Welcome to Stuff I Thought About Last Week, a collection of topics on tech, innovation, science, the digital economic transition, the finance industry, supernovas, and whatever else made me think last week. Please grab me on Twitter with any thoughts or feedback.

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In today’s post: A trillion on Twitch; 5-minute batteries; voices in your head; AI on microcontrollers; kids' streaming; wasted energy; more math on SaaS growth; the problems with Wall St.’s "risk" models; and lots more below...

Stuff about Innovation and Technology
Twitch’s Trillion
Twitch reported 26.5M average daily visitors – who watched a total of one trillion minutes of video (averaging out to ~100 minutes per day per viewer) – for 2020.

Extreme Battery Charging
Multiple battery companies are working on removing the graphite anode charging bottleneck in lithium batteries in an attempt to drive charging times down significantly, to ~5-10 minutes for an EV. Enevate is a startup working on pure silicon anodes, and StoreDot in Israel is replacing graphite with germanium nanoparticles that allow ions to pass more quickly. Notably, StoreDot claims to be in commercial production of their new batteries. (Musk has previously communicated that breakthroughs are one thing, but massive commercial scale production is quite another). If any of these novel anode techniques take off commercially, the benefits are obvious for EV adoption, especially for long-haul trucking, which requires refueling with electrons along the way. Meanwhile, as part of a plan to be carbon neutral by 2040, GM will exit gas/diesel vehicles by 2035. The clock is ticking, and GM has a lot of catching up to do across a variety of technologies. Back in SITALWeek #213, I referenced the labor union problem that legacy automakers face as they shift from combustion to EV, with the latter requiring 40% fewer hours to assemble. It’s a multi-faceted set of headwinds to say the least. As I mentioned last week, car makers might end up becoming contract manufacturers for software companies.

Apps Proliferate During Pandemic
The always informative Okta report on cloud app trends came out last week showing ongoing adoption of cloud software during the pandemic. Microsoft continued its power climb thanks to Office 365’s ranking as the #1 app in all regions globally. The number of apps used by companies has grown ~22%/yr over the last four years to an average of 88 apps. However, large companies with over 2000 employees averaged 175 apps. Growth of app usage was largest for the government, at 43% versus the prior year. The full report breaks out trends for many categories of software spending. See below for more on cloud software revenue growth.

New Killer App for Phones: Talking
Clubhouse, Discord, Twitter Spaces, and various other features and startups focused on audio-only social networking have been gaining popularity. As we move into a world of ambient audio with hearables and, eventually, ambient video with augmented reality, the movie Her frequently comes to mind (still the best movie I have seen about what our future with AI assistants might look like). Once upon a time, we humans heard voices in our heads, but we didn’t have the cognitive tools to understand that they were part of our own multi-faceted consciousness. I am not sure what the value of always having other people’s voices (or unending conversations) in our heads really would be. One thing seems certain: the increasing scarcity of quiet time will put an even bigger premium on being able to disconnect.

Morass of Valuable Kids’ TV
The enormous amount of kids’ video content is fragmented across so many apps that it seems like half of my child’s screen time is me trying to figure out which show is on which app and which smart device I need to use to play that app. But, it’s also the most valuable content for any streaming platform because all you need is one show on one app that your child likes, and you'll be unlikely to churn off of it. Variety reports on the surge in kids’ TV programming and the race to capture this demographic in the post-linear TV world before they are sucked into Roblox, Minecraft, and TikTok, etc. Notably missing is Amazon, which started strong with incredibly well done shows, like Tumble Leaf, but has since largely abandoned the category.

Miniaturized AI for the IoT
Researchers at MIT have created TinyNAS, an AI engine that can optimize for various microcontroller processing and memory capabilities. The trick researchers came up with was in shrinking the engines down while maintaining accuracy, so they could be added to a variety of connected devices (which typically only have MCUs, which lag higher performance application processors) to offer locally-computed inferences against a neural net. The lines will continue to blur between processors and MCUs, and we are likely to keep seeing AI add-ins everywhere.

Ecommerce Bump Less Than Thought
US Census Bureau data shows that ecommerce share of retail grew to around 16% by November 2020 from 13% in November of 2019, and after pulling back from a 19% peak in April. If the 16% holds (some of that is likely to revert back post vaccines), that represents a pull in of a year or two versus the longer-term trend of 1-2% offline-to-online shift per year. Ecommerce gains are far less than many charts and estimates indicated in the middle of 2020. A widely shared report from McKinsey, claiming ten years of ecommerce growth was packed into the first quarter of last year (with ecommerce surging to over 30% of retail sales), appears to be completely unverifiable hype looking back at the actual data. The shift is limited by the logistics and costs of moving the economy from a retail distribution model to a home delivery model. Those higher costs are being born by people paying more for the same thing as well as companies’ and investors’ willingness to subsidize unprofitable business models, which may prove the bigger limitation over time than delivery capacity.

