The value of a dollar.

Imagine I write a contract which will give you exactly 1 dollar on 1st  January of each year forever.  Now I put up this contract for sale. What is the value of this contract?

A 100$, a 1000$, a million dollars?

It turns out there is a rational answer to this question. But first lets dive into the concept  of time value of money.  What it means is that a dollar today is worth more than a dollar tomorrow due its growth potential when invested, risk and inflation.

For example a investing 100$ today at 5% annual interest would yield 105$ one year from now. Therefore 105$ a year from now is same as 100$ today at a 5% interest rate.

We can verify this with.

FV = PV x (1 + r) ^n

where FV = Future value

PV = Present value

r  = rate of interest

n = no of  periods

Coming back to our problem:

Compute the value of a contract that gives 1$ on the 1st of January of each year forever.

Assume a discount rate of 5%. [the return that could be earned per unit of time on an investment with similar risk]

To compute the value of a our contract we need to discount each payout to its present value and sum them up.

PV = FV/(1+r)^n

Present value of 1$ 1 year from now = 1/(1.05) = .95$

Present value of 1$ 2 years from now = 1/(1.05)^2 = .90$

Present value of 1$ 3 years from now = 1/(1.05)^3 = .86$

………..

Present value of 1$ 10 years from now =1/(1.05)^10 = .61$

………..

Present value of 1$ 100 years from now = 1/(1.05)^100 = $.007

 

……..

 

Note that as the no of years increase the present value of a future 1$ tends to 0.

asymptote

Using the  NPV (net present value) formula found in excel or summing all  individual present values that were computed gives us an approximate valuation of 19.85$. Note that changing the discount rate would change the valuation.

To conclude given a discount rate of 5% the value of a eternal contract paying out 1$ every year is only 19.85$ today !

 

 

 

References:

https://en.wikipedia.org/wiki/Time_value_of_money

https://en.wikipedia.org/wiki/Net_present_value

 

The Snowball

I read “The Snowball: Warren Buffet and the Business of Life” recently.  The Snowball is about the power of compounding. How Warren Buffet has applied it to his money, his business and his relationships.

I couldn’t have though of an more apt name. Now this is a person who does not use email or computers.  Rather serendipitously I also saw “Becoming Warren Buffet” the documentary on his life.  I am blown away by his simplicity.

Here is a person who doesn’t work for money and has been tap dancing to work for over 50 years. Surely We can learn something from him.

Health – We have one body and one mind. Take care of it. Warren Buffet doesn’t drink alcohol and exercises every day. What did you do today to take care of your health?

Reading – Warren Buffet is a reading machine, reading 500 pages every day. Transforming information into knowledge. Reading is one of the best investments we can make. What have you read recently?

Leverage  – Warren  Buffet transformed Berkshire Hathaway from a struggling textile company to Global conglomerate with the power of  Leverage. He was the first to use insurance premiums to buy public companies rather than invest it in bonds.  The premiums effectively were other people’s money (OPM) . Premiums collected for years before any payouts were made. How can we find ourself in a situation of leverage? I can think of automation, effective teams and unique knowledge.

Moats – Warren Buffet is a master of investing. He is an expert identifying companies with moats that are hard to breach. A moat can be thought of as an unfair competitive advantage. Berkshire is a company with a huge moat. Each time an iPhone is bought, a Coke is consumed, a Geico insurance policy is purchased and much more Berkshire gets a part of the profit. What Moat are we creating with our skills?

Time- He gives his investments time. Think Decades. What was the last time you thought about something in a decade timeframe? When we think and act in the long term the power of compounding can take effect. This applies to money as well as knowledge.

By being 1% better each day we can have an outsize impact over our lifetime. Good luck on this journey!

“Life is like a snowball. The important thing is finding wet snow and a really long hill. ” – Warren Buffet

 

 

What I learned in 2017?

Happy new year to you on this first day of 2018.  Here is what I learned.

