Would you sell your successful local restaurant because of a debt hiccup in Dubai?

The Wall Street Journal reports that "the Dow dropped sharply Friday after Dubai World asked creditors for a six-month stay on repayment of $60 billion in debts" and that "Stocks were lower around midday Monday [today] as mixed Black Friday sales results sparked concerns about consumer spending and unease about Dubai World's debt headaches lingered."

To us, these debt problems of a high-spending, heavily-borrowing Middle Eastern emirate can serve as a helpful illustration for investors.

Imagine that you are the founder and owner of a successful little taqueria in your neighborhood. Perhaps many years ago you moved to California and noticed that there was no place nearby to get a particular kind of burrito or taco that you craved. Sensing a business opportunity, you began a restaurant to provide those special dishes, which became incredibly popular. Your restaurant became a daily lunchtime destination for all the workers in the area, from day-laborers to software developers to local doctors and CPAs.

While it had been difficult to start it up and build its reputation in the beginning, ten or fifteen years down the road the business is a well-oiled machine, providing a steady stream of profits, in good times and bad. Perhaps you receive occasional offers from envious businessmen to buy your restaurant, but you have no desire to sell for many more years, as you are proud and happy of your little taqueria, you view the employees as part of your family, and you have noticed that the profits are increasing every year and believe they can continue to grow for many years to come. You may even have plans to expand to other locations, or you may have already expanded to one or two nearby cities and seen accelerated growth with each new site.

It may seem like a slightly ridiculous question, but do you think -- given the situation described above -- that you would open the newspaper over the past weekend, notice that a far-away emirate in the Persian Gulf was asking for an extension in paying back its debts, and decide that you'd better sell your restaurant immediately and cash in your chips?

Of course not, unless for some reason you had loaned some sum of money to them and believed that you might go out of business if they failed to pay it back. If, as is more likely, your restaurant had had no dealings whatsoever with Dubai, you would probably flip to the sports pages and then head down to your taqueria to have a cup of coffee and see how things were going over there.

The purpose of this illustration is to encourage investors who own shares in businesses that they have carefully selected, businesses with innovative products or services and competent management teams, businesses whose profits are growing and which they believe have good prospects for continued growth, to keep the short-term "crisis of the day" being splashed across the headlines of the various media outlets in perspective.

We have written on this subject many times previously, such as in this important post. While the Dubai problem only concerns about $60 billion of capital (a large amount for that emirate but a small amount in the grand scheme of the global economy) and will probably pass from the headlines fairly soon, we would go as far as to argue that the same lesson can be applied to much larger news events as well.

For example, we have argued that the most recent recession was primarily caused by a financial panic that impacted banking and Wall Street, but that did not derail many innovative firms operating in other industries. Although the crisis may have set them back temporarily, selling out of them because of the panic would have been as foolhardy as the owner of the taqueria described above selling his shop this morning because of the Dubai headlines (or even because his sales hit a slight bump in 2008 and early 2009 as customers dialed back their lunchtime dining-out budgets for a while).

Of course, the difference between owning an innovative and growing local restaurant and owning shares in a publicly-traded innovative and growing company is that it is almost impossible to own the second one outright, and thus investors in publicly-traded companies must put up with the behavior of all the other owners of the company.

Since many of those other shares are held by large institutional investors who think nothing of selling their shares at any hint of an adverse headline, no matter how unrelated to the long-term business prospects of the company in question, investors who take a longer view must be prepared for short-term gyrations based on all kinds of interim events. This is why we feel it is so important that investors understand this issue.

Finally, we would add two caveats. First, investors must be very careful that they own truly innovative, well-run companies. We have written on this subject many times, such as here and here. Second, we would note that we are not saying that owners of any business (taqueria or otherwise) should never consider selling their ownership. We have discussed at some length the subject of selling one's ownership in a business in "The importance of a proper sell discipline," among other places.

However, in general we would advise investors that the next time some "crisis of the day" (or crisis of the week, month or even year) arises, they may want to visit their local taqueria, order a burrito, and carefully consider this important concept.

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For more recent posts dealing with this same subject, see also:

• "March 9 anniversary" 03/09/2010.

• "Another black swan?" 05/13/2010.

Happy Thanksgiving 2009

We'd like to wish all our readers a warm and happy Thanksgiving.

As we gather with family and give thanks for our blessings, we are mindful that for many around the world, conditions are still as dire as they were for those first ragged settlers who clung to existence after crossing the Atlantic to the New World in the 1620s.

What made such a difference in the annals of this country versus the situation that still prevails in much of the world? Upon reflection, we would submit that much of the answer lies in the word "Freedom."

While Americans are undoubtedly thankful for the freedom we enjoy, it is appropriate to go one step further, and ask where that freedom came from, as the Acton Institute did last year in a film entitled The Birth of Freedom (see clip below).

