not forever. The best compounding happens during the phase of growth with strong leaders, good networks and great products.

Next topic, what makes a great leader?

It is said that leaders are born. We see it in kids, some kids tend to lead with ease, while others follow. There is some truth. However as we grow in life, we have to lead. We may not lead 100 people, but we must at least be able to lead our own nuclear families. With that skillset, we may expand to lead a team of 5-10 people. So, to move forward in life, everyone needs to learn to lead. To be good leader needs to nurture and find his or her own leadership style.

There are many books written about leadership. They are all important. Leadership is about vision, leading by example, action, presentation, communication and many more. When it comes to people and networking. My realization is that leadership is also about one-to-one relationship. Network of a leader is being built from one person to another. A leader needs to speak to each and every teammate one-to-one. Build that trust from person to person.

But not everyone will connect. Network needs chemistry. Sometimes we just cannot stand some type of people. We should not shy away but keep trying. A strong team needs diversity. If a leader only works with people he or she likes, the team is that much weaker. Differing personalities could be overcome either with strong vision or goals or capable teammates. Some teammates are very good at binding different people together. Leaders must learn to identify these individuals.

A strong team of 5-6 can conquer the world. Singapore's forefathers was such a team. Two capable founders can also create wonders. We have countless examples of these teams: Google, Apple, Honda, Sony, Irwin's Salted Fish Skin. Never stop finding those teammates. As a result of our evolution, it is said that the largest teams could only be 100 to 150 people. This was the magic number with tribes and villages since prehistoric times. In other words, we can only build deep relationships with that many people in our lifetimes. We cannot have 1,000 friends and be close to them all. At the very best, we can be "close" to 100-150 people in our lifetimes. That's still a very tall order.

In reality, we will only be very close to few people. Maybe 10-15. Amongst these 10-15 individuals, we should then find the best mentors and also tutor mentees. Mentors are people who will make us better. Mentees are people whom we can make better. Ideally, our better halves should also become our mentors and our kids our mentees. Fortunately or unfortunately, life doesn't work that way haha. Nevertheless, life will be that much more meaningful with these networks. Are you accountable to anyone? Who are your mentors? Have to been useful to anyone else? Answers to these questions tell us a lot about our own networks.

Do find time to thank people who made us who we are and do the same, pay it forward. Huat Ah!

Books #7: Bad Blood, Secrets and Lies in a Silicon Valley Startup

Bad Blood depicted the story of Theranos from its inception to its bankruptcy over the span of 15 years. At the heart of the story was Elizabeth Holmes, the blue eye blonde who dropped out of Stanford to start her healthtech company aimed on revolutionizing blood tests. Alas, it was all a big fairy tale as Theranos never had any breakthrough technology nor the culture to bring anything together. It was a slow motion corporate train wreck and a cautionary tale with many lessons for investors to learn from.

For those who aren't familiar, Theranos was another Silicon Valley startup trying to change the world. But it's not like the typical tech or internet startup with a new business model. Healthcare is not software or e-commerce. It directly affects people's lives and is tightly regulated. Elizabeth Holmes believed she was destined to change how blood tests were performed after she experienced SARS in Asia. She saw firsthand how people suffered during the early months of 2003 when SARS broke out. There weren't enough nurses to draw blood, nor blood analyzers that could process results faster enough. Nurses and doctors themselves succumbed to the deadly disease. Hell broke loose and a lot of people died. She happened to be an intern in the middle of all this, in Singapore! That's when she thought the world needed a blood analyzer that could give results with one drop of blood.

She truly believed the world needed better blood tests to save lives and she was the messiah.

But vision has to be grounded in reality. She, her partner, or rather partner-in-crime and her board did not have the experience nor the technical background to understand it would not be possible without years of R&D. For most of us going through routine health checks, the dreadful blood test required 3-4 vials of blood drawn from our forearm's veins. Just simply going by blood volume, to reduce vials to drops of blood required for the tests meant a 100x improvement, very roughly speaking. It's a moonshot, using Google's lingo. Yet, this is healthcare, not software. It would take years, or even decades to achieve these results.

It might still be possible if one had the amount of resources to throw at the problem. Silicon Valley had the money, the talent and the drive and grit to do all that. But Theranos was a different story. It was led by a 19 year old university dropout and a super villain. For reasons unclear, Holmes fell in love with this Sunny Balwani who would wreak havoc in her company, randomly firing people and threatening ex-employees with lawsuits. The culture became toxic, good people left. Bad people thrived. Evil deeds were condoned. It was just crazy.

Sunny and Holmes

As the author of the book put it though, ultimately it was Holmes. She had the last say in almost everything. She endorsed the tyrant and all his despicable actions. So, when a villain is protected by a queen (or a king), then it's game over. Reading the book provided the revelation how warped our society had become. It took so much for this incredible story to come out because powerful people with money and connections played with justice. Imagine all the other stories where the villains are still controlling peoples' lives. As individuals, we have to be able to recognize these situations fast and move on. Well, unless we have the means to bring them down, like having lawyers with bigger guns or strong connections to powerful media like the Wall Street Journal.

As investors, there were also important lessons. The first one relates to stories with all the rainbows and unicorns that had dulled our senses. In recent years, we heard so many rainbow stories and saw so many unicorns and wondered why hasn't one landed in our own portfolios. As such, we suffered from the fear of missing out (FOMO) and forgot to be vigilant. Last count, we have over 452 unicorns according to techcrunch.com. 

The Unicorn Leaderboard now lists 452 companies, which have collectively raised $345 billion and represent a cumulative valuation of $1.6 trillion. Go back to February 2018 and there were just 279 companies, with $206 billion raised and valued at $1 trillion. In just 15 months 170+ companies reached unicorn status, raised $140 billion more and added $600 billion in company valuations.

