Sunday, February 28, 2010

Ponzi and the Pyramids

We are flawed.  Those flaws result in a variety of aberrations that recur over the centuries.  Specifics may differ but the fundamentals are the same.  Greed drives certain investment schemes that are doomed  from their inception.  It is greed that enables us to overlook the clear evidence of the coming collapse.  It is also greed that motivates us to do our best to saddle someone else with the losses when the collapse does occur.

Decades ago, a friend,.  Jane*, asked my opinion of a proposal made to her.  At a gathering in Bob's home, a group of friends, acquaintances, and strangers listened to a speaker who offered them the opportunity to rapidly turn a $1000 investment into $64,000.  The speaker made it clear  that the 6400% return on investment could be theirs in a few months if they were spend a few hours each week simply sharing the good news about this investment with friends, family, co-workers, and others.

With some effort, I was able to convince Jane that the scheme was impossible.  She decided not to invest.  At least one of Jane's friends stopped speaking to her. She was frustrated that Jane would not participate. Other friends railed at her for being foolish to pass up such an opportunity.

To convince Jane that the scheme wouldn't work (for most of the participants).  I drew a graphic similar to this pyramid.

Illustration credit:  public domain, created by U.S. goverment

The pyramid shows that if each participant is able to find six new investors,  the total number of investors will soon exceed the total population of the world  Of course the number of willing investors would have been exceeded long before that.  Once no new investors can be recruited, the participants who joined in the last few levels of the pyramid all lose their money.  More than 90% of the participants will lose their money.

Jane was no math whiz, but she got the general idea. However, I was shocked to learn that among my coworkers, folks like Jim were participating. Jim has an advanced degree in engineering.  At that time he was the manager for a group of dozens of professionals.  He was responsible for budget management and profit and loss for an entire product line at a major electronics corporation.  Only God knows Jim's heart, but from what I knew of him, he was an honest man.  Yet somehow, he was helping to build the pyramid when a few simple calculations could reveal that it was doomed to failure.

I don't know if Jim  lost money.  Once a pyramid collapses, virtually none of the participants will talk about it.  The minority who actually made money fear the wrath of those who did not.  Those who lost are embarrassed by their gullibility.  There is an additional incentive to stay quiet: the entire scheme is illegal.

There are a many variants of the basic pyramid.  They have a few things in common.  Only the very earliest participants have a shot at making a profit.  New recruits are always told that they are "getting in early".  The fact that most participants will lose their money is denied, ignored, or said to be irrelevant because "we are getting in early".

Pyramid schemes are illegal.  To circumvent that difficulty, the scam is presented as a "multilevel marketing opportunity".  As with the pyramid, there an initial investment is required.  The participants are told to sell a product or service and keep a small profit from each sale.  If it stopped there, the opportunity to make money would vary depending on the skill of each new sales person, the desirability of the product or service, the size of the market and so on.  It is the multilevel aspect that should raise suspicion. In addition to selling products or services, each participant is exhorted to recruit a next level of participants who will also sell.  The person who successfully recruits some number of participants in the next level, receives either a cash bonus or a cash flow created from a small percentage of that next level's sales.  Every level is expected to recruit the members of a next level.  As with the pure pyramid, the number of participants soon swells beyond anything sustainable.
The majority of players lose their investment.  There are attempts to make multilevel marketing illegal in case where it is clear that the major incentive is recruiting new members.  However, the gray zone is large enough to house any number of such schemes. Long distance phone cards. Household products.  Dietary supplements.  Those are but a few of the items pushed in multilevel marketing.

Ponzi schemes are a variant where a small number of people benefit a lot by convincing many other folks to trust them with their money.  The return on investment offered ranges from very high to just consistently better than that available from legitimate investments.  Participants are allowed to withdraw earnings on their investment.  But the supposed earnings are simply cash extracted from new participants. Eventually the folks running the Ponzi scheme are unable to attract enough new investors to sustain the sham.  A spectacular recent example was the investment firm run by Bernie Madoff. Madoff's scam cost investors tens of billions of dollars. The phony investment firm existed for decades and brought great wealth to Madoff and a few others. The majority of investors lost all that they had invested as well as large illusory gains.

For most of us, earning money is arduous.  Saving requires discipline.  Investments entail risk.  Any offer that purports to eliminate even one of those barriers to wealth should be highly suspect.  You can bank on that.

*All names fictitious with the exception of Charles Ponzi and Bernie Madoff.

