The Deipnosophist

Where the science of investing becomes an art of living

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Location: Summerlin, Nevada, United States

A private investor for 20+ years, I manage private portfolios and write about investing. You can read my market musings on three different sites: 1) The Deipnosophist, dedicated to teaching the market's processes and mechanics; 2) Investment Poetry, a subscription site dedicated to real time investment recommendations; and 3) Seeking Alpha, a combination of the other two sites with a mix of reprints from this site and all-original content. See you here, there, or the other site!

19 May 2010

The markets' coming squiggles

Yes, I know all about the 'news' coming from Europe, England and Germany especially, that targets short-selling. (Really, the short sellers themselves.) No, none of it surprises me; please recall my comment from Monday's post, "... a future in which governments impose confiscatory taxes against ‘evil’ investors (of all types and time frames), which begets more selling to pay the tax" seems clearly in play. Unfortunately, and as I argued, the short-sellers represent not the problem, merely its symptom. (Short sellers do represent liquidity, something the markets scream for, so the Europeans efforts amount to shooting themselves in the foot.) The true problem is the spend spend spend philosophy of politicians, who effectively prove to be spenders, not managers. Whatever happened to the concept of thrift?

The markets follow, almost lockstep, the trajectory of the US$... although it thinks it follows the ongoing travails of the . But that's okay, the net effects remain the same: Wild oscillations in all markets, especially during overnight sessions, with its lesser liquidity. But what of today, and the near future -- will the market crash here, now, as some market prognosticators suddenly believe?

This post continues on InvestmentPoetry. See you there!
-- David M Gordon / The Deipnosophist


16 May 2010

Today's reality: Potential systemic failure or system failed?

Which came first, the chicken or the egg?

Apply that puzzle of philosophy as metaphor to global economics and financial markets, and we all wonder whether equities truly move in advance of economic fundamentals or react to them. Too many swings and oscillations occur to name this or that price swing as distinct from any large economic or financial news item.

In today's speed-of-light world, grave concerns increase re the sanctity of markets and economies, and markets react immediately, devastatingly. Or do markets' renewed declines anticipate follow-on weakness? The economic and financial problems the world faces are no secret; we all know them. What we do not not know, yet, is the fallout from all our past misguided policies and pursuits (by both business and government) and the maladroit attempt to control, top down, the consequences of past bad decisions and actions.

In The Lessons of '92, I alluded that bad decisions beget bad actions, which often create negative consequences. Market speculators smelled blood as a result of the bad policies and actions made by the Bank of England and the UK government, and dove in to the banquet. In The True Objective of All That Money I pointed out how welfare nations everywhere find themselves on a cliff's edge, with one foot dangling and the other sliding toward doom. And now the world finds itself on the cusp of a crack-up boom. (This article ably explains Ludwig von Mises' notion, and the terrifying nature of its consequences.) In essence, not good.

I, and other commentators, could argue (winningly) that the global financial system does not face possible systemic failure; in fact, the system already has failed. You need look no farther than last week's embrace by the EU of the detested nuclear option: the European Central Bank's (ECB) decision to purchase government bonds issued by euro zone members, thus abandoning their long-held resistance to such a move. And which action follows on our (the USA's) many bailouts of the past 2+ years, from which directives, policies, actions, and bailouts the Europeans recoiled with shuddering horror. "Welcome to the (debt) party, Europe! By the way, the hangover is a bitch."

What the Western world attempts today is as misguided as it is noble: to spend money it does not have, to create from thin air the paper necessary to 'cover' the new deficits, to paper over past errors with more paper, to issue more debt to fund existing debt. Oh, and to give to everyone everything he or she wants: jobs, holidays, health care, a car in every garage and a chicken in every pot. (NB: the protests in Greece will come soon enough to a piazza or square, or street, near you.)

For various reasons, parts of the world are immune to this outbreak of the debt contagion: the Middle East (for reasons cultural and religious) and South East Asia (because those nations endured their own version of this financial mess in 1997/1998, and came out for the better). China remains a question mark; the nation has gazillions of liquid reserves, but most of those reserves are in US$ denominated assets (Treasuries, the $ itself), which could wither to zero in an all-out financial storm. The Chinese know and fear this possibility, so the nation hastily diversifies into real assets -- which satisfies one step of Mises' crack up boom: "Everybody is anxious to swap his money against 'real' goods..." Pay attention to what China does with its excess reserves, continues to do, now and in the future.

