Recently in *Investing Category

50/200 Moving Average Crossover

By Philip K. on July 6, 2010 12:40 AM | 0 Comments
crss001.gifThe 50/200 SMA crossover is one of those few technical signals that I value above fundamentals.  Some people are quite sensationalist in calling this technical indicator the death cross, but they're not too fall off.  The basic principle behind the 50/200 crossover is to buy the market when the "short term averages" are higher than the "long term averages".  You'd sell vice versa.  

It's not my purpose to make the internet reader rich, but if you work out the historical results to such a simple system you'd find that in cold hard percentage terms, this system will help you avoid the worst of the market.

Last Friday was the day the 50 SMA crossed the 200 SMA.  It means get the hell out of the market.  Despite the string of losing days, the predictive value of 50/200 says things will get worse.

Even though my Economist hat says things are actually improving like the slightly dropping unemployment rate, positive ISM, and positive quarterly GDP, these measurements are a bit slower than the predictive value of technical signals like the 50/200 crossover.

Because of the positive economic signals, I assumed the poor results from the last two months were from seasonal factors.  The summertime months are just slow months for economic activity in general.  The 50/200 cross is making me re-consider the seasonal explanation; and the poor economic output and stock performance will last just a bit longer.

I officially close my 2010 predictions from the beginning of the year.  I'll call the predicted 10% rise in the market an actual loss of about -7%.  

Rates will not go up this year.  That's wrong.  While the dollar has risen as predicted and offset some of my loss, I'll call this a lucky guess.  The dollar rose for reasons that I did not mention.  I"m still undecided about gold.

As much as I believe in the recovering market, Friday's move has reluctantly changed my mind.

The Death of Macro Man

By Philip K. on May 12, 2010 2:19 AM | 0 Comments
Macro Man has officially announced his retirement from the blogosphere.  That's terrible news, because I regularly read his well thought out posts.  I subscribe to maybe three blogs from financial individuals because not many can be trusted.  They all have their ulterior motives.  Some just want to plug their funds.  Others to build their deity status, so that they can be the dispenser of ultimate knowledge.  Many are quick to trump their correct 50/50 guesses and simultaneously ignore their mistakes.  

Macro Man was one of those rare, honest and intelligent bloggers.

The ultimate demise of MM is left to speculation.  He asserts the capital flight from his trading fund was what exacerbated his decision to throw in the towel.  

Reading between the lines, capital flight was common in 2009, but the largely successful funds didn't have so much flight that they needed to close their doors.  IMO, MM probably blew up.  He lost more than the market and his investors are punishing him for it.  From his previous posts, it sounded like MM was an international trader, playing the currency game.  Maybe the Euro did him in.

If an intelligent fund manager such as MM can blow up, then success for the individual is even more elusive.  That's the thing about this dog eat dog money game world.  Sometimes, even the good players get cut up.  

It ain't easy making money.  If it were easy, the other players would dry it up.

Head Scratching 1000

By Philip K. on May 6, 2010 1:59 PM | 0 Comments
chart_dow_dip.monster.gif

The almost 1000 point swing was hard not to notice.  All of the news pundits are now backfitting explanations as to why this swing happened.  I might as well join the party, because today's sharp drop and recovery is a head scratcher.

My initial impression was there was an error in my ticker feed.  The normal relationship between some of my trading pairs had price divergence that were 6 or 7 standard deviations from my data set.

There was nothing wrong with my stock feed.  People are now discovering that there might have been a technical glitch in Proctor and Gamble (a large component of the Dow) and that explains some of the drop.  The P&G errors were maybe 200 pts and a few hundred or so pts were the result of computer systems cascading this glitch. 

The DOW was trending around a 200 pt loss before the glitch, so the daily animal spirits would probably say a 100 to 300 or so pt loss was the 'norm'.

If about 300 pts was normal animal spirits, 200 pts was the result of PG error.  That leaves us with about 500 pts that were quite possibly the result of computer systems cascading on the trading errors?  I reserve doubt about what caused the other 500 pt drop, because I don't have nearly enough information to make any solid conclusions.  

The quick recovery immediately to the normal 300 pt loss does strongly suggest errors were what caused today's head scratcher.  I've seen maybe 10 case studies on individual stock companies where there were false reports (wrong information about bankruptcy, incorrect financial statements, etc.) and the patterns are all quick drops and quick recovery like the pattern that we saw.  All of these case studies were based on individual stocks.

Broad based markets can theoretically have quick drops and recoveries from errors if this incorrect information is macro oriented like ISM or unemployment reports, but today's errors do not appear to be macro oriented.  Can just a few errors in a few securities cause the broad market reaction that we saw?  Apparently yes, but this one is still a head scratcher.

