How to survive in a deflationary world

For almost all of the 20th century that anyone currently alive remembers, and all but a few months of the 21st century, inflation has been a given. Everyone talks about inflation in prices – what a movie used to cost vs. today, the price of a candy bar back in the day, the menu at restaurants rising a few cents etc. While there are different causes, in general a steady expansion of the money supply to match increasing demand and GDP growth have made this a reality. Prices and incomes in the 60s are compared to those of today. Some costs that are not included in the CPI have risen at a rate much higher than inflation – you know them – housing (rent, prices), medical care and education. These have risen for reasons other than standard demand or money supply pressures (oligopolistic behavior, debt bubbles).

Welcome to the coming age of deflation. What is key is not the price level, but the debt level. Debt is fixed, and thus extremely fragile with respect to a decrease in cash flows and asset prices. The ability to service the fixed debt declines in a deflationary environment. This in turn creates waves of defaults and elimination of cash flows, furthering the “deflationary spiral”. There is additionally the secular trend of the “fourth Industrial Revolution” (hat tip to Davos..) that may mean further deflationary pressures due to increased productivity and further segmenting of incomes between the skilled and the unskilled. I use unskilled here not to mean those without a college education, but those without the tech skills needed to reap benefit from the so called rise of the robots.

We then must ask what are some ways in which one can survive this age of deflation and shift in the workforce?

Pay down debt – now!

Debt becomes harder to service and the real return on investment of every dollar toward debt increases. One of the best investments you can make is to pay down your debt NOW! In an inflationary environment, specifically one in which nominal wages and returns on capital are increasing, debt becomes relatively cheaper to pay off so one can often defer paying more than minimum requirements and invest their money in better alternatives. Any excess cash over what is needed for an emergency fund should be put toward paying down debt – specifically credit card and other high interest debt. Reducing these cash outflows so one can stockpile more cash is extremely critical, especially at risk of lower wage pressures.


Start a high cash flow business

This should be a business with a focus on good positive cash flows NOW rather than a growth proposition with high upside but high uncertainty (such as many a tech startup). Much of these rely on asset price inflation, and that is one of the first “givens”This is more about survival than growth, but survival in this sort of environment will often beget thriving. Holding too much cash in a normal low-inflation environment is not ideal as there are many alternatives and the opportunity cost of cash is too high. In a deflationary / disinflationary environment, cash is King. These can be (and often are) relatively boring businesses such as vending machines, coin laundries, low-overhead food business (such as a taco stand), car wash, simple online businesses etc.

Invest in Bonds?

This one is tricky. While on the one hand bond prices tend to go up in a deflationary environment, so often does default risk – especially on corporate bonds (lower revenues) and EM debt. US short term bonds look to be the best bet here as they will continue to be a magnet for capital inflows with uncertainty abounding throughout markets worldwide. But as for traditional investments, USGOV bonds look to keep shining.

**NOTE** The author is not to be taken as giving any direct investment advice.


Personal Diversification

Markowitz/Fama portfolio theory is shaky in its assumptions and reliance 0n estimating parameters that are difficult to fully understand (especially with tail events), but one insight is useful – diversification. However, blind diversification is foolish and securities are really their own form of derivative – a derivative of the business operation itself. You can, however, diversify cash flows that have correlations that are easier to estimate than asset prices, at least heuristically. However, there is little need to over-analyze or “forecast”  – I advocate a loss limit on any new venture and conservative testing methods of a change in the business model or decision process. In many cases, common sense and intuition can drive your diversification strategy.

For example, I tutor and run a vending route, and also run a frozen drink machine rental company, Atlanta Freeze. My cash flows are diversified in that downsides to one does not hurt the state of another, and they sometimes share the upside. For example, vending is fairly steady overall, but many individual locations are very seasonal. The business self-diversifies around the seasonality by having a certain selection of clients/locations.