Rainbows and Unicorns back in 2017

Unicorns were supposed to be so rare that we don't get to see one in decades inside fairy tale stories. Yet today, it's everywhere, in our real world. How many have real gamechanging technology? How many doesn't really have anything, like Theranos? How do we tell which unicorns are real unicorns? Despite having luminaries such as George Shultz and Henry Kissinger on its board, Theranos was a fraud. If the board didn't know, how could investors have an edge?

So here's the last lesson from the book - nothing beats boring due diligence. We cannot trust the board in private companies. We cannot trust fellow investors to do their homework. In private equity investing, we like to look at what's call the cap table - who else has invested. We like to think these other smart investors would have done their homework. We like to think the board would have done their job. The Theranos story tells us otherwise. 

Nothing beats boring due diligence. We have dig through the dataroom ourselves. We have to go further still, tumbling down the rabbit hole. Talk to past employees, find the financial models that value stock options for rank and file employees, scrutinize management and be very careful of companies that keep talking about trade secrets and proprietary technologies. 

It's hard work. Blood and sweat. Still, there's not guarantee we can live happily ever after. Welcome to wonderland and happy unicorn hunting!

Charts #26: If all of us exercised...

Did this crazy calculation some time back.

If everyone did nothing but exercise, we can produce 9% of the world's energy!

People, Management and Networking - Part 1

Investing is fascinating because it touches so many facets of life. We need to know finance, we need to understand business models. But that is not enough, we have to look out for trends and what are the new innovations in life and in society. Finally, we also need to look at people and culture.

People, or rather relationships, play complex roles in both business and life. We can read a book and learn a few lessons, but most of them are just being understood at a very surface level. When the same lesson is shared via someone's life story, it gets reinforced. Often, if the same lesson is shared by a mentor, a guru or someone we highly respect, then we tend to absorb and follow the instructions given or are in the much better state to avoid the mistakes altogether.

That's the power of relationships and understanding people.

In analyzing companies, we need to look at the people running them ie the management. The same relationship rules apply and we need to understand some of these dynamics at play. Who is in charge? Is it a dictator or does he has a team? Who are the top lieutenants and what are their backgrounds? How do these senior executive present themselves? Do they even bother to meet investors? Is the company culture healthy or toxic? These are people questions that shrewd investors have to ask.

Having said that, Warren Buffett made the famous saying about people and business model:

"When a management with a reputation for brilliance tackles a business with a reputation for bad economics, it is the reputation of the business that remains intact."

This is obviously very true. While people is important, what's more important is the business model and the business moat. Nucor comes to mind. Nucor is in the steelmaking business. It is a very bad business because there is a lot of competition and steel is a commodity. Nucor's management is known for brilliance and has relentlessly improved the company's competitiveness and created good shareholder return.

As shown above, it's share price has compounded nicely from $12.45 to $54.85 over 20 years. Part of it was helped by the commodity super cycle during 2005-2009 when China drove up most of the world's demand for steel, copper and other hard commodities. Without which, Nucor's performance would have undoubtedly suffered. So, while Nucor's performance is great, it's only in the same ballpark as the S&P500 which grew from 1,100 to 3,050 over the same time frame.

In a nutshell, analysis of the business model always takes priority. Once we figured out it's a good business, it's more than 50% of the work done. A good business generates strong cashflow and strong returns for investors. Then we think about people and management. As discussed in previous posts, the first thing about management is integrity. If management cannot be trusted, then we cannot do any more analysis right?

So assuming management is trustworthy, we can then look at the team dynamics, the board composition, succession planning, track record and all the other stuff. For young companies, it might also be worthwhile to look at who's in their circles. Who are their mentors? Are they looking up to the right people and getting the right advice? What do the past teammates say about them? Who else are in their networks? These are all part of the analysis.

By analyzing networks, we can gleam insights into companies.

The internet age has not reduced the power of networks. We can have 1,000 friends on Facebook, some celebrities have millions of followers and some posts can have 10,000 likes but we still go back to people we trust. We still rely on the word of mouth. Networking continues to be an important part of investing and life.

So while we analyze the companies' networks, we also need to build our own network. Who are the fellow investors that we are talking to? How many investing networks do we have? By having the right people in our network, we stand to gain so much more. This is a very tedious process. Networks are hard to build. It takes years to build the trust and friendship. It is also important never to break that trust.

Human relationships are probably one of the most complex and least understood fields in life. In the next post, we shall try to breakdown networking into its most basic building blocks and understand how that can help us become better investors and also better people.

Thoughts #18: Money Flees When You Need It

The recent collapse of Thomas Cook brought about an old revelation: money flees when you most need it and vice versa ie money attracts money until extraordinary investing returns are longer possible. On the former, Thomas Cook's share price below shows the story well.

Thomas Cook, the 178 year old company was not in any kind of trouble until late last year. Its share price was healthy and it even added airline capacity to capture strong demand during last year's summer. As usual, it was the bond markets that first saw the warning signs. Thomas Cook bonds started showing signs of distress when its prices traded down significantly in Oct 2018. Once the rumour came out that the firm might be in trouble, everyone withdrew support...

“There’s been a continuous knock-on effect,” said Richard Clarke, an analyst at Bernstein. “Their suppliers get wary, hotels ask them for more money up front, consumers become less willing to book with them . . . I’m sure that’s why we’ve seen continuous increases in the size of their rescue package.”

The excerpt from FT above captures it all. The financial industry works as such. Not only do suppliers and banks withdraw support when needed, short sellers short the stock, bond traders either sell the bonds or buy insurance against their bonds, further pushing up the price to insure and reinforce the notion the company could be in trouble.

Olam Lives!

It was the same story for Noble. When there's news of trouble, everything just go downhill, fast. The story for Olam panned out quite differently though as it got help from first Temasek and then Mitsubishi Group, two powerhouses that changed its destiny. When there's enough money, it attracts more. Today, Olam trades at a healthy SGD 6bn market cap.