Miscellaneous Stuff
Texas Vineyard, Anyone?
According to a survey by Silicon Valley Bank, almost half of US winery owners (including those in Napa and Sonoma) are considering the possibility they might sell their wineries in 2021. The main increase appears to be in the groups “seriously considering” or “likely” to sell, which tally to ~29% of owners. Texas vineyard owners seem most inclined to sell, and, with the growing Northern California diaspora in the Lone Star State, I suspect some deals could get made!

Energy Efficiency Regression
The fluvial Sankey diagram is a fascinating look at US energy usage, showing energy lost and gained along the various branches and tributaries. The long-term rise in car usage and air conditioning have more than offset energy efficiency gains. Industrial energy conservation has also dropped dramatically, as that sector increasingly uses leaky electricity over direct fuel sources. In 2019, 34.5 exajoules were used while 71.2 were wasted – significantly poorer energy efficiency than in 1950! An accelerated shift to EVs could help a lot because, despite relying on the electric grid, they have approximately one quarter of the wasted energy of a gasoline car. Speaking of leaking energy, shifting from audio to video conferencing significantly increases energy consumption, with a one-hour video call equivalent to burning up to a ~1/10 gallon of gasoline.

Supercomputers Solve Supernova
Supernovas are cool as long as you aren’t right next to one: “For much of a star’s life, the inward pull of gravity is delicately balanced by the outward push of radiation from nuclear reactions inside the star’s core. As the star runs out of fuel, gravity takes hold. The core collapses in on itself — plummeting at 150,000 kilometers per hour — causing temperatures to surge to 100 billion degrees Celsius and fusing the core into a solid ball of neutrons. The outer layers of the star continue to fall inward, but as they hit this incompressible neutron core, they bounce off it, creating a shock wave. In order for the shock wave to become an explosion, it must be driven outward with enough energy to escape the pull of the star’s gravity. The shock wave must also fight against the inward spiral of the star’s outermost layers, which are still falling onto the core.” Until recently, scientists weren’t sure how the cascading explosions occurred; but, thanks to more powerful computers, they now believe turbulence behind the shock wave provides a necessary boost in pressure and extra time for the matter behind the shock wave to absorb neutrino energy, allowing the wave to achieve escape velocity.

Stuff about Geopolitics, Economics, and the Finance Industry
Projected SaaS Growth
Following up on last week’s post discussing a framework for high-growth SaaS valuations, a reader suggested we look at how big the revenues would be for today’s public SaaS stocks at various growth rates. We took a little shortcut and tallied up revenues for the top-20 SaaS companies by market cap and added in the cloud revenues from Microsoft, Amazon, and Google. We made a couple of assumptions and judgement calls, so this analysis is purely hypothetical and not meant to justify anything one way or the other. With that warning in mind, we came up with around $138B in revenues in 2021 and $173B in 2022, up around 25% using street forecasts. Over the last five years, this group has grown revenues at nearly 40% (weighted average by sales). If they were to continue that blistering 40% pace, we would have over $2T in sales in 2030, which is larger than the estimated $1-1.5T cloud software TAM. Growing at 25% would give around $1T, and growing at 15% would give $530B. If you look at the table in last week’s email, a basket of SaaS stocks growing revenues at 25% over the next decade would have a hypothetical return of 15% if they were trading at a mid-teens multiple of forward revenues and ended the period with at 30x FCF and 35% FCF margins. 25% growth for the entire group would of course be remarkable. As I said last week, this is by no means investment advice, just a framework (with lots of assumptions) to reason through potential scenarios.

Institutional Risk Assessment Failures
There are two important parts of investing: 1) finding good investments, and 2) sizing them correctly for their potential range of outcomes. Larger positions should be companies with a smaller range of outcomes and safer predictions, while smaller positions can have a wider range of outcomes and asymmetric upside dependent upon precise predictions of the future coming true. Most institutional investors can assemble a good list of investable companies, but few can size them correctly in a portfolio. This shortcoming is largely due to investors’ serial overconfidence clashing with the unpredictability of the world around us. Most investors are uncomfortable facing the reality that they can’t predict the future (a concept we cover in more detail in Redefining Margin of Safety).