Tutoring and AF are almost inversely seasonal – the colder months tend to be when students are in school and need math or physics lessons, and the frozen drink rental business has far higher sales in warmer months, when people tend to party or vacation more often. If cash flow from one source diminishes, often the other will pick up the slack. On top of this, gains can be made from transportation economies of scale, i.e. stopping at a vending machine or two on the way back from tutoring (and locating new machines alone usual tutoring routes) to optimize profit per gas mile across jobs. An additional gain from networking is available – clients in one business/profession that have benefited from my work are more likely to use another product/service through me.

I will be writing a review on Nassim Taleb’s new book, “Antifragile”< but I want to process my thoughts on the book a bit in order that I may write a comprehensive review. Many reviewers tend to focus on one aspect of the book as it relates to their viewpoint (i.e. medicine, business, politics) but the book is really a much deeper concept about the properties of systems and interactions. It is essentially the decentralizationists “manifesto” at this point and I have held this view in an incoherently constructed form until this book, so I have much more to say on it than most and will be writing a lengthy review.The following is based on some of the concepts from this book.

This diversification of cash flow essentially makes the entrepreneur resistant to large shocks, gives him information and should ideally be constructed to be dynamic with decision heuristics rather than strict business plans and guidelines. In contrast, the “all-in” entrepreneur (often a “tech” start-up that faces very unique parameters and highly asymmetric payoffs) and the 9-5 worker are more fragile – the “all-in” entrepreneur suffers both from early instability and risk of total failure (as subsequent losing of life savings), and the 9-5 working is very stable until you lose your job, then it is again a total loss of all income streams less unemployment pay – a blowup. Now, the “all-in” entrepreneur is usually the one that has the largest positive payoffs, but the problem is that people tend to start with too little backup/cushion capital. Learn business at a level where you can tinker a bit and perhaps integrate concepts and ventures so that negative shocks are offset but you can gain positive emergent properties across ventures.

Personal cash flow and the non-linearity of time=money

The fiscal cliff continues to loom and panic has set in. While unemployment is steady at 7.9%, real median wages have been falling (and the distribution of real wage losses are heavily skew right). Much of this is a function of the structure of the economy. For most employers, well developed, specialized skills are in greater supply than demand, so companies are able to be fastidious and  will usually not hire based on potential. No need for long term investment in training; just hire someone with the skills in the present that can be thrown right into the field.

Like most strategies in the corporate world, this makes significant short term sense at the sacrifice of long term benefits. But that is not the point of this post. This is a reality that no institution or powerful individual can change – a force much like demographics; long term cyclical progressions without recurrence at the same state due to dynamic parameters of economic existence. The more appropriate response is to accept this fact, and develop skills and cash flows accordingly. While many in the “9-to-5” grouping tend to never think of themselves as “entrepreneurs” or “business people”, these are ultimately just labels for difference cogs of the same general machine/system. They are simply the group that has traded time for money in a linear fashion. This is often a great idea- nonlinear functions tend to have regions where the response functions grows (or decays) much more slowly or with more uncertainty than a linear function. While the goal in entrepreneurship is to reach the point where input time is almost decoupled from profit output, it often works against you where a massive input of time can lead to very small, uncertain profit output.  I consider “risk” to be simply the transformation of money as a nonlinear mapping of the time=money function.

Yet the two are not mutually exclusive. A steady income is important, and should be sought after for educational purposes, discipline and capital. However, do not fall into the trap. The wanna-be entrepreneur who dreams of starting their own business simply to “be their own boss” will probably lock his or herself into a comfortable, low-risk track. However, the true entrepreneur-at-heart will simply see his or her “9-to-5” or at least steady employment as a moat of safety, a further education, and a means of building capital. They will parlay all these resources into other ventures, assets and cash flows. This is in a sense the ultimate form of diversification – a portion of your “time” portfolio is dedicated to a linear occupation (hopefully one that is selected to grow the individual) while another is dedicated to the nonlinear pursuits.