The lesson learnt (or to relearn) here: leverage is a double edge sword. Be doubly careful of companies with too much debt, payables, hidden liabilities. When money smells trouble, it flees. A vicious cycle forms, bringing down businesses quickly. When things go too well, money attracts money, the big gets bigger and the strong gets stronger.

Books #6: Shoe Dog

This post contains spoilers for Shoe Dog, if you intend to read the book, click the "x" at the top left or right corner of the browser right now, thanks! Do come back next week!

Shoe Dog written by Nike's co-founder Phil Knight was published in April 2016. It was written in plain English and immediately shot up the bestseller list as one of the best business books ever. Phil described how he tried to build up Nike, the difficulties he faced, the juggles between work and family and the seemingly insurmountable task to beat Adidas, which in 1965 probably 100x bigger than Nike. It's really must-read for anyone who wants to startup a company.

We tend to see only the end result of spectacular startup successes and think we can do it. One tagline to encourage more startups in Singapore goes like this, "Tired of a 9-5 job? Start up your own company, be your own boss!" It is the same trick used to entice thousands to become Uber drivers. It's never that simple. The greater the success, the greater the effort put it to achieve it. Are we actually up to it? What is not said is that working at a startup is not 9-5 but 24x7x365x10. To be really successful, both the CEO and the new team have to work 24 hours a day, 7 days a week, 365 days for 10 years or even longer.

That is what it takes. It's a competitive world. It's the same story in all arenas of spectacular human achievement: gold medalist in the summer Olympics, Nobel Prize winners, Jeff Bezos at Amazon, Stan Drunkenmiller. You name it. Even in Singapore, past President scholars - how many hours did they put into their studies? Robert Kuok. His memoir was also published recently. Gosh, how hard he worked. That's the reality. The greater the success, the greater the effort put it to achieve it.

The story of Nike's employee #1 Jeff Johnson also came across memorably for me. He was Phil's good friend and a reliable worker. So Phil tasked him to do the most difficult stuff like firing people and then sending him across the country to restart the new office that was in a mess, with no advance notice, no resources and best still, no increase in salary. It's usually not a one man show. Great endeavours require great teams.

Nike was fortunate to have such a team. In my mind, Shoe Dog was, in essence, a remarkable story about teamwork. A good team rarely exists. Think of all the organization structures all over the world. People are simply put together based on their CVs. But a real team requires camaraderie, diversity, balance, trust in good leadership and also good advisors. Phil had his coach, Bill Bowerman, the other co-founder of Nike. He was a fatherly figure and the guy who originated the idea of Nike Air. We all need mentors in life to bounce ideas, to guide us towards better solutions. This is one of the most important takeaways for me after reading Shoe Dog.

The contrasting corollary to the above is soft partnerships. We must be mindful of people who were helpful when circumstances were good. In Nike's case, these were the Japanese partners that Phil worked with. It's nothing bad because it's business. These partners are not Nike's teammates. They had their own interest to look after. So, when the winds change, they have to part ways. Phil was good at reading this and moved quickly to secure Taiwanese and later Chinese partners. That's just business. I guess the lesson learnt here is to be able to read people well and where their ultimate loyalty lies. 

To sum up this post, I would like to circle back on hardwork, intelligence, luck and success. It takes a lot of hard work to start something. But hardwork itself is not enough. Bill Bowerman's quote above comes in right here. One needs to work hard and also work smart. Innovation brings about the step change to rise above the competition. But that's still not enough, Nike's story is full of lucky encounters of how one wrong step would have meant bankruptcy. Behind one successful Nike, there are hundreds of failures. Behind every successful startup, there are many more failed attempts. 

So, it's not just do it. In this internet age, think different, do no evil, move fast, break things on top of just doing it! 

Charts #25: Trade War Update

Here's another trade war chart from BBC. The last two bubbles are simply increasing tariffs from 10% to 25%.

Interestingly, the cumulative amount of the trade war impact was smaller than Lehman's financial assets at USD 600 billion when it collapsed in Sep 2008.

2019 Market Review: The Phantom Menace

Eleven years ago this month, Lehman Brothers, one of the largest investment bank in the US, file for bankruptcy protection. It held over USD 600 billion in financial assets. The Fed and the other America banks had already engineered two other bailouts in the prior months: Bear Stearns and Merrill Lynch. Bear Stearns was sold to JPMorgan at $2 per share, along with all its assets and liabilities. This allowed the stronger JPMorgan to slowly clean up Bear Stearns' books which limited impact on the markets. Today, nobody remembers Bear Stearns. 

Phantom of Wall Street

Merrill Lynch got a good deal on the eve of Lehman's collapse, it was sold to Bank of America at a 70% premium to its last traded price. Unfortunately, it was not enough for Temasek, who bought it about a year ago and ended up losing a big chunk of its capital. But most importantly, the dirty laundry was kept out of limelight again and the buyer spent years cleaning things up. Alas, it was not so with Lehman Brothers.

When Lehman went down, its USD 600 billion of assets which was linked to trillions more was exposed. It pulled down the global financial system like a broken spider web and triggered the Global Financial Crisis. It was serious. Many believed that the worst case scenario was the end of our financial system as we knew it if the powers that be did not take the right steps. Fortunately they did.

In the aftermath, AIG, the insurer, was broken up as it insured those who bought sub-prime mortgages, including Merrill, and was on the hook to pay up the losses. The rating agencies were affected. They gave their stamps on approval to sub-prime and misled everyone. The US Treasury was also force to take over Fannie Mae and Freddie Mac, hitherto listed companies.

The GFC indirectly caused the banking crisis in Europe as banks in Greece, Iceland, Italy and UK all held financial assets related sub-prime and were in trouble. Asia was not spared. the Chinese government pumped the now notorious RMB4 trillion into its own economy to mitigate the effect of the global financial meltdown. It would continue to intervene and ultimately added close to USD 1 trillion in economic stimulus which ended up becoming bad debt as the money was inefficiently used, such as building entire cities with nobody living in them.

