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Harry Newton's In Search of The Perfect Investment Newton's In Search Of The Perfect Investment. Technology Investor.

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8:30 AM EST Thursday, January 31, 2008: As predicted, the cockroaches continue. The Wall Street Journal this morning reports

After racking up more than $100 billion in mortgage-related losses in recent months, banks and their investors had hoped they were out of the woods. They aren't. UBS AG's warning yesterday that its 2007 write-downs would be $4 billion higher than it predicted last month signaled that further pain may lie ahead for Wall Street banks still vulnerable to the U.S. housing sector's strife.

Meanwhile, tough times for bond insurers such as MBIA Inc. and Ambac Financial Group Inc. may spell trouble for banks that rely on those firms to insulate their mortgage holdings from losing value. Those concerns were in the spotlight yesterday as Oppenheimer & Co analyst Meredith Whitney warned that Wall Street faces at least $40 billion in losses if the insurers see their credit ratings cut or file for bankruptcy protection.

"When it becomes clear [as we think it will] that more charges are on the horizon, we believe the market will take another turn for the worse," Ms. Whitney wrote. Fueling the concerns, Standard & Poor's predicted yesterday that the carnage might spread to a wider range of financial institutions, with total losses potentially exceeding $265 billion.

Citigroup Inc. and Merrill Lynch & Co. may be the most vulnerable to the next wave of write-downs.

For the rest of the Journal's gloom and doom, click here. My take: This is our first cockroach financial crisis. We don't know its full magnitude -- it gets worse by the day. Hence my present bearishness.

How big traders manipulate the market: Remember Ben Stein's assertion about big traders? See yesterday's column. Reader Jimmy Wilkes emails me early this morning:

Any doubt you might have had about the market being manipulated should have been answered yesterday. After sitting for most of the day, the Dow took off like a rocket after the Fed announced a .50 drop in the Fed discount rate and ran up for about 200 points. About 50 minutes after the Fed announcement a rumor hit the market that "Expectations of more downgrades of bond insurers like Ambac and MBIA is likely" and the Dow dropped like a rock for about 300 points. 100 big Dow contracts short @ 3:07 PM would have netted you a cool $750,000 by market close. The big boys know how to print money.

How to screw up world stockmarkets: The management of Societe Generale SA, France's second-largest bank, appears dumber by the day. Not only did they not find their trader -- he'd been at it since 2005 -- not only did they not find bets totaling more than the bank's entire worth, but they panicked like the dumbest of dumb investors. They handed all Kerviel's positions to one trader who unwound all the positions in one day of massive selling. As word got around about the massive unwinding, everyone and his uncle stepped back and let the idiot sell at what became distress prices, thereby tripling Kerviel's paper losses and exposing Societe Generale's management for the idiots they were.

This morning MIT's Technology Review did an interview with Andrew Lo, director of MIT’s Laboratory for Financial Engineering, His take:

Yesterday, a week after Societe Generale disclosed a $7.2 billion loss by a single rogue trader, Bank of France chairman Christian Noyer declared to a French senate finance committee, "None of the controls within Societe Generale seem to have worked as they should have."

But beyond the evident failure of internal control technologies lie wider vulnerabilities in the global financial system. It is possible that the deeds of 31-year-old Jerome Kerviel at Societe Generale triggered global stock sell-offs, says Andrew Lo, director of MIT's Laboratory for Financial Engineering. And that points to widening systemic risk in ever more complex financial markets.

TR: ..Bad things will happen. I take it you are mainly concerned about the ripple effect when they do?

AL: Exactly. The financial system as a whole is getting more complex. Financial institutions rely on ever more elaborate systems architecture and electronic communications across different counterparties and sectors. The number of parties involved, the nature of transactions, the volume of transactions as the market grows--taken together, the dynamics among these aspects of financial markets imply that the complexity is growing exponentially. No single human can comprehend that complexity. And as the system grows more complex, it is a well-known phenomenon that the probability of some kind of shock spreading through the system increases as well. Systemic shocks become more likely. Today, we are looking at some significant exposure to relatively rare events.

TR: In what way was the Societe Generale matter such a shock?