Global markets reflect this concern, amid mounting doubts as to how governments regard their sovereign debt, and treat their debt-holders. (Servicing debt, especially with more debt, is a bitch!) China's markets peaked months ago, as did the European markets; they all are in the throes of their price corrections. The US markets... well, let's just say the rally since March 2009 is suspect. Chart below is of the S&P 500:

Note a trend that loses upside momentum; note, too, a possible head & shoulders top. (I ignored the integral component of volume, largely because volume has diminished throughout the recovery rally.) This particular, and potentially powerful, pattern remains a work-in-process, so its realization remains anticipatory; it requires a right shoulder (arguably complete) and a breach of the neckline (identified) to confirm. The double-arrowed line measures the potential for the pattern, ~160 S&P points from the breach, a potential decline to ~910-870. (The same level I pointed to for the past several months, well before this pattern showed up on the chart!) Several stair-steps lower must occur first, though, to validate the bearish scenario: 1125, 1110, 1100, the identified neckline, and the 6 May low of 1065.

What could go wrong with the bearish expectation...?
● No right shoulder forms;
● No breach of the neckline (~1070-1065);
● An accelerated rise from a pattern failure. (No pattern is as bullish as a failed H&S top!)

I could argue that the 6 May low represents a climactic low, which would put paid to the entire expected decline (albeit that expectation was for 900-870, not 1065); certainly the data reached oversold levels. Even were that the case, however, climactic lows typically are tested, sometimes repeatedly. Worse, US equity markets trade 'heavy' and a decline of one week, however seemingly climactic, is insufficient to erase all the technical divergences and negatives built up over the past 6 and 15 months. One possible scenario, of which I could limn many, is a sideways range between 1175 and 1075 that endures for several weeks or months -- before the breach beneath the neckline finally occurs in late-summer (August/September time frame). Only time, and the accumulation of new data, will tell the true tale.

Please recall again the post, The Lessons of '92: speculators will sell short an item they deem has a lesser value than its prevailing price. This means speculators could, would, and do sell short sovereign debt, sovereign currencies, even sovereign governments. (Oh, hello, Goldman Sachs -- arguably today's equivalent of Switzerland during WW2; purportedly neutral, but if they can make a buck, then Grandma also is for sale...) The intent of the new positions that occurred on Thursday and Friday of last week could be to test the EU's mettle and intentions. (viz, the EU's $1 trillion commitment of paper and jawboning.) I know not what actions governments will effect in the attempt to bind, or even banish, speculators. Not difficult, though, to imagine a future in which governments impose confiscatory taxes against 'evil' investors (of all types and time frames), which begets more selling to pay the tax. Until resolute action of some form occurs (best would be reining in our individual and collective expectations), currencies weaken, debt prices decline, and investors (even investors!) sell equities. Actions, reactions; sequences, consequences; selling... and more selling? Perhaps the sudden vacuum of no bids on 6 May will soon reoccur, regularly so. Caveat emptor. The game of musical chairs continues. Fun, eh?

The markets finally will break, up or down. What occurs today, before the break, is the usual comparative and relative swapping vs absolute sales (or buys): trading this weaker currency for that stronger currency one (say, the arguably devolving Euro for the strengthening US$), selling short this sovereign debt and going long that sovereign debt, selling short this or that equity or equity market and going long another equity or equity market. This all is the province of hedge funds in their original form (short this/long that), and bespeaks an ongoing process of correction, not bear market; nor the end of days. The bottom could drop out, though, at any moment; certainly the warning signs, economically and financially, begin to dot and dominate the landscape (charts).

I predict nothing. My role as portfolio manager and market commentator is to lessen risk and increase reward. So I seek the new investment themes and the new leaders: those sectors, groups, and companies that not only will ride out the (coming) storm but should succeed, if not excel. Of course, between then and now lies the Land of Uncertainty, and the possibility of lower share prices.