China's Phantom Cities

Back in the western world, the central banks launched quantitative easing (QE) to try to jumpstart the economies. They flooded the global financial system with money which ended up in the hands of a small segment of the population. These were people on Wall Street, people involved in prime real estate (including Singapore), the private equity folks, bitcoin promoters, people who dealt in art, wine, collectibles and needless to say, stocks and shares - yes all of us reading this. Not forgetting to mention, a few billions also went to Najib and the other corrupted governments around the world. Globally, QE did not benefit the masses. It causes a wider disparity between the haves and have-nots.

In retrospect, the issues today, Brexit, trade war, bitcoin, shadow banking all came about eleven years ago when Lehman collapsed. We are still suffering from the lingering effects of the global financial crisis. 

At the start of 2019, the risk that loomed large was Brexit. In 2016, the gap between the haves and the have-nots played out in the Brexit referendum and the have-nots won with 1.9% more votes (51.9% vs 48.1%). The then Prime Minister David Cameron resigned to take responsibility. But Brexit was a pyrrhic victory. The Brits wanted to leave Europe but did not know how. It was, and still is, a big mess. After two and half Prime Ministers and with one month to go, the probability of UK exiting without deal looked very high. If it happens, UK will go into a recession and millions of Europeans in the country become refugees overnight. It would be a disaster. 

Theresa May, UK's second female Prime Minister

Then, there's Donald Trump. Again he was elected because the have-nots thought he would help level the playing field. He decided that China was the root cause of all the world's issues and waged war against the Middle Kingdom. It started in July 2018 with the US imposing tariffs on USD 34bn worth of goods but soon expanded to more than USD 300bn and China hiked its own tariffs on over USD 100bn on US imports. This caused significant worry in the markets (even though it was actually smaller than Lehman's balance sheet) and global exporters and related stocks in China, Hong Kong, Japan, Germany and many parts of the world were negatively impacted. 

The trade war had also morphed into a strategic war on other fronts with Huawei being the prime example. Huawei is China's lead general in the technology war and must be killed. Cybersecurity warfare had already been fought and real world skirmishes likely occurred via proxies in countries like Syria and Afghanistan. The read should be this: the trade war will not go away, it's a strategic war. Hopefully it would not become another Cold War.

Having said all that, China has not really retaliated with a real damaging blow to the US. It could outright ban all US goods and services. It had already banned Google and Facebook, why not Apple, Hollywood, Microsoft and all other services? Well, China probably has a different thinking altogether. This trade war, while damaging now, is not a big deal in China's own big picture.

At a high level truce meeting held in late August, the delegates on both sides sat at the negotiating table behind a huge wall with a Chinese poem with an interesting allegory. China was a mountain that had been around for thousands of years, while a passing cloud (i.e. US) tried to wage a storm to intimate the mountain. It was a futile effort. In some sense, it's true. Huawei will emerge stronger after this saga. China will continue to gain technological and strategical advantage. Its brands, capabilities will grow stronger and it will have more allies in time. 

Phantom message for the US

So what does this means for the markets?

It just means turbulence will continue. The risk is on the downside rather than the upside. We have to use higher prices as sell opportunities. This situation has not change since our last market update. We are still at the late stages of the bull market. It's hard to spot when things would turn. It could continue to be like this for another 12 months. If the Fed cut rates more aggressively, the market could even rally further. Then we look real stupid selling now. But such is investing. We can never tell. So, we move in incremental steps prudently. 

There are also no signs of weak links could bring us to another financial crisis. Back in 2008, we could see the weak links although it wasn't clear that they would be so devastating. People talked about sub-prime for months before things imploded. Bear Stearns went down first. On hindsight, those were big warning signs before Lehman Brothers' bankruptcy. Today, there's no canary in the coal mine, yet. Or rather, it's still too difficult to spot. One could be Uber and Wework and the likes of startups with their diminishing valuations. The other could be the old shadow banking system in China finally blowing up or a big entity in Europe finally caving in, pulling down things as Lehman did. It's always hard to tell before it happens.

Meanwhile, Lehman's phantom menaces, so we need to stay vigilant and raise cash!

Huat Ah! 

Thoughts #17: How much can one spend?

As the 1MDB facts come to light, we caught a glimpse of the capacity of crazy rich people. Or rather, the max limit if you have unlimited amount of money to spend. It was reported that Najib, his wife and several others spent 700m ringgit or close to USD 200m on 12,000 pieces of jewellery, 284 designer handbags, 423 watches and 234 pair of sunglasses.

In my mind, I believe this marks the possible cap for a lifetime of spending for rational people. No rational person would spend more than USD 200m in his lifetime. Note that the key word here is rational. Conversely, we discussed in the first post on this blog what is the lower bound for spending. I believe the numbers had not changed much. But I also came across an interesting concept which is not tied to a fixed absolute number.

According to Mr Money Moustache, if you save 50% of your income when you started work at 21, you can retire by 38. Here's his blog below:

https://www.mrmoneymustache.com/2013/02/22/getting-rich-from-zero-to-hero-in-one-blog-post/

Activision Blizzard - Part 3: Risks

This is a continuation of a series on posts on Activision Blizzard.

In the last two posts, we established the investment thesis and laid out the positives for this stock. Today, we shall delve on the most important topic - the risks. Every investment has risks and it is important to lay out all the risk scenarios. I did not lay out the worst case scenario for Hyflux in 2011 and lost 80% of my capital. So, no matter how positive we are on a potential idea, learning the risks and debating these with other like minded friends would be paramount. Below's the key risks for ATVI.

Risk #1 - Old Franchises

Some of Activision's franchises are old, stale and overmilked. The two particularly at risk are Call of Duty and Candy Crush and together they contribute to c.20% of ATVI's annual revenue. If they do badly, we could expect a similar 20% hit to profits. This would be quite a bit of damage. Let's talk about Call of Duty.