Monday, February 08, 2010

Contracts, Warning Labels, and Liability Releases

Photo credit: Don't Do It from brettneilson

Addressing a meeting of the American Association for the Advancement of Science in 1931, Alfred Korzybski said "The map is not the territory." A map is, of course a piece of paper covered in lines and printing. When I hiked the back country, I fervently hoped that my topographical map was a faithful representation of the trails I followed and the hills I had to surmount. On at least one occasion, I followed a trail to the summit of the Squaw Valley ski area, only to learn that the return trail I had planned to use was on the other side of an unscalable cliff. I read the map well enough, but it did not include sufficient detail to alert me to a cliff that was undeniably there.

In the same sense that a map is not the territory, a written contract is not an agreement backed by commitment and good will among those who sign it. For millenniums the most solemn pacts, treaties, and contracts have been made and then broken. Nonetheless, we are using more and more contracts of greater and greater complexity. The contracts have become so complex and lengthy that even an expert lawyer has to study one long and hard to deliver an opinion on its applicability to a specific situation. Any two lawyers might easily disagree. Furthermore, contracts are often signed by folks without access to legal counsel. Worse still, contracts are often signed by at least one party who has not read it at all.

Software can be expensive to create and cheap to copy. Consequently, buyers are required to sign a legal agreement regarding making copies and terms of use. Very few of buyers read the terms of use. The percentage is likely so small as to approximate zero.

Consider the Microsoft Service Agreement. Those who buy Microsoft products must accept it. The agreement is 12 pages (6594 words) long. Plus the main agreement refers to ancillary agreements, such as the 6 page Microsoft Privacy Policy. The privacy policy references the Microsoft Anti-Spam Policy, a mere lightweight at 460 words. These agreements include far more than a prohibition on copying the software. There are limits on Microsoft's liability. There are conditions on how the software may be used.

Similar agreements are required by most companies who sell software.

There is no value in those agreements. U.S. software is presumed to be copyrighted once it is written. Besides, what sense does it make to require someone to indicate agreement, when it is well known that they have virtually no knowledge of what they are signing.

The same applies to the "liability releases" that we sign continually. My sons loved paint ball competitions. To enable them to participate, I sometimes signed releases that said I couldn't sue the paint ball range, even if they harmed my son on purpose! That sort of release would be useless in court. We cannot sign away another parties's responsibility to take reasonable safety precautions.

Whether or not an agreement is required, warning labels proliferate. There are incredibly stupid warnings such as "Do Not Place Feet or Hands Under Mower Deck". We see coffee cups with the warning: "This Coffee Is Hot". Many common objects are covered with various warnings, and even if the object cannot support the labels, the same nonsense is included in owners manuals.

Contracts can be a valuable way to insure that the parties involved have carefully considered what they are agreeing to. However, our current plethora of boiler plate contracts, labels, and liability releases have become as ridiculous wall paper covered in print saying "running into this wall at high speed may result in injuries".

Legalese nonsense will continue to proliferate until a few brave citizens or companies dare to do business without it.

Meanwhile, please be aware that reading these blog posts can result in eyestrain, headache, blurred vision, and somnolence. Consult with your health professional immediately if you experience any discomfort whatsoever.

Popular Delusions and Madness Revisted

Photo Credit: Nazi Rally, Nuremberg 1934

Extraordinary Popular Delusions and the Madness of Crowds, was written by Scottish journalist Charles Mackay, and first published in 1841. I highly recommend it. I confess, however, that certain aspects of the book are deeply disturbing. The book includes a selection of investment bubbles which resemble the Enron, Dot Com, and Credit Default Swap stories of our era. Mackay confirms that the madness has existed for centuries. The book is not limited to financial follies. Alchemy, witch hunting, and the Crusades, to name just a few, reveal that the delusions crop up in every arena: science, spirituality, and affairs of state.

Since the second and final edition of Mackay's book was published in 1853, humans have had an additional 16 or 17 decades to devise new, yet eerily similar, schemes for bring about financial ruin, persecution of innocents, and world wide religious wars.

In future posts, I will examine delusions prominent in the second half of the 19th century and the entire 20th century. As for the 21st, although I see a number of likely candidates, it is probably too early to document our current delusions.

Thursday, February 04, 2010


photo credit: Book Rowsby Jasoon

Thirty million book titles have been printed. Clearly the idea of being well read does not mean reading a substantial portion of those titles. At the rate of one book per week, a person with an 80 year "reading life" would read approximately 4,000 books. Even at one book per day, 80 years is only enough to read about .1% of those thirty million titles. Assuming each book is about an inch thick, 4,000 books would require more than 300 feet of shelf space. A modest size shopping mall bookstore has about 20,000 titles on hand. The book superstores have about five times that many.

Now that online bookstores exist, millions of titles may be available to anyone with an internet connection.

I'm not sure that the term "well read" has any useful purpose now, even if it did at one time.