Fascinating topics (global economics / finances, and markets), to be sure; I could continue for a good while longer. Frankly, it all is rank speculation; at least, at this moment. Will the world muddle through (again)? Will markets stabilize, and rise? Will Charon still demand his fee for ferrying us to there from here? In what form will that coin be?

It pays to be ready for all contingencies:
1) Equity markets stabilize, and then rise anew
2) Equity markets plummet, but recover
3) The world (as we know it) ends

I prefer to focus my attention on items 1 and 2 for the obvious reason. I will do just that on InvestmentPoetry, with specific recommendations, in addition to a deeper discussion of the topics I presented above. As always, your comments and insights are welcomed and appreciated.
-- David M Gordon / The Deipnosophist

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11 May 2010

Fat Finger or Perfect Storm? You decide

I laugh easily these days (Hey, we must keep our wits about us!), but Jon Stewart really nails it with this clip...

Next time some person explains market moves, or anything for that matter, and that person resorts to cliches, ask yourself, "What insight did I really get...?"

Thanks for the laugh, Jon. I needed that!
-- David M Gordon / The Deipnosophist

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The lessons of '92

A reader asks, "Please spell it our very plainly for those of us with history deficit disorder, what were the lessons of ‘92?"

Back in the 1980s, hedge funds became laden with lots and lots of money; too much money to utilize their tried and true tactics. To deploy all that new money, a new perspective was required, a global perspective. And thus arose the macro funds. I have forgotten many of the names but you likely recall a few: Mark Strome, Julian Robertson (Tiger Fund), etc. And, of course, George Soros (Quantum Fund).

Several of the macro funds decided correctly that England did not measure up to the ERM’s standards. To wit, the European Exchange Rate Mechanism (ERM) enforced specific measures by which each nation must abide; the Pound Sterling clung tenaciously above its agreed lower limit, but the fundamental situation betrayed that it should not. The macro funds smelled blood in the water and shorted Pound Sterling. They had calculated that the Bank of England (BoE) lacked sufficient reserves to combat their short sales (what with leverage, etc), and if and when the BoE responded to their short sales, it only worsened and weakened the BoE's position... which, in turn, further strengthened the macro fund managers' belief of the Pound Sterling’s fundamental weakness. They piled in: one fund after another, and one position after another. And when that was not enough, they used the inherent leverage in the futures contracts to short even more Pounds. All the while, the BoE kept jawboning the currency markets. The BoE’s position: the Pound must not weaken.

The BoE never did commit fully to backstopping its position... until early-September 1992, and by then it was too late. On the fateful day of 16 September 1992 (Black Wednesday), the Conservative government and the BoE gave up the attempt, and the Pound Sterling tumbled. Big time. Media blared the news with huge headlines, “George Soros, the man who broke the BoE!” and “George Soros, the man who made $1 billion in one day!” What the media had forgot, or never understood, was that Soros had been grievously underwater on the position; in fact, ~$2 billion in the red when the calendar flipped to 1 September 1992...

The lessons?
1) Fundamental shorts trump technical shorts
2) Stay with your conviction (easier for Soros with his track record than Dr Burry, et al)
3) Do not let anyone or any institution frighten you out of your conviction and position

The situation today is eerily similar to Britain’s in 1992. In an excellent, and exceedingly well-written essay, Robert Samuelson encapsulates the true problem, "The welfare state's death spiral..." Samuelson also posits, "There are no hard rules as to what's excessive, but financial markets -- the banks and investors that buy government bonds -- are obviously worried."

Well, yes, but that is an understatement. Investors might be leery, but speculators and traders smell blood in the water. Again. So, in a replay of the events of 1992, they short the currencies and sovereign debt of the countries in the worst fundamental position. I mentioned previously, and as Samuelson articulates, this problem afflicts welfare states everywhere (Japan, England, and the US), but especially those countries with an aging demographic. Especially hard hit, though, is Europe, because its monetary confederation never did give rise to the cultural and political hegemony many European leaders believed would occur.

Will the speculators learn from Soros' success, and repeat that triumph? Or will they panic?After some initial jawboning, the EU learned its historical lesson (England and the BoE in 1992) and committed $1 trillion to its behemoth effort of crushing the speculators. So far, the EU’s effort looks golden.