This game came out in 2003 and had 16 titles since then. In the last ten years, ATVI launched a new Call of Duty title every year. It launched so many titles that some titles even have the same names, like Call of Duty: Modern Warfare. It came out in 2005 as Call of Duty 4: Modern Warfare and then relaunched again this year as Call of Duty: Modern Warfare. Spot the difference? 

The other peripheral risk is that Call of Duty is a console game. Together with other games, ATVI has concentration risk with 60% exposure to Sony Playstation and 30% to Xbox (and 10% Nintendo and others). If game console goes out of favour it would further exacerbate the decline of Call of Duty. 

Then, we have Candy Crush. This game came out in 2012 and took the world by storm much like Angry Birds and Plant vs Zombies. It's very simple and everyone can play. It also deployed tactics (discussed in the first post) to get people hooked. People also see through the tricks, it's not so much skill but the algorithm behind that determined whether you can clear the level. After seven years, there is only so many candies you want to match. The franchise is really getting tired and ATVI and King (the original company behind Candy Crush) had not been able to do come up with another game.

As such, ATVI needs to quickly grow other revenue (esports, advertisements, new games) to offset the decline in these two games. It's probably in the works. The management team knows these problem and it is not as if they were in denial. The risk is that these games decline much faster than expected. So, the mitigating factor here is good execution from the team.

This brings us to the next risk.

Bobby Kotick - CEO of Activision Blizzard

Risk #2 - Key Man Risk

Bobby Kotick is the CEO of Activision Blizzard, a position he held since 1991 after he bought 25% stake in the company (then Activision). He is an amazing entrepreneur, having the clear vision that gaming is big business back when gaming was just a geek niche. He engineered the merger between Activision and Blizzard. He was also big in giving back to society. With the success of Call of Duty, he created the Call of Duty Endowment to help war veterans. Then in 2016, he saw the potential of esports and jumped right into it, two feet deep by launching Overwatch League.

Over the last 28 years, he grew ATVI's revenue from USD 28m to USD 7.5bn (with mergers of course) with the best franchises in gaming. If Bob Kotick decided to retire tomorrow, ATVI share price would suffer a huge drop. Having said that, he does have a team in place with both the CFO and the COO having been in the company for close to ten years. 

Sadly, he is also often villianized by gamers for his many comments on how he could exploit games and get gamers to pay more. But that is what it's all about. Just like how we pay up for Disney soft toys and Avengers exhibition tickets. There is a tail risk if these gouging go to extremes like some pharmaceutical drugs, but we are not there yet. In short, this is a risk to watch out for but it's not a high probability event.

Worst case scenario

What is the worst that can happen?

Lastly, we need to discuss the worst case scenario - what can go wrong? Laying out a realistic worst case scenario requires experience and logic. It's not easy. The absolute worst case is bankruptcy, like Hyflux but that's not likely to happen with ATVI. This firm generated USD 2-2.5bn of free cashflow. It had so much cash pouring in it decided to spend USD 1.5bn buying back its own shares last year. It also increased its dividends by 9%.

ATVI also has no debt. It has USD 4.6bn of cash on its balance sheet at the end of 2018 but only USD 2.6bn in long term debt. But it does have USD 9.8bn of goodwill as a result of its past acquisitions. Goodwill arises when acquirers pay more than accountable for tangible assets. These are usually intangibles like brand, franchises, trademarks and synergies. In some cases, it's just bad acquisitions whereby the acquirers overpaid. But in ATVI's case, given how successful it had become, the goodwill is likely to be real and not get impaired. 

Putting things together, given its strong balance sheet, high free cashflow generation capability, the worst case scenario is not going to be bankruptcy. It would be business deterioration as discussed. We might expect ATVI to lose 20% of its profits as some of its franchises faltered. This would bring bring FCF to say USD 1.8bn (0.8 * USD 2.2bn). Over the past 10 years, ATVI's FCF yield ranged from 4% to 10% so assuming that the market then gives it 7% FCF yield (mid range) on this FCF USD 1.8bn, we would get to a market cap USD 25bn and adding back its cash, the worst case market cap could be USD 27bn. This would mean that ATVI's share price is c.USD 35.

As of last week, ATVI traded at USD 42, so that means that in the worst case, we could see another 17% downside for ATVI and if it ever falls close to USD 35, the risk reward would be really favourable. ATVI was trading above USD 80 just two years ago. So we are talking about 17% downside vs more than 100% upside.

Buy ATVI if it breaks $40! Huat Ah!

Charts #24: Malnutrition in Children

It is estimated that 150m children are suffering from malnutrition. That's 30x the population of our little red dot. While we worry about school results and whether our kids are picking up the right enrichment, children globally don't have food to eat. The chart below was really an eye-opener for me. There are malnutritioned kids everywhere!

Asia formed the biggest subgroup with more than 80m children having stunted growth according to the 2019 UN report. Malaysia has 20%. Even Japan and South Korea still has malnutritioned kids. More can be done and more should be done.

Activision Blizzard - Part 2: Positives

This is a continuation of the previous post on Activision Blizzard with ticker code ATVI.

In the last post we established ATVI's investment thesis. It is one of the best gaming companies in the world with eight strong franchises. It has a huge loyal user base across these various games and it is starting its own esports global league with Overwatch. In this post, we shall explore deeply into some of these positives as well as the risks involved (in the next post).

Positive #1 - Innovation

ATVI is one of the rare companies in the gaming world that has continued to create new gaming franchises after franchises. I first got to know ATVI when it launched Diablo which much fanfare in 1996 - 23 years ago. Back then, it was just Blizzard. Activision hadn't bought Blizzard yet. But they really marketed it quite well and we saw on TV how people queued up to buy Diablo cartridges. In Singapore, we couldn't wait to get our hands on it and played it together with friends.

