Capital allocation

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The more things change, the more they stay the same.

When considering whether this time is different, it is well to look beyond substance and form to see whether the age old business of capital allocation is really changing. Financial services is, substantially, a very basic thing. That basic thing happens to be intrinsically very risky. All of the colossal complication that we know, love, and we rent-seeking agents secrete ourselves into the loving satin folds of, arises by way of mitigation of that fundamental risk. If you give existing pure value — abstract, disembodied worth, most commonly articulated in the form of money — to someone else in the hope they will generate more pure value, and thereby return some extra pure value to you, if things go wrong, you might not get your money back.

Call this the one law of finance:

If you stand to make money, you stand to lose money.

If a new invention comes along which falsifies this basic principle then things really are different.

The JC’s proposition is that no such invention is possible. That contravenes the known laws of physics. Any such invention would be a perpetual motion machine.

From time to time new paradigms will emerge, and people who should know better will believe this principle has been broken: Internet commerce. Renewable energy. AI. Cryptocurrency.

But none of these falsifies the one law.

First order activities

Types of banking

• Intermediating: finding people who won’t or can’t contribute capital directly and persuading them to contribute it to indirectly, via you.
• Introducing: Connecting people for a fee: finding people to give contribute capital directly and taking a commission when they do (this may look like Intermediating, using words like “underwriting”, but (if done properly, isn’t).

Second order activities

One thing

• Managing duration: a kind of non-arbitrage that works like an arbitrage 80% of the time

• Financing
• Spread management
• Form and substance the market will find a way of complicating the form by way of erecting barriers to entry.