Will sovereign debt and national currencies tumble in price and value due to speculators' short sales? Will the effort to crush the speculators (further) bankrupt the welfare nations? Answers await to all of these questions, and other questions unasked. And, as with the impoverishment Soros' success inflicted on the English, however ephemeral, so too will the fallout from this story afflict us all.

Your comments and remarks welcomed, as always.
-- David M Gordon / The Deipnosophist

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10 May 2010

The true objective of all that money

Okay, so "the European Union (EU) unveiled a staggering €750B ($966B) plan to save the eurozone from a debt contagion crisis. These funds include €440B in loans from eurozone nations, €60B from EU emergency funds, and €250B from the IMF. The money will be available to rescue eurozone countries that become financially distressed. Additionally, the ECB will take the step of buying government bonds, previously considered the "nuclear option" of the euro defense measures under consideration... AND the Federal Reserve has reopened a credit line to send dollars to Europe."

The guns are all out, and firing. The immediate result: initial reversals of last week's action. Equities rally globally.  Straying from predictions, we all should ask ourselves: Who or what does all this money target?
My reply: It rushes to bandage over the symptoms of the problem, but fails to solve the problem itself.

● The problem: profligate spending by everyone, but especially governments and paid for with debt, ever more debt.
● The symptom: careening debt and equity markets as investors increasingly recognize the con game.

So investors, especially those who recall September 1992, sell short government debt and equities in a huge game of chicken; in doing so, markets decline and havoc results. (Viz the headlines from last week.)  In essence, the EU targets this $1,000,000,00,000 ($1 trillion) against speculators. The true problems remain. And who believes those will be dealt with correctly, forthrightly, transparently?

We shall learn soon enough who recalls the larger lessons from September 1992.
-- David M Gordon / The Deipnosophist

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09 May 2010

INSIDE OUT by Barry Eisler -- A Review

Some authors arrive on the scene fully-formed, other authors build his or her writing career with each new novel; Barry Eisler, interestingly, is a little bit of both. But if ever an author were born to write a specific novel, Barry Eisler is the author and Inside Out is the book. Both it, and he, are that good.

Make no mistake, Inside Out is not just a thriller with a conscience; a topical thriller, to coin a phrase. Arguably a cliché, but "ripped from today's headlines" would be an especially valid comment...

But the establishment is bigger now, more entrenched. The Roosevelt and Truman expansions were ratified by Eisenhower. Kennedy's and Johnson's abuses were ratified by Nixon. Bush Jr's extraconstitutional moves have all been ratified by Obama. It's a ratchet effect. There hasn't been a federal law in the last sixty years that's done other than increase the government's power and influence, and the power and influence of the corporations that manage the government by extension. The leviathan only grows.

"You're saying it can't be beaten?"

Hort laughed. "You can't beat the oligarchy. You can't beat it because the oligarch has already won. The establishment is like a virus that's taken over the organs of the host. Now it acts as a kind of life support system, and if you remove it, the patient it battens on will die... The establishment is a creature whose first priority is ensuring that if you try to remove it, you'll wind up killing the host.
Ahh, you say, what does that section say about anything, topical or otherwise? Read on past the snippet, though, and it begins to make sense: Eisler weaves terrorism throughout the novel's plot -- as do many thriller authors -- but also our nation's response to terrorism, and whether our reactions are right and just, or righteous and over-the-top. Few thriller authors do that, which is understandable. Why move beyond two-dimensional characters that offer nothing more than to move the plot along? Putting characters through their paces never seemed to satisfy Eisler. No, he has shown repeatedly an interest in setting high-bar challenges for himself and his books -- at the peril of losing readers. His novels reflect this growth, as they have morphed from thriller plot with interesting expositional asides, to characters sufficiently three dimensional that they are more than a grab-bag of characteristics, to external events that shape and form the characters, and their reactions to the events that shape them.

Eisler returns to characters from Fault Line: Ben Treven, his boss, "Hort" Horton, et al. (He also hints at a convergence of Ben Treven's and John Rain's story arcs in future novels.)