So how does one do this? I am not an expert – I am merely in the thick of the journey. First, build you core competency and skill-set. Try to not tie your degree toward a direct career path, but toward a specific skill that will serve you in an uncertain world – one with economic value that you can turn to when needed to scrounge up meals and stay liquid. Build a tree of skills around this core competency and integrate. This will make you more adaptable in finding a job that will suit both you and the employer. For example, I gained a B.S. in Economics and a minor in applied math, but have focused heavily on the mathematical skills to parlay my education rather than let it go to waste. I made the mistake of student loans for an out-of-state school, so I need my education to at least pay me knowledge dividends. If the ability atrophies, it was all for naught. Keep my mistake in mind and go forward accordingly. I am doing independent research in a variety of fields and spend time learning R, Python and Excel for data analysis and SQL for database management. This tree of skills fits well into both personal pursuits and the skill requirements of employers with a core of mathematical understanding.

Further dividends can be extracted if one is resourceful and hard-working, with a heavy dose of creativity. I tutor part time, which allows for a very flexible schedule, gives me a skill I can turn to in order that I may pay bills and build capital , is fulfilling, and keeps my mind sharp. I also build a de-facto network that, if I add significant value, is more than willing to listen to me about other things (for example, I have had referrals for other businesses from satisfied tutoring clients). This is just my personal example – be creative and choose to spend your time building your “skill shell” around your “core competency”. In my next post I will list some possible examples for a few different possible “person-states” I can think of that are congruent to my model. The only requirement is to be hard working and strong willed, not lazy or easily discouraged.


Happy Holidays

-the UE





Just got a call earlier today about one of the locations for my machines closing down. Unfortunately, the previous tenant went out of business and was unable to make rent payments to the commercial owner. The location was slow but steady due to a lack of other candy options and the fact that most customer stayed for over an hour (it was a billiards hall). What sucks about this is that I can’t just go and grab the machines – I need some form of documentation that I own them. I am renting them from someone who in turn bought them used, so there is no original receipt or anything – I only have the keys to prove that I own it. I am hoping to negotiate something with the landlord over the next week to prove the machines are mine and pick them up, but I may end up out of luck. As I said, they are machines I rent, so I will be liable for their loss to the tune of about 300 dollars up front. Keep in mind this is a 1200 dollar a month business with only about 500-600 in profit after rent, candy costs, commission to site owners, gas, and various random costs. Ah well, such is business! I will need to find a way to better document my ownership of the machines, or try to do a better job communicating with the store owners.

Anyone have start-up stories of incredibly annoying and spontaneous costs that come out of nowhere to hit your pocketbook/bank account? Please share, and share what you’ve learned!

A Wake-Up Call

A new Pew Research Center poll shows that more than 2/3 of the nation distrusts the federal government, large corporations, banks and congress. Who do they trust the most?

According to the just-released study by the highly respected Pew Research Center, small business is the most trusted institution in America. More than churches. More than colleges. More than technology companies. And certainly more than labor unions or large corporations.

So why does the entrepreneurial class not have more power or influence in our society? They create jobs and represent the common man trying to make his way on the economic battlefield. But they have little time to try and win political influence because they are too busy working to overcome the deck stacked against them. Along with being the most trusted institution, small businessmen are also thought to be the group with the least attention given to them by the government.

But we’re neglected. When asked about which groups were getting too much or too little attention from the government, Americans felt small business was getting dealt the worst hand. Hey, elected officials, listen up! Small business is one of the few groups Americans want to get more government attention.

Of course, this will never change because labor unions are a much more surefire voting bloc and large corporations are a reliable campaign contribution. So it goes in the great Republic. This is a good reminder of our mission here at the Underground – to help reignite the animal spirits and provide a voice for entrepreneurship and inertia for an economic revolution. I am one of the last people to advocate lining up at the government trough, but I also believe government on every level has made it a much more difficult task to get a successful enterprise up and running. Action by inaction would be the best way governments could help us out. In fact, government and many of these other favored groups have interests quite contrary to that of the entrepreneur. For example, see Trash Collecting Entrepreneur Squashed in San Francisco from Mish’s Global Economic Analysis blog. The entrepreneur can perform tasks much more efficiently and at a much lower cost than the bloated public labor unions. But of course, political power is all that matters in the United we Fail Bailout States of America, and so of course the labor rackets will have their day to make sure they can get their lifetime pension benefits and bloated salary on the private sector’s tab.