## Tuesday, October 26, 2004

### A coin flip

Imagine that someone offered you a chance to win a million dollars if you can correctly guess the result of a coin flip. The expected payout would be \$500,000 and you could probably sell the chance to some wealthy individual for almost that amount. Buying the chance for \$450,000, for instance would be a \$50,000 expected return. In other words for a small price (relatively speaking, of course), you could trade a situation with an extreme range of outcomes for a certain outcome.

This is an example of a win-win hedge: you get a large sum of money and the other party gets a discounted chance at a large payout. If the buyer can make this sort of transaction over and over, he'll make a good profit with moderate risk. This is how casinos and insurance companies work more or less.

Suppose you decided to keep the chance and sell a chance to win a million dollars on that same coin flip to someone else. You have an expected return of \$500,000 on the first transaction and (\$500,000) on the second (plus whatever you sold the chance for). But there are two possible way for these transactions to pay out. It all depends on whether or not you make the same guess as the person you sold a chance to. Here's a chart showing the difference:

```You  | Same | Not
-----|------|--------------
Win  |   0  |  \$1,000,000
Loss |   0  | (\$1,000,000)
```

In other words, if the guesses are the same, it's no different than selling your chance. But if they are different, the variation of results is huge. You would risk nothing in the first case and everything on the second. Statistically speaking, you would say that the results if the guesses are the different have a correlation of 1 and -1 when they are the same. If the bets were on two coin flips, the correlation in either case would be 0.

Obviously this is an extreme simplification of what investors are faced with. I own Raytheon stock and work for Raytheon, but there's not a huge amount of correlation between my job security and my company's performance. In some ways the election will matter a lot more, since I depend more on the federal budget than on Raytheon itself.

Real life is more like betting on hundreds of coin flips and we don't always know how they are going to interact. Like an insurance company, you have to spread out the risk and buy it at a discount.

## Monday, October 25, 2004

### Why I bought Canon

Canon is a Japanese manufacturer of cameras, office machines, and machines for building micro-chip and LCD screens. Chances are good that you use one or more of your products every day. I have a Canon printer and scanner on my desk, I gave my wife a Canon Rebel a couple years ago and I have a pair of Canon binoculars. One of the very pleasant surprises I found by reading the financial statements is that HP sells re-branded laser printers made by Canon, which I have used in every office I've worked in.

Buying a Japanese company (through an ADR) is a bet on the yen verses the dollar. Even a good company that becomes more valuable in Tokyo could lose value when translated into dollars. A strong dollar is bad for people holding stock in foreign companies. But it is good for companies that export to the US. Canon records high profits when it makes digital cameras with cheap yen and sells them for strong dollars. Overall, I hope Canon will be a good hedge against a weakening dollar.

Japanese companies have a reputation of trying to maximize sales even if it means lower profits, but Canon is an exception. Since 1994, net profit margins have gone from 1.7% to 8.6% in large part because gross margins have increased from 38.8% to 50.3%. The company has gone from selling cheap knockoffs of German cameras to setting the standard for optical quality, which people are willing to pay a premium for.

I bought Canon at \$45 in December when the dollar traded at about 105 yen.

## Thursday, October 14, 2004

### End of the season evaluation of The Trade

Well, the season is over and we can take a look at The Trade so far. Here are the Win Shares:

```Player         Team   POS    Bat  Pitch Field  ExpWS    WSP   WSAA Total
S Finley       LAD    OF     7.1    0.0   2.0      7   .676      2     9
Y Brazoban     LAD    P      0.0    4.5   0.0      2  1.184      3     4
B Penny        LAD    P     -0.1    0.8   0.0      1   .630      0     1
H Choi         LAD    1B     0.1    0.0   0.3      2   .089     -2     0
B Mayne        LAD    C     -1.4    0.0   1.4      3  -.007     -3     0

P Lo Duca      FLO    C      4.7    0.0   1.9      6   .567      1     6
J Encarnacion  FLO    OF     4.2    0.0   1.3      5   .530      0     5
G Mota         FLO    P      0.6    2.3   0.0      3   .546      0     3
D Roberts      BOS    OF     1.3    0.0   1.0      3   .446      0     2
T Martin       ATL    P      0.0    1.2   0.0      1   .459      0     1
K Hill         ARI    C      0.7    0.0   0.0      1   .350      0     1
```

I put Brazoban in the plus column for the Dodgers since Mota was blocking him out of playing time. I think it's pretty clear that Penny's injury and Choi's benching make this deal look pretty bad for the Dodgers. Encarnacion played better than I expected, but so did Finley. Florida certainly seemed to get a good deal.

I'm not 100% sure how free-agency works, but I think Finley's future is a win-win for the Dodgers. They get the first shot at signing him, and if someone else (Arizona for instance) signs him, they get a draft pick or two in compensation. The ages (and thus potential) and contract situation of the other players involved favor the Dodgers.

## Tuesday, October 05, 2004

### Yeast of the Pharisees

Last week I made some sourdough bread, but I didn't let it rise nearly enough. It tasted ok, but the loaves looked like albino hockey pucks[1]. Today I made the same recipe, but let the dough rise (and brushed on a little olive oil) and the results were amazing. There isn't much to the recipe: flour, water, salt, sugar, baking soda and, oh yeah, sourdough starter. I'm pretty sure the yeast from the starter is the primary source of flavor in this bread.

Jesus told his disciples to "beware of the yeast of the Pharisees", which is a fairly cryptic statement to most of us today. The New Testament records many conflicts between Jesus and the Jewish religious establishment, especially the Pharisees. Only his conversation with Nicodemus and his trip to Jerusalem as a child show anything resembling a friendly relationship. It's clear that Jesus saw something wrong with the Jewish leadership.

I believe that the yeast symbolism describes the Pharisees's flaw. During the Passover, yeast was forbidden to the Jews because they needed to be ready to travel. Flat breads (like pita and tortillas) are easier to make and carry on the road. Yeast, like the sourdough starter I use, needs to be cared for and would be a burden to travelers. Also, because yeast varies with regions, it would preserve a part of the place the Jews had left -- Egypt. Jews remove every bit of yeast from their homes during the Passover as a reminder of the flight from Egypt. These days, that mostly involves buying Matza rather than leavened bread, but in the past it meant cultivating a new yeast culture after the feast had finished.

Yeast is a symbol of contentedness and luxury. Bread just tastes better with a bit of yeast. But the yeast puffs up and adds fluff, not substance. Yeast is a sign of settling down and spreading out. Jesus said beware, because the temptation is to accept these things.

This world isn't our home. We belong to a better and higher country, so we can't be comfortable here. The yeast of the Pharisees is finding ways around the Sabbath laws, justifying hate and anger, tolerating the abuse of women. And we are all guilty of it. We are surrounded by the poor and we create all sorts of excuses so that we can go out to dinner one more time a month rather than helping. We cheat our employers out of an hour or two at work since no one will notice.

Yeast isn't inherently bad, but is dangerous to accept. Cleaning it out of your life once in a while is an exellent idea because it's just too easy to get used to.

```Footnote:
[1]   This phrase also describes DEC mice according to Google.
```

### Joshua belongs in a zoo

When I was feeding Joshua his morning applesauce, he wanted to look out the window at the doves at our bird feeder. He loved watching them and wanted to open the window. I'm sure if I had taken him outside he would have chased them off.

Joy went to her Pampered Chef monthly sales meeting, so Joshua and I stayed home. We wrestled a bit, watched some football, read the newspaper, and generally had a good time together. I know that his wildness makes things hard on Joy sometimes, but it's been a lot of fun for me.