No Eisler novel is complete, though, without the tradecraft his readers enjoy...
She walked him to the door. He opened it and took a quick glance through the crack -- first right, then sweeping left as he opened it wider. Everything looked all right. The gardener and his truck were gone. Other than that, nothing had changed since he'd arrived.

"My husband used to do that," she said from behind him, her voice cold.

He stepped out onto the stoop and glanced back at her. "Well, I don't want to end up like him."
"Like him" would be presumed dead. Difficult to discern from the snippet, I know, but the brief section quoted above does more than move the plot along, it actually informs Ben Treven's character; it helps explain why he is who he is.

The characters become almost secondary, though, to the anger that increasingly motivates Eisler's plots. While taking care not to be polemic, Eisler reaches for the brass ring -- the Olympian heights of John LeCarre and Graham Greene. The rara avis of auctorial talent in the service of literature that assumes the guise of thriller. With Inside Out, Barry Eisler almost but not quite shares the same lofty heights with those two Olympians. (Had he seized the grand opportunity he set up so brilliantly... Perhaps in his next book, though.)

Despite the near-miss of the brass ring, Inside Out (available 29 June) showcases Eisler's increasing talent as author: he broadens and deepens his auctorial style, and edifies his readers while he also entertains them. Inside Out is a real page-turner of a novel. Highly recommended.
-- David M Gordon / The Deipnosophist

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Last week's market action: prologue or dénouement?

Equity markets decided to put on their own show of fireworks, two months ahead of the calendar. And what a show it was! At one point, the Dow Industrials dropped by ~1,000 points, its largest ever one-day point drop.

In light of that crazy action, you are told to "Use limit orders!" Please recall my post, Market Volatility, Liquidity, and You, in which I point out the primary difference between order types:
Market orders assure an execution, but not a price
Limit orders assure a price, but not an execution

● And neither type of order protects your portfolio from the shenanigans floor specialists can, will, and do play, especially during "fast market" conditions, such as occurred on Thursday and Friday. (Please re-read that post for more understanding re this topic.)

A brief recap below of my market scenario and what actually occurred:

US$ rises powerfully (if ephemerally, in a world of fiat currencies), in a flight to safety. Correct, to date.
Interest rates rise in the US, possibly globally. Initially correct, but subsequently incorrect. (A global flight to safety bid US Treasury prices higher, yields lower.)
Commodity prices pressured by a rising US$. Correct.
● Share prices of commodity producers under pressure. Correct.
● A ferocious, even "hellacious" price decline in equity markets. Correct, in its initial phase.

Investors anticipate events, not react to them. As such, you likely want to know what think will occur next, so I hope to see you on Investment Poetry, where this post continues, with specific recommendations and follow-on discussion.
-- David M Gordon / The Deipnosophist

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In recognition of the (expected) fireworks that occurred last week in global equity markets, a little balance provided by the brilliant, and brilliantly pithy, poem...

Up and Down
Beverly Rollwagen

I don't know anything
for sure unless I look it up,
but sometimes I can figure
things out if I write them
down. So it's up and down
all day long. It's a good life.
Better than back and forth
or in and out which I find
constraining. I have up
and down in balance and
with my mother's death
have discovered the true
meaning of before and after.

I will comment re the equity markets soon...
-- David M Gordon / The Deipnosophist

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06 May 2010

On (brief) holiday

Back on Monday.
-- David M Gordon / The Deipnosophist


05 May 2010

Why does Chrome's usage increase faster than all other browsers?

Perhaps it is due to its reliability, its security, its optional anonymity. Or perhaps it is due to its speed...

I know only that, for me, Google Chrome displaced all other browsers many, many months ago.
-- David M Gordon / The Deipnosophist


04 May 2010

Orwell, here we come

This ad scares the bejezus out of me, and I do not even live in Pennsylvania...

Certainly the technology is available to achieve (?) this type of monitoring, but have we devolved to this level? The Nanny State verges on the Orwellian nightmare. In one word, frightening. I wonder: Did anyone with authority in Pennsylvania  think through all the implications of this ad before approving it?
-- David M Gordon / The Deipnosophist

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02 May 2010

McNeil Consumer Healthcare -- innocent?