It also occurs to us that there is a connection between the common Thanksgiving symbol of the cornucopia (or "horn of plenty") and the concept of freedom. The cornucopia is a symbol of abundance -- in fact, it is tied to a mythical horn which produced an inexhaustible abundance of goods.

It strikes us that, as such, the cornucopia is the perfect symbol for the opposite of the "fixed-pie" view of the world. We've written several times before about the "zero-sum" or "fixed-pie" view which believes that there is only so much wealth available in the world, and that therefore any gain by one person must come at the expense of another person. It is not hard to see how such a view of the world can lead to tyranny, or at least the restriction of freedom.

On the other hand, the cornucopia -- unlike the "fixed pie" -- is a symbol of constant increase. Those who understand that, in a free society, the efforts and contributions of some people can actually increase the size of the pie for everyone can actually see that the cornucopia is not just a mythical concept! In fact, the history of America and the blessings we consider on Thanksgiving are proof of that.

While there are always things that could be better, we hope these thoughts will add to your thoughts and conversations around the Thanksgiving table this year.

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For later posts on this same subject, see also:

• "Happy Thanksgiving 2010" 11/24/2010.

• "Lawlessness in California" 12/16/2010.

What about commodities? (part 3)

We've written at least two times previously on the topic of commodities (see here and here). When commodities such as gold and other metals begin to skyrocket, gold advertisements begin to flood the radio stations and financial television shows, and investors inevitably begin to ask themselves, "What about commodities?"

Investors are understandably concerned about the precipitous decline of the dollar. We have been cautioning investors for some time that Fed "oversteering" is probably in the works, based on certain economic beliefs held by Chairman Bernanke which, in our opinion, are misguided (see for greater detail the discussions in "Stand still, little lambs, to be shorn" and "A Phillips-curve Fed?" among many other previous posts). When investors are worried about inflation, or the future of the dollar, gold is one of the first thoughts that enter their minds.

However -- and this may be a little bit counter-intuitive -- this is exactly why they should not rush into commodities without a full understanding of the way they work. The fact that the Fed's oversteering is responsible for gold's recent rise should cause investors to realize that it can tumble just as fast when Fed policy inevitably swings back the other direction.

Back in the middle of last year, with crude prices at $135 a barrel, we made the exact same warning (see here). At the time, as it always does when prices are rising sharply, it felt as though oil prices would never turn around. Of course, they subsequently tumbled below $40 a barrel.

The important point about commodities, which we made in those two previous editions of "What about commodities?" is that they can be quite volatile over time but don't tend to make much progress (see, for example, this chart of sugar prices going back to 1948). Therefore, the only way to make money in them is to attempt to trade the peaks and valleys, hoping to catch them at the right time.

While many believe that the same can be said of owning stocks, in reality owning innovative companies is quite different. Unlike the chart of a commodity that fluctuates back and forth without making real progress, a successful business is creating new value and -- although there will be ups and downs -- the overall trend of such a company tends to be upward over time.

As we've said many times before -- regardless of the economic environment -- owning innovative, growing, well-run businesses is the best foundation for long-term wealth preservation and wealth creation.

Subscribe to receive new posts from the Taylor Frigon Advisor via email -- click here.

For later posts dealing with this same topic, see also:

• "Avatar and long-term inflation" 03/02/2010.

• "The financial services timeline, 1977 to present, and what it means to you" 03/18/2010.

• "Gold versus Apple" 10/25/2010.

• "Inflation is a monetary phenomenon" 03/07/2011.

The Dismal Science

We recently attended a business conference where we heard an economist making extensive predictions about where the economy was headed. Our concern immediately turned to the many attendees who left the conference with a conviction that this particular view of the future was accurate (after all, they just heard it from an economist).

The problem is that most economics as it is taught in the halls of higher learning consists primarily of mathematics. Economists are comfortable plugging data into their models, which may do a fine job of extrapolating current trends into the future, but which are entirely unsuitable for predicting what will actually happen.

This is the exact same "quantitative" quagmire that has overtaken general finance theory. We have written before that no mathematical model can predict the next entrepreneurial development that will create new markets and drive economic activity in a completely different direction. For example, the iPhone has transformed the concept of mobile computing, and developed markets for the adoption of software applications that never existed previously. In turn, this has created wealth where it did not exist before. This radical change was not visible or predictable in an economist's model prior to its actual occurrence.

The problem lies in the misbegotten idea that economists have the wherewithal to truly "forecast" when in fact most are not suited or trained to identify important trends in economic activity when they are about to happen.

We would suggest that economists, in general, should not be a primary factor in the decision-making process of investors because it is at the most crucial inflection points that the economist is unable to identify what innovation will create new markets that drive economic activity beyond any level that his mathematical models suggest are possible.

Subscribe (no cost) to receive new posts from the Taylor Frigon Advisor via email -- click here.