The Brilliant Timing of the Goldman Witch-Hunt

By Philip K. on May 1, 2010 5:18 AM | 0 Comments
The financial news bomb of the SEC campaign against Goldman is hard to ignore.  There have been two common themes about the Goldman witch-hunt in the media.

  • (1) The populist opinion that Goldman are greedy scumbags (they are) and they lied to their customers to whom they owe a legal and fiduciary duty.
  • (2)  The free market opinion that Goldman was doing what every other investment bank does, make profit.

There's another theme to the witch-hunt that has not seen much spin in the media.  The SEC witch-hunt is a brilliant move that was pre-meditated, at least subconsciously, to further government interests with the noble goal of curbing moral hazard.  The decision to take action against Goldman was likely decided in late 2008 during the worse of the recession.  Actions might have been taken recently, but the heads must have stayed up at night pondering this through.  No severe action could have been taken in 2008, because of the "confidence" factor the in the market.  Pursuing legal action against such a huge player like GS would have definitely rattle the nerves of investor and suck the juices out of the animal spirit.  

Like patient hunters, the SEC waited patiently until the economy recovered from the brink of disaster.  With the stock market largely recovering and the job situation to follow soon, government interests are at play to strengthen their own bureaucratic powers and at the same time attempt to curb the morally hazardous investing of the past decade.  

Breaking it down further, I was in a securities law class that was taught by a high level SEC attorney in California.  He mentioned that at cocktail parties prior to the melt, people viewed the SEC as knights, protectorates of the little guy.  After the melt, people would wag their fingers at him and mention the SEC let the economy and the country down.   Imagine the ego of going from heroes to scapegoat.

It's too simplistic to say that SEC witch-hunt is the result of pre-meditated planning from damaged egos to expand government involvement, but it sure smells like it.

The Fear of Being Left Behind

By Philip K. on April 5, 2010 1:33 PM | 0 Comments
One of the strongest emotions and most primal fear is the feeling of abandonment.  Perhaps it stems from the fear of mother's abandonment before we reach survivability.  The genetic wiring that ensures survivability compels us to keep pace with the herd and to stick with others.  Do not stray too far from the pack or some apex predator will make a quick meal of you.  

People in power are well aware of this fear.  Religions know this.  Politics make you think you have to join a political party or you have no voice.  The fundamental idea of some religions is to join their pack or you will be Left Behind, abandoned to fend for yourself.  

Recently, the investor in me has been feeling left behind in the market.  My market neutral activities have placed me out of the market for a few weeks.  During these weeks, some of my primary instruments have jumped in value.  I can't help but feel isolated, because everyone else is enjoying the gain and I'm stuck on the sidelines.  While everyone is partying up at the prom, I'm at home online.  As cold and calculating as I can be, even this feeling of abandonment can wreak with my trading psychology.

To better understand this complexity, let's turn to a more simplistic model.  One thing you quickly learn as a card counter is that grinding out a profit is a wild ride.  There are immense swings of elation and desperation.  These entirely reasonable and likely swings happen all the time.  What you have to do is stick with the almost absolute truth.  Stick with your system and if it's a legitimate system, it will carry you upwards.

The positive swings are happening in the market and being on the sideline may evoke a terrible feeling of abandonment, but I know my almost absolute truths.  I just have to be patient and follow my guidelines, because I have no basis to chase after other people's good fortunes.  I should only be concerned with my own.

Too Soon, Too Soon

By Philip K. on February 18, 2010 3:40 PM | 0 Comments
Oh chit.  The Fed is raising the discount rate for emergency loans  (Bloomberg).  It's beginning to sound like my 2010 forecasts might be on the right track.

Too soon to call it, son.

2010 Forecasts

By Philip K. on January 5, 2010 7:07 AM | 0 Comments
My three months absence here is inexcusable.  I've been trying to shake off a World of Warcraft addiction that has been detrimental to my trading.  It created slippage in the neighborhood of about 25% reduction in my expected profits.  I kept on playing the game ignoring my end of day signals.  

The gaming addiction was that strong!  It was akin to the character Sam in the movie Avatar where he was more focused on the "virtual" world than his actual word.  All of that is mostly behind me now as I believe I've moved on.  I feel like I've already mastered the game and there's not much out of it.

Looking back at my forecasts for 2009, I've been pretty accurate and profitable.  The experts at the time, January 2009, mostly predicted our economy will not recover.  The prediction markets pegged positive GDP growth for 2009 at about 33% chance.  

Buying the Dow at 8500 and even 8000 as I suggested might not have been such a bad move right?