  1. The most important thing is to cherish time with loved ones. Death is final. You and I both move towards it each moment even as  we pretend it will never happen. I lost my grandfather early in 2017  and was deeply anguished by his loss. He had led a full life, so there wasn’t much to mourn but I was surprised by my own reaction.  I read a beautiful quote by Osho “We mourn not for the person who died but for ourselves, we mourn for the lost opportunity.” That has led me to meditate more and be in the present. Make death a guide to take the important decisions in life.
  2. Persuasion is a skill every software engineer should learn. To execute ideas you care about, you will need to persuade managers, program managers,  executives and even your peers about its value. Every product you see has an enormous amount of persuasion baked in by the creator.  A good place to start is http://blog.dilbert.com/2015/09/24/the-persuasion-reading-list/.
  3. To become a better public speaker and communicator, I completed the Dale Carnegie course. This I did on the recommendation of Warren Buffet and Scott Adams. Try it out, it will transform you. I went from being a nervous public speaker to enjoying it. One nugget I got out of this is that adults are as starved for appreciation as children. Sincere appreciation shown to people will energize them. You being here and reading this post tells me that you are a seeker of knowledge and a constant learner. I wish you a very fulfilling 2018!

Why I love to Swim

I enter the water, feel the change in temperature and dunk inside. Then I swim, propelling forward as I exert my body in this amazing medium that is water. Swimming is a way to summon my attention. Attention which is constantly stolen by the internet, by phones, by people. Swimming is a way to clear clutter from the mind. A garbage collector for the mind.

Each breath utilized to move forward. Each action taken with the purpose of  floatation or movement.  Swimming is meditation. Swimming  is a reminder of life with each breath. Swimming is a reminder of death with each dive. Swimming is about living in the present and being in the moment.A good swim is energizing. That is why I love to swim.

 

Electric cars and the Oil industry

The era of Electric cars is here. The success of the Model S has started an electric car race. Now we have the Chevy Bolt & the Model 3 on the way.  The beauty of oil is that it enabled humans to store and transport energy easily. We could however see the internal combustion engines becoming relics of the past very soon. This is with major economies mandating stricter emission standards for automobiles. Where does this leave big oil?

Lets look at oil consumption per product for 2014 in the USAoil_consumption_2014.png

http://www.eia.gov/energyexplained/index.cfm?page=oil_use

Motor Gasoline is almost 50% of all consumption. A plummeting gas consumption for automobiles is inevitable in the next decade or two. If I were an Oil executive, I’d be up at night trying  to plug that gap. One answer is moving base to emerging economies. But thats just band aid, since there is a possibility that they will leapfrog to the electric car era. This has happened in India with consumers moving to cell phones without ever having experienced fixed lines. The answer according to me is not on land.

Between Aviation gasoline & kerosene type jet fuel we have just over 1% of consumption. A major reason why the Concorde failed was that it was a gas guzzler . In the electric car era that wouldn’t matter. Enter a potential growth driver. The other reason the Concorde failed was unfriendly legislation and limited routes. Big oil almost never has legislation as a problem.

Long distance battery operated or Solar planes are still a pipe dream. The time  is ripe to revive supersonic flights. I foresee a future with a 6 hour flight connecting SFO to Mumbai. If I were an oil executive, I would seriously consider investing in building supersonic airplanes. A future where majority of planes are supersonic and run on aviation fuel can save the oil industry.  The future of big oil is up in the air.

Inverse Index Funds

Just thinking. Jack Bogle revolutionized investing for small investors in the USA by making market cap weighted index funds mainstream. What would happen if someone structured a security such that its percentage ownership of the underlying index say the S & P 500 would be inverse of  its market cap? The hypothesis I am exploring is that the smaller companies have more room to grow over longer periods of time.

The way this would work is that the fund starts out as  inverse market cap weighted  and at the end of x years based on growth it returns capital and dissolves itself. The fund can then be re-established from scratch.

