"These differences in how we value risk help to explain why the derivatives and junk bond and future markets are worth trillions. Smart investors will buy risk from people at a discount. Now that would just be interesting if it were not for something really fascinating that it suggest about how corporations could use behavioral psychology and the popularization of entrepreneurship to earn returns that venture capitalists would envy.
The prime candidates for entrepreneurial ventures are actually people in their 30s and 40s. Their startups are less likely to fail and reasonably so. They have more experience than people in their 20s and more drive than people in their 50s. They learned about processes and products and people. But they have one major disadvantage in comparison to the twenty-something crowd: they have so much to lose."
An insightful piece into Daniel Kahneman's life work. I've always had a fascination with his books and what he writes about socio-economics and the paradoxes we see in the shops all around us. If anyone is ever interested in how money is really made, I'd highly recommend reading his books.
Why else would his books be on the reading lists of so many intern / grad banking jobs.
>He had to pay, on average, $7 and some change to buy the mugs back from people. By contrast, he had to sell the mug for about $3 and change to get them to buy when they did not already own it. Kahneman’s conclusion was that people put a higher price on loss than they do gain.
That's a weird conclusion. Let's say I value the mug at $5. Obviously I'm not going to sell it for $5, because the transaction itself is an effort, so I would lose! The opposite for buying, obviously I'm not going to buy a mug for $5 if I think it's worth exactly $5.
The price a rational person is willing to accept for a thing he owns must always be higher than what he values it at.
In a general case, probability of gain is obviously worth less than the same probability of loss, because you need bigger relative return to make up for the loss.
It's rare that I find fault with Kahneman but here - yes - also:
if someone is seeking to sell a mug to me, my perception of its value just went down.
if someone is willing to buy a mug from me, my perception of its value just went up. I might have been intending to throw the mug out before I knew that someone would buy it.
There is a big problem with these artificial "behavioural economics" studies (and it's a known issue that lab based decisions differ from real life).
But claiming that people have bad risk management (scenario : do you want the blue pill (risk of death 1/1000 or the red pill (2/1000). People pay upto 200 extra for blue pill. Or will you take part in testing the red pill for FDA (people refuse 50k to take part)
Here you are not comparing loss aversion to a 1/1000 chance - you are comparing "safe and tested pills" versus joining a human drug trial. Even non statisticians can tell we don't know that's a 1/1000 chance
So I do worry about basing predictions about VCs on poorly understood loss aversion from reports of studies that leave much to be desired.
I wish they would have picked a less dramatic consequence. Death as a consequence forces me to mitigate risk to the highest degree I know how to, which I think would skew the results, if folks are anything like me.
Death is just so final, and such a significantly different force in the lives of humans, that it can't really be compared to anything else.
The point is that people are told that the risk of death is the same in both cases, and either way, they're deciding between the same chance of loss of life, or certain loss of money, but they respond differently depending on how it is phrased - whether they would be losing or gaining the money in exchange for taking (or not taking) the risk.
What I see as the inequivalence is that in the first case, they're gaining a cure either way (if it doesn't kill them). (Although it doesn't say what would be cured - I wonder whether most people assumed a terminal illness vs. some minor ailment?) But in the second scenario, they're not gaining anything but the money. So it becomes a 99.9% chance of curing something that you want to cure (possibly terminal) vs a 0.1% chance of dying for nothing but money when you weren't even sick.
I wonder if death isn't the biggest skew though. When pharmaceuticals are mentioned, I think of weight loss, impotence, and cosmetics industries. It would be interesting to see the outcome of replicating the experiment for each of those compared to actual industry profits of each. If a group of people pay more to try to be attractive than they do to delay death, would their experimental responses to risk match the observed facts of their actual behavior? Are most people acting irrationally (in the Economics sense)? And if so, what would that tell us about the risk studies?
Normal statistics don't really apply when losing puts you out of the game permanently (like dying) or any other one-time risk. By definition statistics are about expected or average results. A company, VC, or casino can take a lot of risks and get close to the average results - an individual can't.