For later posts dealing with the same subject, see also:

• "News flash! Computer model enables you to beat Wall Street!" 06/10/2010.

• "Free markets, free enterprise, Friedrich Hayek, and active allocation of investment capital" 07/13/2010.

• "Professor Amar Bhide's latest essay, 'The Judgment Deficit'" 08/17/2010.

• "Investors fleeing equity funds for bond funds" 08/25/2010.

• "The ideology of modern finance" 01/12/2011.

Anniversary of the end of the Berlin Wall

The night of November 9, 1989 saw the fall of the Berlin Wall at the hands of the people it had isolated for twenty-eight years.

In the famous speech (available here) that former US President Ronald Reagan gave at the Brandenburg Gate in 1987, he correctly declared that the Wall represented "the question of freedom for all mankind." Its downfall marks an important landmark in the triumph of freedom over political and economic oppression.

As we wrote on the anniversary of the Apollo moon landing, it is important to remember that there was -- and continues to be -- an ideological struggle between those who believe "that the best way to organize society and reach goals is through centralized government planning" and those who believe that the best way is "to enable individuals to make their own choices through free enterprise, the rule of law, and respect for private property." The tearing down of the Berlin Wall, as the Apollo moon landing, shows that the second choice is the right one.

Yet, amazingly, many voices even in countries that have benefited most from the freedom to choose and the ability to own private property do not understand this fact.

The Wall Street Journal yesterday noted that anchorman Dan Rather went on record saying, "Despite what many Americans think, most Soviets do not yearn for capitalism or Western-style democracy." City Journal contributor Daniel Flynn notes that in 1991, the LA Times stated "Ten months after the new Germany merged, women in the eastern sector are coming to the stunning realization that, in many ways, democracy has set them back 40 years." He also notes that in 1992, CBS anchorwoman Connie Chung declared, "In formerly communist Bulgaria, the cost of freedom has been virtual economic disaster."

These voices inevitably point out that capitalism and freedom can seem less secure than central planning, and are often blamed for poverty and inequality. Friedrich Hayek addressed this very issue in his landmark text The Road to Serfdom, first published in 1944. His remarks are appropriate on this historic anniversary. There, he said:

"What our generation has forgotten is that the system of private property is the most important guaranty of freedom, not only for those who own property, but scarcely less for those who do not. It is only because the control of the means of production is divided among many people acting independently that nobody has complete power over us, that we as individuals can decide what to do with ourselves. If all the means of production were vested in a single hand, whether it be nominally that of 'society' as a whole or that of a dictator, whoever exercises this control has complete power over us. Who can seriously doubt that a member of a small racial or religious minority will be freer with no property so long as fellow-members of his community have property and are therefore able to employ him, than he would be if private property were abolished and he became owner of a nominal share in the communal property? Or that the power which a multiple millionaire, who may be my neighbor and perhaps my employer, has over me is very much less than that which the smallest fonctionnaire possesses who wields the power of the state and on whose discretion it depends whether and how I am to be allowed to live or work? And who will deny that a world in which the wealthy are powerful is still a better world than one in which only the already powerful can acquire wealth?"

These truths are important for all members of society to understand. Please share them with your friends on this historic anniversary.

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Voting With Their Wallets!

While much attention has been focused on the election results in Virginia and New Jersey last night, perhaps the bigger story is the election results announced in Michigan yesterday where Ford Motor Company announced a profit of almost $1 billion.* Ford, the lone of the Big Three Automakers to not accept government bailout money, is demonstrating that a private company, in the midst of a devastating recessionary environment in its industry, can find ways to make money. We suspect they are now making products people want to buy (like the beautiful red retro Mustang pictured), but also that consumers are standing behind the company that decided to "go it alone" and reject the government's offer of assistance.

We believe this is a signal to government that intrusion into the free enterprise system, and the cronyism that can result, is not acceptable to ordinary "car buying" citizens. It occurs to us that the success of Ford may have as much to do with voter/citizen backlash against the heavy hand of government as it does with their managing through a tough economic environment.

And while Ford is looking good right now with its breakout to profitability, storm clouds are hovering. Their counterparts over at the "U.S. Department of Automobiles" (GM and Chrysler, of course) are likely to be given preferential treatment when it comes to labor negotiations. This could spell trouble.

But perhaps Ford will have a trump card, as Economics Professor Dr. Mark Perry pointed out last December in his excellent Carpe Diem blog, Ford has built the most advanced auto production facility in the world...in Brazil! It would be a shame if the unreasonable position of the UAW (now aided by GM and Chrysler's new majority owner!) were to force Ford to abandon operations in the United States. However remote that possibility is, that may be what is in the future given Ford's obvious disadvantage in negotiating with the UAW.

As believers in the free enterprise system, while we would be disappointed to see such an event come to pass, we would support Ford wholeheartedly.

* The Principals of Taylor Frigon Capital Management do not own shares of Ford Motor Company.