We Are All Slaves To Facebook

| About: Facebook (FB)

Summary

The share prices of big tech companies are powering ahead. No wonder, as the position of some of these are basically unassailable.

Given the available space, we'll show this here only in very rudimentary form for Facebook.

While shareholders rightly rejoice (the party will continue for some time), with great power comes great responsibility.

There are some fields, especially the way Facebook changes media consumption that produces pause for thought.

Shares, especially technology shares zoom ever higher, and there are worries about a possible bubble. We aren't overly worried as we can see some logic behind these moves higher:

  • A long recovery and the absence of a recession.
  • Low bond yields.
  • The establishment of powerful platform economies in big tech companies, which confers enormous economic power and a position that is difficult to dislodge.

The latter is the reason why the rise in the stock prices of big tech companies like Amazon (NASDAQ:AMZN), Facebook (NASDAQ:FB), Microsoft (NASDAQ:MSFT) and Google (NASDAQ:GOOG) (NASDAQ:GOOGL) is particularly noteworthy, but not necessarily worrisome as it's these companies that enjoy these platform economies.

One of these companies is Facebook. Like Google, the essence of its business model is driven by offering a simple service, which is then used to gathering enormous amounts of data about users, and this data serves as input into a host of money spinning businesses.

By far, the most important of these is the advertisement business. Internet advertising is a pretty fast growing market, from Business Insider:

Internet advertising revenues in the US soared 22% in 2016 from a year earlier to a record of $72.5 billion, surpassing for the first time in history the $69 billion spent on TV ads. And mobile wins. All these people with their eyes glued to their smartphones as they walk into traffic or sit in a restaurant across from their friends, date, or spouse, they're consuming ads, constantly: Mobile advertising, a subcategory of internet advertising that covers smartphones and tablets, soared 77% in 2016 to $36.6 billion. For the first time in history, mobile advertising accounted for more than half (50.4%) of total internet advertising, according to the new report by the Interactive Advertising Bureau (IAB).

However, it's also a very concentrated market, with two clear winners (our emphasis):

The 10 leading ad-selling companies accounted for 73% of total revenues in Q4 2016, according to the report. So who are these 10 companies that grab the largest share of these revenues? The report didn't say. But analysts for the Pivotal Research Group, cited by Reuters, reported the only two names that really matter: Facebook and Google. In terms of the industry growth, so in terms of the 22% or $12.9 billion year-over-year increase in total internet advertising revenue, Facebook and Google together grabbed 99% of the growth! They're sitting at the sweet spot. Everyone else is fighting for crumbs.

This is what selling simple services to collect enormous amounts of user data and then putting that in a relatively simple ad model does. There is actually one not well-known company, Criteo (NASDAQ:CRTO), that has managed to reproduce these advantages, but this is an exception.

Since this market is so fast growing, it's very attractive, and since it's so concentrated, basically dominated by two companies, these companies can command vast valuation multiples as their position is simply very difficult to dislodge.

In fact, there are significant increasing returns working. The more personalized data you have, the better your algorithms can personalize ads and the more people will use your service, generating even more data, etc.

And there is nobody that knows more about you than Facebook, and you're providing this info yourself. One could say that we're all working for Facebook, producing the content which keeps people engaged, and the info on which it bases its algorithms to provide you with ever more precise ads.

There are so many ways in which Facebook acquires data about you; it's unreal. One company, Share Lab tried to map it, from the BBC (our emphasis):

"We mapped likes, shares, search, update status, adding photos, friends, names, everything our devices are saying about us, all the permissions we are giving to Facebook via apps, such as phone status, wifi connection and the ability to record audio." All of this research provided only a fraction of the full picture. So the team looked into Facebook's acquisitions, and scoured its myriad patent filings. The results were astonishing.

One map shows how everything - from the links we post on Facebook, to the pages we like, to our online behaviour in many other corners of cyber-space that are owned or interact with the company (Instagram, WhatsApp or sites that merely use your Facebook log-in) - could all be entering a giant algorithmic process. And that process allows Facebook to target users with terrifying accuracy, with the ability to determine whether they like Korean food, the length of their commute to work, or their baby's age. Another map details the permissions many of us willingly give Facebook via its many smartphone apps, including the ability to read all text messages, download files without permission, and access our precise location.