To put it simply, I do not expect the positive returns this year to be as nice as last year.  You know how the S&P averages about 10% a year with a whole lot of variance year-by-year?  This year feels like a 10% year.

To draw from many sports analogies, we're in a rebuilding year.  We're trying to find what works and doesn't work for our team.  There are a host of systematic weaknesses that need to be addressed and we need to focus on the positive aspects that grow our economy.

My general economic forecasts are great if you're managing a large sum of money or into that intellectual hot air.  

To break it down into a more usable form, I predict the FOMC to set higher interest rates.  The Fed doesn't exactly set rates.  They have interest rate targets, but you know what I mean.  Rates will go up this year.  There's very little doubt in my mind about this.  

To play off the higher interest rates, US dollars will be an attractive option for 2010.  If you don't see the relationship between higher interest rates and currency, then there's not much I can do to help.

What I've discovered in my statistical analysis is that the price of gold is about 60% negatively correlated with the US Dollar.  Correlation does not imply causality, but that's the nature of the gold/dollar relationship.  Be careful though, because I lost a slight bit of money betting against gold last year, but luckily my stop loss kept me safe.

I'm going to wager this year that the rising interest rates will make the dollar rise and pop the air out of gold.

What Are My Odds?

By Philip K. on September 28, 2009 11:17 AM | 0 Comments
1 Day - 53% 
5 Day - 55% 
15 Day - 60% 
30 Day - 62%

One thing winning gamblers and traders need to realize is the proliferation of fake systems.  There are thousands of betting systems.  My favorite system was a joke from a friend, "The secret to winning blackjack is to double after every loss".  

There are even more voodoo systems for trading in the market.  

The noise about fake winning strategies from television, newspapers, and books will make you deaf.  The only way to be certain of a winning system is to subject it to valid  hypothesis testing (i.e. avoid curve fitting, data mining, and selection bias).  

A common misconception for testing systems is to assume the odds of calling the market correctly is 50/50.  

50/50 is flat out wrong.

It's been said many times, "the market is a like casino rigged in your favor".  If you randomly bought the S&P index on one day and sell it back the next day, you can expect to be in the black about 53% of the time.  The chart above very roughly approximates the odds of the market based on the number of days.  The average returns from when you're right is a lot less than from the average returns when you're wrong, but in terms of the number of times correctly the percentages above very roughly approximate the odds.

Knowing these odds, it's not surprising to find many long systems promising you the moon.  Long systems should already have a built in positive advantage.  It's a strong tide that already pushes you towards winning.  

Odds are if someone is losing money in the markets after a few years they're doing something wrong.

Which Direction Will It Take?

By Philip K. on September 2, 2009 9:02 AM | 0 Comments
road-to-recovery-large.gif


Tough one.

Would You Politely Shut the Fuck Up

By Philip K. on August 26, 2009 9:45 AM | 0 Comments
2195597.jpgArnold Snyder wrote an excellent post about talkative players at the poker table a while back, entitled Shut the Fuck Up.  Some poker players just don't realize that educating the fish makes the game harder.

People's propensity to talk too much exists in all forms of advantage play and investing.  A fine delicate line exists between sharing ideas among private individuals and shutting down the game.

A couple of years back one could have taken simple algebra and made a lot of money gambling online through the various bonuses.  The returns on some of these games were equivalent to a ROI of 100% for about 10 minutes worth of work.  No kidding.  That was precisely how I built my small fortune with a couple of hundred dollars.  

The first popular site to discuss these ideas decided to shut down its message board because of the information leaks.  Another site popped up to replace it.  The leaks weren't as bad as the previous site, but that site shut down too.  The current most popular site has a new owner that does not understand the value of silence.  Any and all ideas are discussed and talkative bitches have killed the game.  Where ROIs of about 30% were common, now the most common ROIs are about 1%.  The game is dead after factoring in the risk of having one's funds stolen.

What most people don't realize is that excess returns are proportional to the flow of information.  A broad interdisciplinary understanding between information theory as it relates to gambling, investing, and maximization of wealth would clearly illustrate this.  If you care to explore this idea further I'd recommend the book Fortunes Formula by William Poundstone.

By writing this very post I am also guilty of contributing to the information leak.  I'd like to believe that my contribution is much more minimal.  I don't mention too many specifics and have not discussed the strategies or the ideas behind these opportunities, but the very act of mentioning them is a leak.  I maintain this blog so that I can crystallize my thoughts into a concrete form.  The value from forcing me to organize my thoughts exceed the slight leak it might cause.  I apologize for that.  If at anytime I feel this site is hurting my profits, I'd shut it in a heartbeat.