Those were the days where not everyone had a gaming console or a PC, so we would gathered at some friends' place to play Diablo together. Geez, how many would remember those good old days? Then Blizzard launched Warcraft and Activision launched Call of Duty. These games were huge hits, selling millions of copies in the first few days. Then came Starcraft, then Skylanders for the kids. Every few years, it would launch sequels of the old hits and create hypes all over again. It was a formula for success. Years later, Hollywood caught on.

ATVI's biggest game in recent years

Just when the whole gaming industry lacked innovation, ATVI launched Overwatch and revived and expanded a whole new genre. Before Overwatch, gaming genres were pretty much fixed and dead. At the beginning, the old arcade genres had whole games on just one static screen (think Pacman or Space Invaders). In 1985, Nintendo introduced the Super Mario Bros conveyor-type games into living rooms with its home consoles. There was also racing, music/rhythm and sports. Then Street Fighter brought us player vs player. In 1992, Wolfenstein 3D came in as the first first person shooter game genre. This became a really big hit. Around the same time, the Japanese came up with role playing, which was slow but people somehow liked it. There were also strategy games, multiplayer online and others but things were turning stale.

In 2016, Overwatch picked up the online multiplayer first person shooter game and brought it to a whole new level. The game had specific heroes with specific strengths and weaknesses and teams with the right heroes had to train together in order to win. Strictly speaking, Counterstrike created this genre around 1999 but Overwatch made it really big by incorporate the new elements - dyamic gameplay, heroes, character backstory, variety in maps and stunning graphics. It made ATVI more than a billion dollars on its first year of release. Today, 40 million players play Overwatch and seizing the day, ATVI quickly launched Overwatch League in 2017, creating the first 12 competing teams. Overwatch became the the English Premium League / NBA of gaming.

To further enhance its moat in esports, ATVI bought Major League gaming for USD 46m to learn the know-how of managing esports. Overwatch would not be its only esports title. Starcraft had long had esports potential and we would expect more to come. In time, ATVI would be able to create its own World Cup / Olympics for gaming. Think of the revenue potential! As a quick gauge, FIFA made USD 6bn from the last World Cup according to New York Times!

Positive #2 - Ads and Ecosystem

Starting with Overwatch, ATVI had more than 300m monthly active users across all its platforms. Specifically 32m from Blizzard, 56m from Activision and a whopping 262m from King (although 97% of these users don't pay anything, they play Candy Crush for free). ATVI believes it can generate a lot more revenue from these 300m users.

Advertising is the obvious starting point. For Candy Crush users not paying a single cent, ATVI can easily show them 30 second ads as they play. This had become the main model for most casual games. To continue playing, users have to watch ads. It gets a bit frustrating, but hey, there's never free lunches right? ATVI believes that it can generate USD 200m revenue by showing ads to its 300m users.

Building on its eco-systems, ATVI had launched, or rather relaunched its own gaming site Battle.net. This site was already live in 1996 when Blizzard launched Diablo. But with its huge portfolio of games and the advent of game streaming. ATVI decided to use this as a platform for its gamers to play straight from the browser. For now, fans can only play Activision Blizzard games, but who knows, it might become an open platform some day.

Ecosystems are powerful weapons in the era of mobile and internet. Amazon built a huge ecosystem in e-commerce becoming the de-facto online store to buy anything. It fortified it with its Prime membership, putting in video and music. It makes one difficult to unplug. Google has the same strategy starting with search, Gmail, Android and its growing plethora of services. Facebook realized it was losing out and launched its own cryptocurrency for payment, backed by real currencies.

ATVI's ecosystem is still in its early days but more will be done. As a sidenote, it is expanding its franchises into movies. Skylander launched a successful series with Netflix and would have a Hollywood movie in a year or two. The Warcraft movie had a surprising hit in China although it flopped in the US. There would be more movies to come and analysts had put down a USD 50m revenue for 2019 and 2020.

Incrementally, these positives can add USD 250m to USD 500m or more if some of the optionalities like esports materialize. At USD 250m, the lower bound, it's only a small drop in its USD 7.5bn annual revenue, but still it's a good start. 

In the next post, we would discuss the risks and the conclusion.

Three Investing Adages That Are Not True

Adages are fascinating, they are beautiful and usually true. Take everything in moderation, it's universal. There is no example one can think of when this phrase doesn't work. Or better safe than sorry. It's common sense but unfortunately, also commonly forgotten. It is also the basic tenet of investing - don't lose money, look for a big fat margin of safety. That's how we make money. 

But not all adages are true.

I have had problems with the following three, the more I think about them, the more I believe they are not true. Well, to be more specific, I think they are probably not true more than half the time. Yet, there are many who would believe in them. It then reflects their nascent thought processes and maturity in the markets. Would you agree?

1. Those who can do, those who cannot teach.

2. There are lies, damn lies and statistics.

3. Don't catch a falling knife.

Ok let's start with the first one. How many times had we learnt this phrase. But as I come across this phrase time and again, I must say it is only true maybe 10-20% of the time. Teaching is a noble profession. It is as good as any other profession. It takes a certain character and special skills to be a good teacher, a good coach. A good teacher understands how to motivate others but also needs to discipline, inspire, teach and lead. How many of us remember our best teachers? Think about how they have motivated us to be our best. Every great sportsman or sportswoman had a great teacher, a coach.

The world's greatest investor Warren Buffett had Benjamin Graham, his teacher at Columbia Business School. There are also many historically inspiring teachers, Aristotle, Helen Keller, Maria Montessori and in recent times Jack Ma and J.K.Rowlings were also teachers before they became famous in other fields. Warren Buffett said it himself, if he didn't become an investor, he would have been a teacher.

Of course there are teachers who are real CMIs*. But that's likely because they were pigeon-holed into the wrong profession. They simply needed to do a lot more to be a better teacher. It is sad because when a teacher cannot perform, it pulls down a bunch of kids. Unfortunately, most education systems have rigidity that is not able to help these teachers nor the kids.