If you see the Share Lab map (in the BBC article), it becomes clear that this is just a fraction. As SA Pro contributor Altum Research in an excellent long piece noted last year, Facebook even collects data about you when you're on other sites. It does this by offering social login options when you have to create a profile to access other sites.

Social login (using your Facebook profile as a login device for other sites) makes this a lot easier and faster, and you don't have to remember multiple passwords, "49% of users who are given the social login option state that they read more articles on sites that offer social logins."

What's the benefit for Facebook? Well, cookies don't work very well on mobile and are not cross-platform compatible, so it's difficult to track people's activities on different platforms. Social login provides a neat way to pull this off. And, of course, Facebook completely dominates this social login space with 69% of the market (versus no. 2 Google with just 29%).

They even benefit from the data that app developers gather, and Facebook helps them do that.

Impossible to dislodge

What is also clear is that Facebook, with 2 billion+ users voluntarily providing the most in-depth personal information with gusto, combined with the multiple mouse traps that Facebook has devised (or acquired) to collect this data from a bewildering amount of sources, it has an unmatched ability to use personal data and increase engagement.

Several virtuous cycles are operating that solidifies Facebook's position. Users flock to it because it's where everybody else is, which is also why advertisers flock to it, and as the amount of users and advertisers increase, the amount of data increases, which is the raw material for improving the algorithms.

When these improve, the value of the site increases for the advertisers, so they flock even more to the site, which is good for Facebook, as they can charge more for the ad spaces. And all this increases the quality of the ads for users, so the ads become less of a disturbance for them. And this is only a simple description of the basics.

And all this tech whiz can profile you and target you with incredible precision. In fact, Facebook is much closer to Orwell's Big Brother than anything a state can muster, here is Business Insider:

But we share far more than we perhaps intend when we check into establishments, share news stories and 'like' products publicly on Facebook, studies shows. After you "like" just 10 Facebook pages, advertisers (or political campaigns) can get to know you as well as a colleague, according to research from Cambridge University in the U.K., and after 70 "likes" as much can be deduced about you as a close friend knows. And after 150 "likes"? You've essentially given up as much about yourself as your parents know. (Users, of course, can make their likes private).

Or, from MarketWatch:

The company carried out research on the psychological states of teenagers and found "moments when young people need a confidence boost" that could be used for advertisers, "The Australian" newspaper reported last month.

Facebook denied that this study was used to send vulnerable teenagers advertisements. With the help of the data it collects from your actions and interactions on (and even off) the site, Facebook puts you in different categories that is your ad profile.

To give them credit, you can actually intervene and change or eliminate categories, but if you have been on Facebook for some time, you'll probably arrive at the conclusion that these categories are pretty accurate (and changing or eliminating them doesn't decrease the number of ads, it just makes them more random).

Politics

This is only what's in the public knowledge. The funny thing is, to go deeper you can employ a Chrome extension called Data Selfie, that tracks your digital footprint, it even produces a psychological profile based on the five personality criteria ('OCEAN' which stands for openness, conscientiousness, extroversion, agreeableness, neuroticism) that psychometrics (which focuses on measuring personality traits) has developed as a standard.

For a long time, the problem with psychometrics was collecting data; it involved filling out long and highly personal questionnaires.

Two Oxford (UK) psychologists (or, as you wish, psychometrists), David Stillwell and Michal Kosinski, had developed a little Facebook app (called MyPersonality) that put some of these questions in a quiz. The response was overwhelming as millions of people filled these out.

Kosinski then had the bright idea to compare these results with all sorts of online data from these subjects in order to make correlations and spent years refining their models (the predictions on the basis of Facebook likes mentioned above is based on this work, you can take the test yourself on Kosinski's website).

When Kosinski published his remarkable result, he got two phone calls, both from Facebook. One was for a job offer, the other was a threat of a lawsuit. Neither of these actually materialized, but it was another company, Strategic Communications Laboratories (which later morphed into Cambridge Analytics) that embarked on the same idea.

The leading idea was that there was no reason why these methods should stop at selling you products and services. It can be used for other purposes, like getting people elected. They have done this in places like Ukraine, Nigeria and Nepal, and perhaps most famously (or infamously as some would have it) in the UK Brexit vote and the US presidential elections.

