The DAO of Capital

1. The Roundabout Path: Indirect Strategies for Long-Term Success

"The Dao of Capital is an impressive work. Spitznagel's approach is refreshing—scholarly without being tedious. What a broad look at economic history it provides!"

Roundabout strategy defined. The roundabout approach involves taking an indirect path to achieve long-term success, often by initially moving away from the immediate goal. This counterintuitive strategy is found in nature, military tactics, and economic processes.

Historical examples:

• Ancient Chinese philosophy of "wuwei" (non-action)
• Military strategist Sun Tzu's concept of "shi" (strategic advantage)
• Prussian general Carl von Clausewitz's ideas on indirect warfare

Key principles:

• Patience and delayed gratification
• Focus on building advantageous positions
• Willingness to sacrifice short-term gains for long-term benefits

2. Austrian Economics: Understanding Market Processes and Capital

"The market is a process."

Austrian School foundations. Austrian economics, founded by Carl Menger and developed by Eugen von Böhm-Bawerk and Ludwig von Mises, offers unique insights into market processes and capital theory.

Key Austrian concepts:

• Subjective theory of value
• Time preference in economic decision-making
• Capital as a structure of heterogeneous goods

Relevance to investing:

• Understanding the temporal nature of production
• Recognizing the importance of roundabout processes in wealth creation
• Appreciating the role of entrepreneurs in discovering and exploiting market opportunities

3. Time Preference: Overcoming Short-Term Thinking

"You've got to love to lose money, hate to make money, love to lose money, hate to make money. . . . But we are human beings, we love to make money, hate to lose money. So we must overcome that humanness about us."

Human bias towards immediacy. People naturally prefer immediate gratification over delayed rewards, which can lead to suboptimal economic decisions.

Overcoming time preference:

• Developing patience and long-term thinking
• Recognizing the value of deferred consumption
• Investing in roundabout production processes

Examples of successful roundabout approaches:

• Henry Ford's investment in production infrastructure
• Conifer trees' slow initial growth leading to long-term dominance

4. Homeostasis: Natural Balance in Markets and Ecosystems

"Homeostasis is the process of how things 'go right.'"

Self-regulating systems. Both markets and natural ecosystems exhibit homeostatic tendencies, striving to maintain balance through internal feedback mechanisms.

Key aspects of homeostasis:

• Negative feedback loops
• Adaptation to changing conditions
• Resilience in the face of disturbances

Application to markets:

• Price mechanisms as information signals
• Entrepreneurial action as a balancing force
• The tendency of free markets to correct imbalances over time

5. Distortion: How Interventions Disrupt Market Equilibrium

"The longer their erroneous thinking persists, the more out of balance things become, until there is a tinderbox of malinvestment, ready to ignite in a massive, uncontrollable inferno."

Artificial interference. Government interventions, particularly monetary policies, can disrupt natural market processes and lead to distortions.

Sources of market distortion:

• Central bank manipulation of interest rates
• Government bailouts and "too big to fail" policies
• Excessive regulation and market controls

Consequences of distortion:

• Malinvestment and misallocation of resources
• Asset bubbles and subsequent crashes
• Boom-bust cycles in the economy

6. The Misesian Stationarity Index: Measuring Market Distortion

"The MS index is very well represented by what is known as the (Tobin's) Equity Q ratio—total U.S. corporate equity divided by total U.S. corporate net worth."

Quantifying market imbalances. The Misesian Stationarity (MS) index provides a measure of overall market distortion by comparing the total value of corporate equity to the replacement cost of corporate assets.

Interpreting the MS index:

• MS index > 1: Market potentially overvalued
• MS index < 1: Market potentially undervalued
• MS index ≈ 1: Market near equilibrium

Applications:

• Identifying periods of high market distortion
• Guiding investment decisions based on overall market conditions
• Anticipating potential market corrections or crashes

7. Austrian Investing I: Exploiting Market Distortions

"Austrian Investing I is thus the autocatalytic process of indirect tools begetting greater tools, of profitable positions which then beget even more profitable positions—a roundabout investment process."

Capitalizing on market imbalances. Austrian Investing I focuses on exploiting periods of high market distortion to generate superior returns.

Key strategies:

• Using the MS index to guide market timing
• Implementing tail-hedging strategies during periods of high distortion
• Positioning for market corrections and subsequent recoveries

Benefits:

• Protection against severe market downturns
• Opportunistic capital deployment following market crashes
• Potential for outperformance over full market cycles

8. Austrian Investing II: Identifying Productive "Siegfried" Companies

"A firm with a high ROIC will naturally engage in high rates of reinvestment in the business—the managers almost cannot help themselves, as this is a simple matter of putting available funds to work in an outlet with a proven track record and over which they have exquisite control."

Seeking roundabout businesses. Austrian Investing II focuses on identifying and investing in companies with highly productive, roundabout capital structures.

Characteristics of "Siegfried" companies:

• High return on invested capital (ROIC)
• Continuous reinvestment in the business
• Resilience to economic fluctuations

Investment approach:

• Screen for companies with high ROIC and low Faustmann ratios
• Focus on businesses with sustainable competitive advantages
• Patience to allow roundabout strategies to bear fruit over time

Last updated: February 4, 2025