AL: One natural hypothesis is that the global sell-off that happened early last week was a direct outcome of Societe Generale's unwinding of these rogue trades. We don't have any conclusive evidence yet, but it's not an outlandish conjecture given the circumstances surrounding the massive fraud that was allegedly committed. According to Societe Generale, the problem was discovered on Saturday [January 19], and the firm began unwinding their portfolio at the first possible opportunity. If it turns out that this "unwind" was on the scale of a billion dollars or more, it is plausible that the unwind itself triggered the global sell-off--first in Asia, then in Europe, and then in the U.S.

TR: So one person, in this case Mr. Kerviel, can move the entire global financial system.

AL: It's a larger-scale version of what happened in August of 2007--in particular, August 7, 8, and 9. A large number of quantitative equity hedge funds lost money on those dates simultaneously, yet there is no market event that you can point to that can explain why these funds lost money at the same time. But looking at circumstantial evidence, we [at MIT] pieced together a story that one large quantitative equity fund decided to unwind its portfolio, for reasons we don't know for sure, but which we conjecture to be related to credit problems from the subprime mortgage market. Because the conjectured liquidation involved a big fund that needed to be liquidated quickly, this implies that the impact of the liquidation on other similarly positioned quantitative equity funds would be negative--and large. You get a snowball effect. Everybody is heading for the exit door at the same time, and you get a crash. But in August 2007, it was not a crash of the market as a whole, but of portfolios that are similarly structured to the fund that started the snowball. ...

Base metals -- copper, lead and zinc -- have dropped in price. Zinc is down by 40%, copper by 20%, caused by oversupply, which most believe is temporary. Time to re-look at Australian miners -- BHP, RIO, KZL, ZFX, MRE, OXR, AXM, WSA, MEE, EQN and PNA.

Outsource your computing to The Cloud. This is big for computing and huge for entrepreneurs. A startup walks into my office yesterday. They have an incredibly sophisticated idea for a new service on the Internet. I ask "Where will you get all the computing power you need?" They answer "The Cloud." I look quizzical. They say "Google Amazon Web Services." The first thing I get is this piece from the present issue of Forbes magazine:

Why buy computers when you can rent them from Amazon, EMC or Yahoo? Has Jeff Bezos got a bargain for you.

Like everyone else, the executives at gossipy real estate Web site Zillow have been anxiously watching housing prices collapse. Hoping to spice up its offerings to a discouraged consumer, Zillow recently recalculated the values on 67 million homes over a 12-year period, a database of figures that took up 4 terabytes of memory. The company figured it would need six months and millions of dollars to make it happen. Instead, Zillow ran the job over the Internet, on 500 computer servers rented from It took only three weeks and cost less than $50,000.

"This is a computer-development playground," says Spencer Rascoff, chief financial officer of 165-employee Zillow.

The next revolution in high tech is taking place inside the "cloud" of the Internet. Small outfits looking to do lots of computing in a hurry are not buying hardware anymore; they're renting from established players that already operate vast networks of cheap computers. Time-sharing, a concept from the dawn of the computing age, is back with a vengeance.

Amazon launched its service in March 2006 by renting basic data storage and has since gone into services like computing and databases. Storage-hardware giant EMC in October paid $75 million for the consumer online storage service Mozy, which it plans to expand into an industrial-strength business, possibly cannibalizing its own hardware sales. In March Microsoft is expected to offer its own version of cloud computing, likely aimed at big businesses. Yahoo will move into the business later in the year. Google has shown no interest in leasing out its vast infrastructure, but it is challenging Microsoft with a suite of online applications akin to Office.

The spreading of the cloud darkens the outlook for traditional hardware makers such as Dell, Hewlett-Packard and Sun Microsystems, which have already been buffeted by fears of a U.S. recession.

Amazon Web Services has already won over customers such as the New York Times, Red Hat and SanDisk. Consultancies are also springing up, selling companies on ways to use Amazon for things like online backup systems and database clusters to speed a Web site's performance. The pitch is that if the downturn hits, hiring Amazon is something a department can do with spare cash and no authorization.

Amazon charges 15 cents for a gigabyte of storage and 10 cents an hour for a server, services that customers say are up to 90% cheaper than rental alternatives from computer-hosting companies like Equinix and Rackspace.

More than saving on hardware purchases, companies like relieving their tech staffs of maintenance chores. Ooyala is an online video company that offers thousands of hours of high-definition video through Amazon Web Services. At Ooyala's usage levels, Chief Technical Officer Sean Knapp says, it might be cheaper to buy servers, but "this accelerates the speed of innovation."

