Millionaire Freestyle Chess & The Future of Investing

How did America—a country dedicated to the proposition that all men are created equal—become one of the most unequal countries on the planet? Why do the nation’s leaders now spend so much of their time feeding at the trough and getting ever more for themselves? Why has public-mindedness in our leaders given way in so many instances to limitless greed?

Michael Mauboussin

Michael Mauboussin, managing director and head of Global Financial Strategies at Credit Suisse, wrote an report exploring:
[T]he applicability of freestyle chess to the world of investing, where fundamental analysts are “man” and quantitative analysts are “machine.” More pointedly, might there be a way that investors can combine the strengths of fundamental and quantitative analysis while sidestepping the weaknesses?

Millionaire Freestyle Chess

After witnessing the great success of the PRO Chess league:
As the number of spectators swelled to more than 6,000 this past Sunday during the final, the success of the league was even greater than the founders had imagined, according to Grandmaster (GM) Alejandro Ramirez. “The number of viewers showed that chess can compete with any eSport,” said Ramirez.
We are developing the idea of a Millionaire Freestyle Chess Tournament as a vehicle of exploring better investment strategies, in addition to exploring Garry Kasparov’s ideas of using the decision-making process of chess as a model for understanding and improving our decision-making everywhere else and how we have discarded innovation and creativity in exchange for a steady supply of marketable products.

Garry Kasparov & Deep Blue

Garry Kasparov during his rematch against the IBM supercomputer Deep Blue, 1997

In a book review of Diego Rasskin-Gutman’s Chess Metaphors: Artificial Intelligence and the Human Mind, Garry Kasparov wrote about freestyle chess:
In 2005, the online chess-playing site Playchess.com hosted what it called a “freestyle” chess tournament in which anyone could compete in teams with other players or computers….
Lured by the substantial prize money, several groups of strong grandmasters working with several computers at the same time entered the competition. At first, the results seemed predictable. The teams of human plus machine dominated even the strongest computers. The chess machine Hydra, which is a chess-specific supercomputer like Deep Blue, was no match for a strong human player using a relatively weak laptop. Human strategic guidance combined with the tactical acuity of a computer was overwhelming.
The surprise came at the conclusion of the event. The winner was revealed to be not a grandmaster with a state-of-the-art PC but a pair of amateur American chess players using three computers at the same time. Their skill at manipulating and “coaching” their computers to look very deeply into positions effectively counteracted the superior chess understanding of their grandmaster opponents and the greater computational power of other participants. Weak human + machine + better process was superior to a strong computer alone and, more remarkably, superior to a strong human + machine + inferior process.
Walter Isaacson

Walter Isaacson, president and CEO of the Aspen Institute, a nonpartisan educational and policy studies organization moderates the “A Conversation with Richard Haass and Walter Isaacson: America’s Role in the World” event at the Milken Institute Global Conference in Beverly Hills, California April 30, 2012. REUTERS/Fred Prouser

In a lecture, Walter Isaacson also talked about the power of the partnership between humans and technology:
[T]this type of artificial intelligence [where computers are not only smarter than humans but can also design themselves to be even supersmarter] may take a few more generations or even centuries. We can leave that debate to the futurists. Indeed, depending on your definition of consciousness, it may never happen. We can leave that debate to the philosophers and theologians.
There is, however, another possibility: that the partnership between humans and technology will always be more powerful than purely artificial intelligence. Call it the Ada Lovelace approach. Machines would not replace humans, she felt, but instead become their collaborators. What humans –and humanists – would bring to this relationship, she said, was originality and creativity.
The past fifty years have shown that this strategy of combining computer and human capabilities has been far more fruitful than the pursuit of machines that could think on their own.
From a Forbes article by Steve Denning we learn that a study by Deloitte’s Center for the Edge shows the rates of return on assets and on invested capital for 20,000 US firms from 1965 to 2011.
Economy-wide Return on Invested Capital
The graphic shows that something has gone so terribly wrong with the type of businesses supported by Wall Street—the supposed engine of economic growth and the supposed creators of jobs. When these firms have rates of return on assets or on invested capital of, on average, just over one percent, we have a catastrophe on our hands. An ROA of just over one percent means that firms are dying faster and faster: the life expectancy of firms in the Fortune 500 is now less than fifteen years and declining rapidly.
Now, let’s look at the market’s 10 best stocks from 2005 to 2015, according to The Motley Fool:
Company [year founded] Return, 2005-2015 Market Cap in 2005
Regeneron Pharmaceuticals [1988] (NASDAQ:REGN) 8,113% $513 million
Keurig Green Mountain [1981] (NASDAQ: GMCR) 6,065% $179 million
Medivation [2004] (NASDAQ: MDVN) 5,516% $41 million
Priceline Group [1997] (NASDAQ:PCLN) 4,781% $917 million
Netflix [1997] (NASDAQ: NFLX) 4,718% $646 million
Monster Beverage [1935] (NASDAQ: MNST) 3,770% $397 million
Opko Health [1991] (NYSE: OPK) 3,722% $5.7 million
Illumina [1998] (NASDAQ: ILMN) 3,653% $361 million
NewMarket [1887] (NYSE: NEU) 3,648% $338 million
Pharmacyclics [1991] (NASDAQ: PCYC) 3,468% $142 million
One thing that really stands out among these 10 companies is that every single one of these stocks had a market capitalization of less than $1 in 2005.  You have to go down to No. 12 on this list to find behemoth Apple (NASDAQ: AAPL)  as an exception to this general rule. What investors can learn from that is that if you expect to get truly life-changing returns from stocks, you can’t expect to find them in the biggest, most prominent and well-known companies in the market. Instead, you have to dig deeper and take a look at parts of the market that many Wall Street analysts leave untouched — small companies that often take some digging just to find out what they actually do, let alone what their potential is for future growth.
Another factor to understand is that Wall Street-types do not how to grow businesses. Regeneron was the best performing public company in the last ten years but from Forbes, we learn that Wall Street’s advice to Regeneron’s CEO and founder Leonard Schleifer was just bad:
[Wall Street] investors like to simplify their investments because it is easier for them to do their analyses. So they come up with this distortion of suggesting that you should focus on one thing. But the truth of matter is that it’s very bad advice…. If you are a company and focus on one thing, you’re pretty well cooked if that one thing doesn’t make it.
Another Steve Denning’s Forbes article, “Roger Martin: How ‘The Talent’ Turned Into Vampires” begins to shed light on why the ways of Wall Street no longer work:

How did America—a country dedicated to the proposition that all men are created equal—become one of the most unequal countries on the planet? Why do the nation’s leaders now spend so much of their time feeding at the trough and getting ever more for themselves? Why has public-mindedness in our leaders given way in so many instances to limitless greed?

These questions are being raised, not in some anti-capitalist rag from the extreme Left, but in the staid pro-business pages of the Harvard Business Review, in a seminal article by Roger Martin, the former dean of the Rotman School of Business and the academic director of the Martin Prosperity Institute: “The Rise and (Likely) Fall of the Talent Economy.

One key factor, argues Martin, is a fundamental shift in nature of the economy. Fifty years ago, “72% of the top 50 U.S. companies by market capitalization still owed their positions to the control and exploitation of natural resources.” But in the latter part of the 20th century, a new kind of organization began to emerge: an organization that prospered not by natural resources but through “the control and exploitation of human talent.”

“By 2013 more than half of the top 50 companies were talent-based, including three of the four biggest: Apple, Microsoft, and Google. (The other one was ExxonMobil.) Only 10 owed their position on the list to the ownership of resources. Over the past 50 years the U.S. economy has shifted from financing the exploitation of natural resources to making the most of human talent.”

In the past 50 years, our economy has dramatically changed but the Wall Street mentality has changed very little. What worked on Wall Street over 50 years ago when most of the economy was driven by the control and exploitation of natural resources is no longer working now that our economy is based on making the most of human talent.
It is easier to enhance creativity by changing conditions in the environment than by trying to make people think more creatively. And a genuinely creative accomplishment is almost never the result of a sudden insight, a lightbulb flashing on in the dark, but comes after years of hard work…. If you do anything well, it becomes enjoyable…. To keep enjoying something, you need to increase it’s complexity.
~ Creativity by Mihaly Csikszentmihalyi
A genuinely creative accomplishment is almost never the result of a sudden insight, but comes after years of hard work.
Schleifer and Yancoppulos

Leonard Schleifer, left, and George Yancoppulos in a lab at Regeneron headquarters in Tarrytown. / Photos by Matthew Brown / The Journal News

For two decades, Leonard Schleifer, CEO and founder of Regeneron, has protected his Cheif Science Officer, George Yancopoulos from investor demands for results as failures piled up. “George was too talented,” says Schleifer. “The people around him were too talented. It wasn’t a matter of whether we can do this. It was a matter of when we can do this. Would we survive long enough to have a hit?”

“Everything that we’ve been doing for 25 years, it interconnects,” says Yancopoulos. “It’s not like we changed direction in the middle, or we did a new trick. It’s all building on the foundation of those early ideas, and we’re just taking them to the next level.”

Schleifer likes to say that companies can “rot from the inside” if they get their priorities mixed up.
“I always say that you can tell whether a company is rotten by the following little scenario,” he says. “George and I are in the office and we’re arguing about something, which we do all time, and two people show up and knock on the office door. One of them is waving last month’s sales of Eylea in the latest country that we’ve launched in, and the other one is way waving an experimental result that doesn’t have a chance in the world of leading to a product for at least a dozen years. If we’re not equally excited about both of those – or perhaps even more excited about the long-term – then the company’s rotten.”
The future of successful investing is predicated on understanding the new dynamics of business. This includes understanding that most of the companies on the Fortune 500 companies are “rotten” and too many depend on government protections to remain profitable.
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