They arrived to the Trump camp through Robert Mercer, a reclusive billionaire hedge fund partner (Renaissance Technologies, a quant hedge fund) and extreme libertarian, his daughter Rebekah, and Ted Cruz (see here for a rather gripping account).

Cambridge Analytica uses a wider dataset than just likes or surveys from Facebook, almost all personal data is for sale in the US and then calculates a Big Five personality profile. Its director, Alexander Nix argued that (per Motherboard, our emphasis):

We have profiled the personality of every adult in the United States of America-220 million people

They then use these profiles to target highly personalized campaign ads or Facebook posts, basically this is no different from the personalized ads you receive, playing on one's inner fears and desires. Here is Dr. Powles from Share Labs (per Motherboard):

Facebook, argues Dr. Powles, "plays to our base psychological impulses" by valuing popularity above all else.

On Facebook, these sponsored posts can only be seen by people with specific criteria and this can be fine-tuned down to the individual.

This even worked offline in door-to-door canvassing, where canvassers were provided with an app with which they could identify the political views and personality types of the inhabitants, only ringing at houses that the app rated as receptive, and armed with conversation guidelines.

The whole process, like any big-data process, has feedback loops which show what messages works best with what people, continuously improving the message effectiveness. This also holds for negative targeted messages about opponents, to keep voters at home.

We could give you many quite spectacular examples, but the problem with that is that these are all from the Trump campaign and we don't want to let the politics overshadow the basic argument we're trying to make here, which is what power emanates from having such massive amounts of personal data about massive amounts of people, and that this power can be used in innocent and less innocent ways.

But Kosinski, the guy who developed the methods of distilling highly accurate personal profiles from online behavior has also done research into its effectiveness (from Motherboard):

The initial results are alarming: The study shows the effectiveness of personality targeting by showing that marketers can attract up to 63 percent more clicks and up to 1,400 more conversions in real-life advertising campaigns on Facebook when matching products and marketing messages to consumers' personality characteristics. They further demonstrate the scalability of personality targeting by showing that the majority of Facebook Pages promoting products or brands are affected by personality and that large numbers of consumers can be accurately targeted based on a single Facebook Page.

If it works for ads, there isn't any reason it doesn't work for politics. We don't know about you, but we find that an uncomfortable truth.

In that we're joined by Kosinski himself, who has deep misgivings about these developments, and has to explain on a daily basis that he has nothing to do with Cambridge Analytica.

Media onslaught

Another sector very much in the cross-hairs of Facebook is the media sector. Facebook has taken the news back to the era before mass media existed by changing the composition of the Facebook News Feed in favor of stuff that happened to your friends and family.

Apparently, the engagement went way down when Facebook tried their hands at becoming a news aggregator. This is another advantage of having such an enormous platform; it enables the company to experiment, throw things at the wall and see what sticks.

So now that it's back to family and friends stuff, the digital media see less referrals, yet they compete for the same ad money. If you read the first part of this article, you probably think something along the line of "good luck to that." We did.

Conclusion

Facebook's business model is in essence very simple, even if the myriad ways of execution are very complex and sophisticated. Facebook has enlisted us, the user to both provide it with content as well as an amount of personal information that, with perhaps the exception of Google, is unmatched anywhere else.

In doing so, it has created, acquired, or benefits from various virtuous cycles, more users attract more users and advertisers, producing ever more data which enables ever more precisely targeted ads (or other messages), which makes the site ever more valuable for the advertisers (or other users) and Facebook itself.

It is really difficult to imagine how this position can be assailed, let alone dislodged. It's going from strength to strength. Facebook investors are rejoicing. The numbers might change a bit, growth might level off a bit under the weight of the law of large numbers, but Facebook's position in the ad and media landscape is as solid as anything.

With great powers comes great responsibilities though. We feel particularly uneasy not so much by the fake news threat (most of which is just clickbait even if it tends to produce high engagement), but we do worry about the threat Facebook posts to the way we consume news and the economic foundation of existing media.

We can live with ads tailor made for me, but tailor-made news, especially if the purpose is hidden and sinister, not so much.

Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.

I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.

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