So there I am, reading the article below and attempting to filter it with the Libertarian perspective; that McNeil Consumer Healthcare's decision(s) was (were) forced on them by an evil government. Probably at gunpoint, no less. 
Johnson & Johnson division recalls 43 OTC medicines for infants and children
By Lyndsey Layton
Washington Post Staff Writer
Sunday, May 2, 2010; A04 

A division of Johnson & Johnson is recalling 43 over-the-counter medicines made for infants and children -- including liquid versions of Tylenol, Motrin, Zyrtec and Benadryl -- after federal regulators identified what they called deficiencies at the company's manufacturing facility. 
The voluntary recall, which was announced late Friday by McNeil Consumer Healthcare, affects hundreds of thousands of bottles of medicine in homes and on store shelves throughout the United States and its territories and in nine other countries -- a vast portion of the children's medicine market. 
The Food and Drug Administration is advising parents and caregivers to stop using the affected products, although Commissioner Margaret A. Hamburg called the potential for serious health problems resulting from the medications "remote."
FDA inspectors had begun a routine inspection April 19 in the company's Fort Washington, Pa., plant when they noticed "manufacturing deficiencies" that triggered the recall, said Douglas Stearn, a senior FDA official.
Stearn said the plant's manufacturing process was "not in control," a term regulators use to describe flawed procedures that affect the composition of medicine. Federal investigators do not know when the problems at McNeil began, but Stearn said that "this does go back in time" and that "we have to try to figure that out."
While the FDA investigates, McNeil has suspended operations at the facility. In a statement, the company said: "Some of the products included in the recall may contain a higher concentration of active ingredient than is specified; others contain inactive ingredients that may not meet internal testing requirements; and others may contain tiny particles." It said the problems may affect "purity, potency or quality."
Marc Boston, a McNeil spokesman, would not discuss the deficiencies cited by the FDA or say when the manufacturing facility was shut down. The company also declined to disclose the amount of products affected by the recall. In addition to the United States, Puerto Rico and Guam, the medicines were sold in Canada; the Dominican Republic; Dubai, in the United Arab Emirates; Fiji; Guatemala; Jamaica; Panama; Trinidad and Tobago; and Kuwait.
A complete list of recalled products is on the company's Web site.
McNeil received consumer complaints associated with some of the recalled medicines, but the company's decision to pull them was not made on "the basis of adverse medical events," said Boston, who declined to elaborate.
If a child who has taken any of the recalled medications exhibits any unexpected symptoms, parents or caregivers should contact a doctor, federal officials said. Consumers or health-care providers who experience problems connected to the recalled medicines are asked to contact the FDA.

As of Saturday, the FDA was not aware of any health problems related to the recalled products, said spokeswoman Elaine Gansz Bobo.

Parents and caregivers can use generic versions of the affected medicines; they are not affected by the recall. The FDA cautioned against giving adult versions to infants and children, noting the potential for serious problems.

This is at least the third major recall of Tylenol products by McNeil since 2008.
In January, McNeil recalled 49 types of Tylenol products made for adults and two Tylenol products made for children after consumers complained of a mold-like odor and of temporary and minor nausea, stomach pain, vomiting and diarrhea. The company determined that some of the medicines had been contaminated by trace amounts of a chemical that is sometimes present on shipping and storage material.

In 2008, McNeil recalled 21 types of children's and infants' Tylenol liquid products, saying that although the products met internal standards, an unused portion of one inactive ingredient did not meet all quality standards.
Somehow the Libertarian perception of "business good, government evil: does not square with the reality. Moreover, I have to wonder: how are consumers supposed to make this company behave responsibly? I read this item, "McNeil received consumer complaints associated with some of the recalled medicines, but the company's decision to pull them was not made on "the basis of adverse medical events" and try to square that with the reality the Libertarians propose: that consumers vote with their feet, which makes the company clean up their efforts and act the role of good corporate citizen.

But this news shakes my newly-acquired perspective that business is good and government is bad bad bad. Without the FDA's routine inspection, this 'voluntary' recall would not occur at all. Obviously not.

I wonder how many children would have to become sick, or worse, die, before word of mouth spread for a sufficient number of consumers to take decisive action that caused the company, in turn, finally to make the
correct decision.
-- David M Gordon / The Deipnosophist


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