Exactly! The concept of "expected value" is pretty meaningless when it comes to one-time events. For example, when insuring a 1 billion $ item with a loss probability of 1 in 1,000,000 at a premium of 10,000 $, the expected value of the profit is 9,000 $ – which is useless if the insurance case occurs and the insurer is bankrupt afterwards.
Similarly in life: For some events in life, there's just no time to recover afterwards.
>"Countless employees who could be great entrepreneurs shy away from the prospect because they have something to lose. What a corporation would have to offer as a percentage of returns would be less – perhaps considerably less – than what a venture capitalist or traditional banker would have to offer."
That's why companies like Google do 10% time right? And didn't someone recently say Valve kinda does 100% time, everyone has the freedom to work on the project they find interesting.
If the manager is hurt when you take 20% time (and they will be if they are competing on productivity metrics that don't take it into account) I am sure they can find a way to retaliate (err, "communicate their priorities") that can't be provably identified in the escalation process. Besides, they wouldn't even have to be dishonest to say that you were underperforming on your primary project.
"Google gets rid of 20% time" makes a good headline. "Google revises peer evaluation incentive structure to effectively penalize employees for actually using their 20% time" doesn't, but 20% time is just as dead either way.
I don't work there. I've heard the "20% time exists in theory, but it's really 120% time" thing from two different friends (who do work at Google) and I've seen it cross HN a handful of times (once more in the sibling to this post). Marissa Meyer said it too -- but I'm not sure she counts given that she's CEO of a rival company. I'd love to hear that this cynical impression is incorrect. Is it?
Some managers are supportive and want their reports to succeed and will encourage them to direct their own work. Some are not. Google's great if you get a good manager. It sucks if you don't. Not much of a different story than in other companies.
"20% time" means that if you do a skunk-works project and it succeeds (which is hard to do-- because Google places high demands in terms of reliability and internationalization before it allows a launch, and for good reasons-- if you're only giving it 8 hours per week, so most people whose projects succeed will "cheat" a little bit) that you don't have to apologize and won't get fired for the mere fact of having a side project. That's important, but the idea that average Googlers get 1/5 of their working time to devote to anything that helps the company is a myth.
Yeah, sounds like every other large corp with deep pockets ever now in that regard. I've had this experience at large-ish tech companies and have actually ended moving cities to take a new position to work for a manager, and ended up moving on(from the company) after that same manager was re-assigned later on. Working with a great manager can be an awesome, motivational experience. It can really accelerate your career growth too.
That's too bad. I'm a lead engineer at Trulia and we have a quarterly hack week. It's less than 20% time if you do the math, but it's structured and has been, so far in our existence, inviolable. Many of these projects ship -- though they are usually features and not products.
Nearly always, a successful corporation
has some expertise in some market. Then,
the corporation can, and sometimes does,
use that expertise to
conceive of projects, evaluate them, and
execute them. And the corporation can
get the financial rewards from a successful
project.
However, in US information
technology, from
all I've been able to see from
looking at the biographies of hundreds
of US VCs, only a few in the whole
country have much expertise in anything
technical, in any market in business, or
anything beyond general management,
marketing, legal, or finance.
So such VCs are not in a position to
evaluate projects except in
terms of 'traction' or accounting
results or just a little of team or
founder personality.
To be more clear, large and crucial
parts of US culture are really good
at evaluating projects just on paper;
such parts include Ph.D. committees,
editorial staffs of leading peer-reviewed
journals of original research in
STEM fields, the NSF, NIH, and DARPA, and
many corporations with their expertise
in their markets -- GM can evaluate
essentially anything having to do
with cars and trucks; Exxon for
oil; Boeing for airplanes; GE for
airplane engines; Intel for microelectronics;
etc.
So, net, in information technology,
generally corporations have much more
expertise to evaluate projects than
do VCs.
For a more general reason, in recent years,
on average
the return on investment (RoI)
of US VCs has been poor, and evidence is in,
say:
Well, corporations are launching new products all the time. Each new product can be thought of as a
VC investment in a new startup.