*CMI = cannot make it, used as a noun 

Scene from popular Singapore serial drama dedicated to teachers - 早安老师

It takes a lot to be a good teacher. Perhaps more so than an investor. So, it's not true that those who cannot teach. Good teachers can both do and teach. They are also the important human catalysts for creating future leaders and entrepreneurs. For Singapore to continue to progress, we need to make sure we attract the best to be our teachers. We can start by paying them well and stop them leaving schools and becoming tutors.

Interestingly, the second adage was made famous by a teacher - Mark Twain. Although he attributed the quote to the then British Prime Minister Benjamin Disraeli whose exact words were, "there are three kinds of lies: lies, damned lies and statistics."Yes, statistics can be used to lie, but data and statistics is the fundamental foundation of any analysis. To say that statistics are lies reflects the shallow thinking of the sayer. It is as good as saying aeroplanes are bad because they can be used by terrorists to crash into buildings.

Data, numbers and statistics are at the heart of value investing, or rather, any kind of due diligence. We rely on numbers and reading through the numbers to get to the truth. Yes, oftentimes, we need to question the numbers, slice and dice it differently to see the picture. But it doesn't mean statistics are lies. If there is any doubt that the people who created the statistics lack integrity, then we can no longer analyse the numbers and we need to change the people. Statistics are not lies. Statistics are tools. They are neither good nor bad. It is important to learn to use them well.

The normal distribution, the biggest subtopic in statistics

Okay and here's the most interesting of them all, "Don't catch a falling knife."

When I was a newbie investor, I totally believed in this. It just sounded so true. When the stock is going down, why would a smart investor want to buy it? Why catch a falling knife? But as I looked back at my investments over the years, this adage began feeling wrong. Even the analogy is wrong. A falling knife would eventually fall to the ground and lay still. But a stock, especially a good stock, would eventually go up. If you had done your work, calculated the intrinsic value of the company, understood the strong economic moat of the company, then you should buy when it's cheap enough. It doesn't matter if the stock is falling or rising.

We want to think we are smart enough to catch the turning point. We buy when the stock had turned up, when the knife is no long falling. Seasoned investors would know that's not possible. This adage plays different tricks to our minds and confuses everything. It assumes we can predict when stock prices had bottomed and would go up, it projects images of suffering huge pain caused by buying falling stocks. The truth is, we can always just buy a toehold position.

We cannot predict stock prices just like we cannot predict the weather. To not catch a falling knife when buying stocks is like never bringing an umbrella outside because we assume we will always only go outside on sunny days. In my mind, this last adage - never catch a falling knife is probably more harmful than helpful to investors. It sounds beautiful, logical and right. But, in reality, it's not.

Howard Marks

This truth also dawned upon me just recently when Howard Marks made it clear himself. Here's an excerpt of an interview about his views on falling knives. Obviously, he said it much better:

Marks: You mentioned catching falling knives, and my vision is that when the stuff hits the fan and there’s blood in the streets most people go like this, they say well we’re not going to buy until the knife stops falling, until the dust settles, until all the uncertainty has been resolved. But the trouble is that once that happens then the price will have rebounded. So we want to buy at a time of upset and while the knife is still falling and I think the refusal to catch a falling knife is a rationalization for inaction. It’s our job to catch falling knives, That’s how you get bargains. But you have to do it carefully.

So, next time someone tells you about not catching falling knives, you know he's a newbie. Tell him or her that our job is to catch falling knives, with gauntlets on. Some of us even have the Infinity Gauntlet. Stones and all. We time-travelled to enough alternative universes collecting Infinity Stones. If we want, we snap our fingers and the knife disintegrates. Refer him to this post and see if he agrees. 

Happy National Day! Huat Ah!

Thoughts #16: Lessons from Serena Williams' Coach

Patrick Mouratoglou (born 8 June 1970) is a Greek French tennis coach and sports commentator. He has been the coach of Serena Williams since June 2012.

 My coaching method, which I apply to everyone, involves learning to understand the player, how to speak to him/her, how to analyze that player’s game and how to work with each of them taking into consideration their particular personality. I used to say that every player has their own world and their own language, and this is something you need to learn as a coach in order to be heard, trusted and followed.

More coaching tips:

Get input from your athletes - check with your athletes to determine if what you are communicating to them is understood, what they need, and what they want. Remember, if you are asking for input, at least be willing to incorporate something (a suggestion) at some point.

Keep your athletes informed as to when, where, how, and why (and WHY is most important) - people are not generally motivated to start (or finish) a task that is not clear in terms of when, where, how, or why. Take away any questions or doubts that your athletes may have by clearly and consistently communicating your expectations and intentions. Be clear as to when, where, and how . . . but most important, be sure your athletes know "why" they are being asked to do something. 

Create an environment that allows for challenge, recognition, appreciation, and quality - some of your athletes will be motivated by a challenge, some by recognition, some by appreciation, and some by quality of performance. It is important to know your athletes and what their primary motive might be. 

Challenge some (1 v 1 against a teammate), recognize others in front of their teammates (at the end of practice or in the locker room), appreciate others in private (in your office or the hallway), and provide others with a chance to show you a quality performance (quality over quantity of work). Remember, different athletes are motivated by different situations and feedback.

Give your athletes a reason to want to work hard - take the time to develop genuine, honest, caring, and trusting relationships with your players. Athletes will work harder (and longer) for someone they know genuinely believes in them, cares about them, and is committed to helping them achieve their potential. At the heart of player motivation is the quality of the coach-athlete relationship.

Model what you want to see - be motivated yourself. If you want someone to work hard, you better be working hard. If you want someone to put in extra time, you better be putting in extra time. Athletes do what they see. This is why the motivation of the coaching staff is so important and why it is so important to have quality team leaders who can lead by example, hold accountable, and promote a climate of motivation and inspiration. Set a motivational "standard" by what you do, say, and expect. Say it, expect it, but also make sure you do it!