Most of the books I have read have been for entertainment. A small number like my college calculus text were strictly for learning purposes. Some subset of the books I read for entertainment are also informative, even edifying at times.
There is only a small number of titles that I have read more than once. The bible tops the list with more than 20 readings. The Lord of the Rings trilogy is number two with about 12 readings. After that I can remember perhaps dozens of books that I have read twice, but certainly less than 100 (uh, not counting certain kid's books that I read over and over again to demanding toddlers).

At most I average one book per week. So if I live to be eighty (and keep reading!) I have time to finish another 1000 titles. I was shocked when I first did that calculation. A thousand books feels very limiting to me. I suddenly regretted all the poor quality titles I have read in the past 50 plus years. I also regret that my choice of books has been so incredibly haphazard. I don't know what reading plan I might have followed, but I do know that I haven't followed any sort of plan at all.

Of course, I have read a lot more than just books. I think of stacks and stacks of newspapers, magazines, brochures, junk mail, e-mails (well virtual stacks), and more. I have definitely benefited from reading. No question. What I wonder is, could I have benefited more by reading less or more selectively.

During most of my life I feared that I read too little rather than too much. Now I think more in terms of having read valuable things versus useless ones. But how shall I value any given bit of reading? I really don't know.

I am having one of those days where I question the value of just about everything I have done. I'm glad that loving my family and having a few friends has been part of the equation. I have also prayed a bit and served a few folks. However, a great deal of what I do seems utterly purposeless.

I pray that I will be more able to do work that pleases God and spend less time worrying about it. Colossians 3:23

Monday, February 01, 2010

How I Met GOD

photo credit: God is moon by Grégoire Lannoy

One day a friend and I were shooting arrows straight up and seeing how close we could let them land without flinching. We took a break and talked about God. I think I was 10.

"God, if you exist, show us right now. At least send a lightning bolt or something."

No show, no bolt. So we were pretty sure that the whole God thing was just made up.

For a kid dumb enough to rain arrows on himself, you might be surprised at how smart I was in science. I loved it. I studied it for fun. By the time I was 14, I had won a science competition over 400 other kids. I pretty much cheated. I studied the general science book that all the questions were to be taken from. I read it cover to cover. The book didn't mention God.

Years later. I was an engineer. I helped invent computers, the Internet, and LEDs. There were probably only a few million of us working on that stuff. We divided the work into pieces. Really, really small pieces. Nonetheless, I felt smart.

I continued to love science. In my early thirties I performed an experiment to see how much alcohol and illicit drugs it would take to destroy me. It took a lot. My zeal for the experiment waned. I decided to shut it down.

Now I had a chance to do personal research on how hard and how miserable it is to quit. Various people told me that I would probably fail to stay quit if I didn't get help from God. Oh yeah. God. I hadn't met him and was still almost positive he didn't exist. That made it hard to ask him for help.

I started reading books that did talk about God: The AA "big book", William James, and Carl Jung. I decided God was really just a name for some of the amazingly complicated chemicals in my head. I was a lot more comfortable then. I knew quite a bit about complicated chemicals.

However, I realized I had not spent much time thinking about the chemicals named God. Now that my life was on the line (not to mention my comfort), I decided I better put a high priority on getting to know God better. I decided to spend almost as much time thinking about God each day as I spent listening to the car radio while commuting. Major commitment.

Apparently talking to yourself is actually good so long as your self is really big and important. I figured the God chemicals must be the big, important factor since the rest of my chemicals composed an o.k. human, but not one that could inspire worship from anyone other than a dog.

Of course I am simplifying things a bit. I knew God wasn't just chemicals. I knew there was also electricity and a lot of genetic information painstakingly crafted by eons of accidents. Once again, I realized I was smart. Most people did not understand how accidents could result in people.

I did.

I wrestled hard with my own head, seeking to get a glimpse of the God part of it. I really needed to get to know God, because I was having a very tough time staying quit, just like everyone said I would. I even got up early most days to make time for wrestling. I hate getting up early. Early is a sharp pain, whereas late is just a dull ache.

I got frustrated. I thought to myself , "I need to work harder on my concept of God."

That was when GOD chose to speak to me. GOD said, "I am not your concept, you are my concept." Speak is the only word I have for it. But it wasn't a matter of vibrating air molecules. Neither was it that little voice inside my head that I use for talking to my self.

I was scared. Not because I thought I was hallucinating, but because I knew I wasn't.

I knew I had met GOD.

Over the past 25 years or so, I have gotten to know GOD much better. However, when a person is infinite (well, three persons), the things you learn seem quite small compared to the things you still don't know.

I don't feel as smart as I did. I am, however, much happier.