However, the VC investors have to share the winnings with the founders, while the large corporations get to keep basically all of it. Oh, sure, the corporation might pay out bonuses and promotions, but this is a small fraction compared to what startup founders get to keep.
Thus, VC investors start out with a built-in disadvantage that they have to overcome: call it "founder drag." It's sort of like the race between active funds and index funds. The actively-managed funds have to overcome their higher expense ratio just to get back to even.
One quick point: No matter how different the sizes of different organizations are, they come with different DNAs more or less. Normally, one organization has very limited tolerance towards other DNAs. This alone will kill the new comers. Or the container will fall apart.
Resources are basically not a big issue for big players. It's their DNA and abilities derived that set what they are not able to achieve.
The reason I would offer less for the pill that cures my ailment and has no chance of killing me is because I also have the option to live with my ailment. Anyway, I think agree with the article I just this analogy to valuing loss greater than gain was bad.
Research suggests that the average person will not pay more than $200 for the premium pill [over a pill with a 0.1% chance of killing them].
I don't buy this. For a young person, a 0.1% chance of death is years' worth of death risk. However, I think there's a way to "trick" people into a result like this. Say that Pill A has a 99.9% chance of delivering a cure, and Pill B has a 100% chance of curing them. First, "99.9%" sounds very good already, and "100%" sets off our bullshit detectors because almost nothing in medicine always works. The 99.9 figure is more precise and therefore more impressive.
Furthermore, there's a difference between (a) the pill itself kills in 0.1% of chances vs. (b) it's 99.9% efficacious. In (b), you can take the cheap medicine and try the expensive one if the cheap one does work. As for (a), that's not something we really face because no drug that kills 0.1% of patients at normal doses would be on the market. If it were used at all, it'd be restricted to hospitals and used only when the disease was severe enough to merit it (e.g. cancer drugs).
The prime candidates for entrepreneurial ventures are actually people in their 30s and 40s. Their startups are less likely to fail and reasonably so. They have more experience than people in their 20s and more drive than people in their 50s.
Adverse selection. Most 50+ who have their shit together don't want to deal with VCs and their bullshit. There are plenty of driven, 50+ year old entrepreneurs, but they're not interested in VC. Also, they aren't interested in get-big-or-die gambits in general because getting back into the careers they left, at that age, is just much harder.
This suggests that corporations have a great deal to make by offering entrepreneurial opportunities to their employees.
I don't think that the concept of an "intrapreneur"-- except at a small number of companies like Valve (which only has a few hundred employees)-- has legs. Would Google or Microsoft or Citibank allow it if everyone wanted to be an "intrapreneur"?
While the intrapreneur path will involve a lower risk of financial loss (because it requires no capital investment, except opportunity cost in the willingness to take a lower salary and a more interesting job) it probably has a higher per-month job-loss risk. Employees can avoid behaviors that will make them enemies. They can choose not to give a fuck when it isn't their turn to give a fuck. Intrapreneurs don't have that liberty. They have to fight battles, work hard enough that they lose social polish, and (if their managers aren't supportive) navigate a conflict of interest between their personal project and their assigned work. They can easily turn into overperformers and get themselves fired. Moreover, I don't think that the sociological issues that are in play here are going to go away easily.
None of this refutes the title itself, as presented:
Why Corporations Could Get Higher Returns Than VCs
In fact, they already do. But that's another story entirely.
The prime candidates for entrepreneurial ventures are actually people in their 30s and 40s. Their startups are less likely to fail and reasonably so. They have more experience than people in their 20s and more drive than people in their 50s. They learned about processes and products and people. But they have one major disadvantage in comparison to the twenty-something crowd: they have so much to lose."
An insightful piece into Daniel Kahneman's life work. I've always had a fascination with his books and what he writes about socio-economics and the paradoxes we see in the shops all around us. If anyone is ever interested in how money is really made, I'd highly recommend reading his books.
Why else would his books be on the reading lists of so many intern / grad banking jobs.