Activision Blizzard - Part 1: Investment Thesis

Gaming has become part and parcel of everyday life no thanks to casual mobile gaming that had captured the eyes and minds of people young and old. The industry, segregated into mobile games, PC, console and others, is today a USD140bn industry which is larger than Hollywood and music combined.

What's more, the growth is accelerating. Esports, games with millions of spectators watching professional gamers play against others, is set to grow as big as traditional sports. This comes with it ticket sales, sponsorships, advertisements and merchandise purchases which would also serve connect the internet and real lives.

Esports gonna be as big as soccer!

At the core of it all stands two companies: Tencent and Activision Blizzard. Okay, maybe not just these two, but they are definitely up there on the league table alongside Electronic Arts, Nintendo, Microsoft (Xbox), Sony (Playstation) and dare I say, Razer, our homegrown mouse powerhouse! Today, we are going to do some deep dive analysis into Activision Blizzard (ticker code ATVI).

Investment Thesis

ATVI is one of the leading gaming company in the world having grown its franchises over the past twenty years across different eras, genres and gaming devices. Today, it boasts 345m monthly active users (MAU) across 8 blockbuster titles including Warcraft, Overwatch, Call of Duty and Candy Crush. Some of these titles has also established esports leagues and ATVI stands to benefit as esports take off in the near future. It also boasts strong track records in both innovation and M&As and should continue to produce and acquire new esports franchises in the future.

ATVI has consistently generated positive free cashflow and analysts had estimated that it could generate USD 2.2 to 2.5bn in FCF in the next three years and likely grow to USD 3bn in the future. As such, at its market cap of USD 32bn today, it would mean that ATVI is trading at 6.9%, 7.8% and 9.4% FCF yield respectively. This represents significantly margin of safety for a gaming leader with strong branding and strong franchises.

So, in essence, that was the investment thesis for ATVI. The investment thesis is the reason why we want to buy a stock. It should be easily articulated and remembered. Then as we research further, we should identify the supporting positive factors and also the risks. In the next few paragraphs, we would describe industry background, business model and the positives for ATVI - brand stickiness in gaming and how it further enhances AVTI's moat surrounding one of the most solid business models on our planet.

Gaming's beginnings and business models

The gaming business started in the late 1960s and early 1970s with arcade games which later evolved into console gaming and now mobile and multi-device gaming. We are also catching glimpses of the future - game streaming, just like what Netflix did for movies and Spotify for music. The business model has a recurring income stream since the days of console gaming. This was the famous razor-blade model whereby users paid up once for razor (the console) and then made further recurring payments for the blade (the games which used to cost $20 but are now costing $50 to $70!). In game streaming, this revenue stream gets further stability as each gamer pays a monthly subscription just like today's Netflix and Spotify users.

The original Gillette razor and razor blade

In the last 50 odd years, scientists had studied gaming thoroughly and had seen the impact on human brains. In short, gaming is a form of addiction, just like smoking, alcohol, drugs, sex, casinos, chasing Korean drama, Facebook and reading investment blogs (just kidding). In the spectrum of various addictions, it is probably not as bad as casinos or smoking but it's definitely worse than losing sleep chasing Korean drama or constantly checking Facebook and neglecting your family. Games are now designed specifically to entice with cues that would trigger desirable actions which would then lead to rewards. This releases dopamine into our brains, making us feel good and hence constantly seeking to replicate this cycle.

In casinos with the slot machines, the cues would be the near misses such as lining up two sevens (while three sevens would mean hitting the jackpot) that would trigger the gamer to keep pulling the slot lever (hence burning a lot of cash along the way). Once in a while, three fruits (not three sevens) would line up and reward the players with a small payout, keeping them hoping for more. Over hours, days, weeks and even years, pathological gamblers become stuck and would squander all their monies and go into debt, leaving their lives in ruins. As this became clear, governments started regulating casinos.

Mobile or console gaming, today is not regulated. Well, first, most gamers do not spend enough to go into debt. But games work with the same principles: cues, triggering actions which sometimes lead to rewards. For instance, Candy Crush, gamers would quickly find out that it happens very often that they will run out of moves and very coincidentally, only one more move is needed to complete the level. To complete the level, one would have to fork out $1.99 for that one move. This is very powerful and 3-5% or sometimes more of the population ultimately falls for it.

Out of moves!

There are many more well research cues that game designers use to ensure that gamers come back for more. We discussed near misses, there's also level progression, rankings, competition with friends, rewarding gamers with awesome story graphics and ending scenes, rare collectors items in games and many more. Guess what, Activision Blizzard knows them all and had been using these for years.

Brands

In one of their most successful games - World of Warcraft, the average gamer spend a crazy 22 hours per week in the game. Almost 30% of players play more than 30 hours per week. That's 6 hours from Monday to Friday. In most CBD* jobs in Singapore where white collar workers do 90 minute lunches and multiple coffee breaks, the hours on Warcraft spent beats full-time job hours. Maybe some CBD workers are spending lunch and coffee breaks playing World of Warcraft.

ATVI understands games better than anyone else. But it also understands branding and marketing. The company had successfully generated so much hype for most its top franchises that almost always guaranteed sellouts. In one recent instance, Call of Duty - Ghost sold USD 1 billion dollars on its first day. As such, ATVI boasts eight billion dollar franchises namely: Call of Duty, Warcraft, Overwatch, Candy Crush, Diablo, Starcraft, Heartstones and Skylanders. It constantly rotates new sequels amongst these franchises not unlike what Disney is doing with Marvel, Star Wars, Pirates of the Caribbean, Indiana Jones, Pixar and more recently remakes of old Disney cartoons. This strategy generates some stability in an industry with constant hits and misses.

As such, in recent years, we had seen strong and growing free cashflows (in both Disney and ATVI). In the next post, we shall discuss the other positives and risks. Huat Ah!

*CBD stand for Central Business District.