It almost certainly accelerates Amazon's historically rocky profitability. The company divulges almost nothing about its costs or margins but is said to run its Web Services business on huge networks of computers costing as little as $300 each. Ten cents an hour adds up to $876 a year in revenue (assuming nonstop usage). If hardware lasts two years and if, let's say, electricity and other overhead cost as much as the hardware, Amazon would have a gross margin of 45%, better than what it gets on books.

In the last two months of 2007 the number of items stored at Amazon Web Services grew 40%, to 14 billion units. (Units vary in size from a couple of bytes to 5 gigabytes, and Amazon keeps the totals secret.) That's a faster growth rate than in the April-October period. Amazon's s3 storage service now handles 30,000 requests to its database per second. "We feel really good about our prospects, both for size and margins," says Adam Selipsky, vice president at Amazon Web Services. They expect over the next several years the operation will become a major business alongside its retail business. "We were always a tech company: First we applied it to retail, now to this."

Manufacturers like ibm and Sun are struggling to move to the new model. Sun already offers an online rental system and expects to keep selling hardware. "We've got to be the infrastructure," says Greg Papadopoulos, Sun's chief technical officer. If you can't beat them, arm them.

Go to Amazon's web site and you'll find:

Why Use Amazon Web Services?

Battle-Tested Web Services
Amazon has spent 11 years and over $2 billion building the infrastructure, technical knowledge, and operational excellence to operate a world class web-scale computing platform. Amazon Web Services has now released a variety of web services (programmatic access to its open APIs) that enable developers to leverage Amazon's data and robust infrastructure, easily and inexpensively. These fundamental services allow external developers and businesses to build their web applications in a reliable, scalable, and cost-effective manner.

Web-Scale Computing
Amazon Web Services (AWS) provides customers the opportunity to replace existing infrastructure and scale up or down based on resource demands. This flexibility allows you to run your business at "web-scale"--uninhibited by growth in the number of geographic markets. On average, businesses spend 70% of their time building and maintaining and worrying about infrastructure, and 30% of their time focused on the ideas that will propel their business forward. Web-scale computing is helping to invert the 70/30 ratio, enabling you to spend your energy creating the difference that will make your business successful.

Web-scale computing characteristics:

- Elastic capacity both up and down
- Fast response time
- 24/7 availability
- Rock solid reliability

Only Pay For What You Use
With AWS offerings, you only pay for what you use. You dynamically scale your system up and down, depending on your immediate requirements and only pay for resources when you need them. This means there are no upfront costs, so your developers can get started using web services without huge investment. Developers don't need to give up equity or incur huge capital expenses, because costs scale along with usage.

Focus on the Idea
Free up your most valuable resource: time. Don't spend time worrying about scaling data centers, buying hardware, negotiating lease contracts, dealing with downed servers, or backing-up customer data. Amazon Web Services takes care of those issues and does the "heavy lifting". Shifting the focus from managing infrastructure to driving your business allows you to concentrate on what matters. This business approach also levels the playing field so everyone can now compete on ideas, not resources.

Who's Using AWS?
A growing community of 200,000+ developers, start-ups, and Fortune 1000 companies are building robust applications using our technology. Browse through our Success Stories to learn how organizations across a variety of vertical markets are realizing the benefits of Amazon Web Services.

For more, go to Amazon.

Stupid, but wonderful cartoons:

On his third trip to Mount Sinai, Moses arrived at the burning bush, removed his sandals and prayed to God.

"Oh, mighty God, King of the Universe, your people have sent me back to ask you a question about the Ten Commandments."

"What question do they have for Me?" roared the voice of God.

"They want to know whether the commandments are listed according to priority."

This column is about my personal search for the perfect investment. I don't give investment advice. For that you have to be registered with regulatory authorities, which I am not. I am a reporter and an investor. I make my daily column -- Monday through Friday -- freely available for three reasons: Writing is good for sorting things out in my brain. Second, the column is research for a book I'm writing called "In Search of the Perfect Investment." Third, I encourage my readers to send me their ideas, concerns and experiences. That way we can all learn together. My email address is . You can't click on my email address. You have to re-type it . This protects me from software scanning the Internet for email addresses to spam. I have no role in choosing the Google ads on this site. Thus I cannot endorse, though some look interesting. If you click on a link, Google may send me money. Please note I'm not suggesting you do. That money, if there is any, may help pay Michael's business school tuition. Read more about Google AdSense, click here and here.

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