The reason I mention this risk framework is due to the topic of the week: GameStop. What we at NZS Capital have learned from studying complex adaptive systems is that we should expect the unexpected and prepare accordingly. It’s surprising how many high-standard-deviation events – with seemingly astronomically low odds – happen with relatively high frequency. But, there is a reason for that – the math most investors use to calculate risk is faulty. It assumes normal distributions, doesn’t take into account that volatility is not constant over time in Brownian motion, and assumes ergodicity, all of which are false for complex adaptive systems like the economy and stock markets. I think retail investors can and should try to beat the pros. We know they have very good odds of beating the pros long term if they just invest in low-cost index funds and don’t try to time the market. And, I think retail investors are perfectly capable of doing good research on individual stocks. Learning to correctly size those positions within a portfolio should also be within reach for thoughtful retail investors.

Now let’s bring this back to GameStop: a few institutional investors did not appear to account for the outlier event of r/wallstreetbets’ impact on GameStop stock and other highly shorted securities. To paraphrase the narrator in Fight Club: I am Brad's complete lack of surprise. Maybe they were using bad math, but they certainly didn’t internalize the idea that the economy/markets are complex adaptive systems – and shift their framework from normal distribution to power law/exponential outcomes accordingly – or consider the chaos potential from multi-agent systems. What we saw with GameStop was a much bigger scale repeat of what we saw with Yahoo Finance message boards in 1999, enabled by the democratization of stock and option trading with zero commissions (and likely assisted by institutional investors jumping in on the frenzy). Democratization of asset ownership enabled by new technologies is just getting started. We have a world that has increasingly split into two economies – one where people own and benefit from appreciating assets, and one where people rent assets for higher and higher fees from the people who own assets. Any way we can democratize asset ownership – whether it’s stocks, collectables, real estate, or access to private company profits – will help redress inequality long term.

I fear that recent events could bring regulation that stifles innovation and democratization of asset ownership. Senator Warren sent a letter to the SEC on Friday remarkably asking: “What steps will the SEC take to ensure that securities markets better reflect prices that are in line with the intrinsic and fundamental value of underlying companies?” Perhaps we could create a new cabinet position: Secretary of the DCF? (Longtime readers will detect my sarcasm on DCFs!). The idea that it's possible to accurately price an asset to reflect its future value is absurd because the future is unpredictable – it's all assumptions, estimations, and guesswork, with various strategies yielding different outcomes. The increased risk for regulation of fintech startups called for by the banking lobby complex to save their legacy businesses, which are largely based on negative-sum dynamics that take advantage of customers, is concerning. Irresponsible behavior by fintech startups is particularly unacceptable as it could push back much needed innovation in the financial sector by decades.

There is a difference between long-term investment in the capital appreciation of assets and short-term investing/gambling. Clearly, there is an element of using options, leverage, and hype that is always going to be a greater fool’s game. It’s entertainment, and everyone has an entertainment budget in their spending. Gambling and investing are both ways to make (and lose) money, but they shouldn’t be confused with each other. Both are susceptible to big losses with the wrong risk framework. Many investors, including most professionals, seem unable to fully make the distinction between gambling and investing, much less apply an appropriate risk framework. While we’re on the subject of gambling, I’d wager institutional investors engage in risky behavior to a much greater degree than retail investors, and with far greater consequences. This is no time to hamstring the newcomers. On the contrary, we should be stepping up efforts to educate neophyte investors, thereby empowering them to take control of their own financial future. This is one of the big reasons we publish all of our investing frameworks and send out this newsletter.

Everything humans do involves story telling. All short-term investing is just that – telling a story. And, sometimes, through the power of reflexivity, stories end up creating a long-term narrative that actually drives a business and creates real free cash flow. Figuring out which stories are true (and which are false) over the long term is a bit trickier, but it’s within the reach of any class of investor, and I am delighted to see a new generation excited to learn about the public markets bringing us “one step closer to economic equilibrium”.👊✌

Disclaimers:

The content of this newsletter is my personal opinion as of the date published and is subject to change without notice and may not reflect the opinion of NZS Capital, LLC.  This newsletter is simply an informal gathering of topics I’ve recently read and thought about. It generally covers topics related to the digitization of the global economy, technology and innovation, macro and geopolitics, as well as scientific progress, especially in the fields of cosmology and the brain. I will frequently state things in the newsletter that contradict my own views in order to be provocative. Often I try to make jokes, and they aren’t very funny – sorry. 

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Nothing in this newsletter should be construed as investment advice. The information contained herein is only as current as of the date indicated and may be superseded by subsequent market events or for other reasons. There is no guarantee that the information supplied is accurate, complete, or timely. Past performance is not a guarantee of future results. 

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