An alternative of course is that the smaller companies shrink drastically and move out of the index. Homework for me to run a simulation and publish those results.

why I love Tennis?

Tennis is civilized battle with the sword replaced with a racket. Tennis is about observing your opponent for that moment of hesitation. Tennis is about coming up from behind when you are down a couple of sets to win the match. Tennis is about focus and silencing your inner voice. Tennis is about living in the moment. Tennis is about believing that the next serve will be an ace, the forehand you hit will be a winner and when you barely get the ball across the net, you will stay alive to mount a counterattack. Tennis is about long term strategy and short term tactics.

Tennis is about asking questions, Can I best my opponent with a fierce forehand or a blazing serve? Or can he get the better of me in that time? Do I serve and volley or do I play from the baseline? Did that extra power on the return unsettle him? It is about adapting to your opponent and employing the right tools. There are many tools that can be applied: the serve, the forehand, the back-hand, the slice, the lob etc. It is about asking what new tools can I employ? Tennis is about statistical thinking, what are the odds of me making this shot? Okay I admit I’m not good at this. There is this constant process of learning that goes on. Tennis is about making decisions in a split second with incomplete information.

Tennis is about showmanship and making elegant shots. I relish the crack of the ball hitting the racket on a shot and the silence of a well executed serve. Tennis is about rooting for your opponent to make that hard return because it adds to the fun. A good game of tennis is energizing. Playing tennis is about loving the battle more than winning and that is why I love tennis.

The Apprentice

To be a master, one must first be an apprentice. In the modern world,  typically your first job is where the apprenticeship begins. I would prefer working on a craft much earlier than that. But, we are limited by the systems created around us like school and university. With medieval guilds no longer around, we have to craft our own apprenticeship path. The first challenge is finding masters.  Some places you will find them are Universities, Companies and Open Source projects. The software industry as dynamic it is will not afford you the luxury of one master. People move on or you do. So be comfortable with the idea of having many masters over the course of your apprenticeship.

The big mistake I made when I was younger is to think that the golden key to opportunity is a degree from an elite college. A degree is just a tool that can open certain doors and maybe give you a head start. So don’t lose hope in case you didn’t go to one. The real world only cares if you can solve a business problem.

There are in fact two keys to opportunity, curiosity and a hunger to learn. Ask if it is your time to earn or time to learn? Most of the times it will be a time to learn. To learn one must have a beginner’s mind. Use your curiosity to learn things that you like. Don’t Panic if things don’t make sense, everyone begins somewhere. Learn from books and the internet, the greatest learning tool of our time. Teach what you learn. Leverage what you have learned to get in a guild[read company or open source project] that aligns with your curiosity. This creates a feedback mechanism for you. Learn from everyone, your peers, your superiors and even the interns. Then let the magic begin, with the right people around you will learn exponentially faster and have a meaningful apprenticeship. In the path to mastery, the journey is the destination. I would love to know about the path that you have taken.

Business problems

When I am posed a question as to what is it that I do, my reply is unequivocally I solve business problems. In fact most craft’s ranging from watch making to ship-building are solving a business problem. I would define a business problem as one which upon being solved either increases profits or decreases expenses for your organization.

for example:
writing software that predicts inventory consumption rates for spacely sprockets.[increase profits]
writing software that helps reduce the number of  delivery trips that big retailer has to make. [reduce expenses]

Building software is a lot of fun as the business problems that are solved by software have the potential to be massively scalable. Lurking in your organization is a problem waiting to be solved, maybe a process that can be automated or a missing hook to an api that returns valuable data. In fact you are running a software company even if you aren’t.

It is easy to be caught up into a title of being an Software Engineer. In reality we are solving a business problem, writing software is just the tool we use to achieve it. So, my questions to you are:
1. what are the business problems that you are solving for your company?
2. what are the ones that exist but you haven’t solved yet?

Would love to hear back about both.