Relating this to the investment world, people with high Investor Quotients (IQ) don't discuss their methods.  Rather than proving to the world they're right and the Efficient Markets Hypothesis is wrong, they'd rather make millions and billions.  If that much money is on the line, they know how to the STFU.

If you spot an investment opportunity, $100 lying on the floor, or a game that can be beaten, don't tell others.  STFU and take the money.  It sounds simple enough, but people can't keep their mouths closed in real life.

Why I Don't Currently Like Gold

By Philip K. on August 10, 2009 1:33 PM | 0 Comments
I'll defer twelve very good points to an older article at Seeking Alpha:

If you're a self-professed "Goldbug," feel free to read no further. Or at least spare me your hate mail. Because no matter what I say today, I know you'll cry foul... or something much more colorful.

But for those of you with an open mind - especially after my last three contrarian predictions proved dead accurate - read on.

Because it's time to start shorting gold!

You won't find many, if anyone else, making this case. But as the first reason of 12 below reveals, that's precisely why you should give it more credence.

12 Reasons To Start Shorting Gold

  1. It's decidedly contrarian. If a contrarian investor is someone who deliberately decides to go against the prevailing wisdom of other investors, shorting gold certainly fits the bill. Right now, everyone else isbuying gold, or at least recommending it. If you have any doubt we've reached such fever pitch levels, consider No. 2.

  2. The infomercial factor. The best indicator of a turning point for any investment, in my experience, is infomercials. If an investment gets so popular it invades the pre-dawn hours with non-stop but-wait-there's-more offers, it's time to get out. And that's exactly what's happening now. So much so companies like Cash4Gold.com are invading primetime television. They even splurged for a Super Bowl ad spot. And they recruited washed-up celebrities Ed McMahon and M.C. Hammer to boot. In case you forgot, the Hammer filed bankruptcy in 1996. And Eddie boy almost lost his 7,000 square-foot, $6.5 million Beverly Hills pad to foreclosure. No offense, if you take investment cues from these two, you deserve to lose money.
.........

The excellent article just about sums up most of what I want to say.  From a more generalist perspective, there appears to be a bit of bubble mentality going on.  When cash4gold is a familiar household name, people are having gold parties, and it's being featured on nightly national news program -- talk about non-rational valuation.

For the gamblers, consider selling gold.

Disclosure:  I am long on DZZ which is a double leveraged short ETF on gold.

Some Household Gardening

By Philip K. on August 7, 2009 11:12 AM | 0 Comments
gd.jpg
In my last post I looked over the results from my four guesses.  I only looked at their returns which were great returns, but I did not consider their applicability for the future.  I'd hate to make four new guesses on four very different topics under such a time constraint, but I do want to pull out the "weeds from the garden" as Peter Lynch would call it.

I'll officially stand by guess #1.  China in the form of a GXC or FXI will still be a good bet.  No further opinion on the greenback, TIPS, and the short term market performance.

The worst of the stock market is over and now is as good of a time as any to get back into the market.  I don't like buying into market rallies like what we've experienced recently but if you can get back in at low DJIA 9's, that would be a good price.  We've seen some very real signs the economy is recovering and I think they're legitimate.

Paul Tudor Jones might disagree with my rosy outlook.  In a letter to Tudor investors, Tudor Investments is of the opinion the current market rally is a bear market rally.  They have doubts about the sustainability of the current rally.  I'd like to think that a billion dollar private equity fund managed by a trading genius would have a better opinion than me.  It probably does, but I try to be as honest and as objective as possible.  Can the same be said about any company's statements?  I don't know.

Four Guesses, Four Results

By Philip K. on August 5, 2009 11:32 AM | 0 Comments
Good investors try to be grounded in reality and tend to learn more from their mistakes than from "getting it right".  I've made some predictions over the past few months and now is as good of a time as any to test their accuracy.


Guess #1:  The investor says to invest in China through a broad based indexed ETF like GXC or FXI  (April 22)

1.JPG

This has been an unequivocal successful gamble.  GXC was going for about $50 a share when I made my guess.  It's now worth about $70.  In my own personal position I've made an approximate 40% return on this wager in the past 4 months.  


Guess #2:  For the investors, a good diversified portfolio should contain some bond holdings like TIPS (Treasury Inflation-Protected Securities).  (April 24)

3.JPG

This one is a small loss.  TIP went from $101 took a nose dive and fluctuated to about $100.  A small loss of less than 1% would hardly be considered a loss by many, but the small loss is a fact.  TIPS yields are typically very slow and this did not prove to be any exception.

There are a wide ranging universe of possibilities as to why TIP hasn't made me any money.  My best guess is the recessionary deflation pressures are slightly stronger than the inflationary pressures from increased government spending.   


Guess #3:  For the gamblers, USD is not very attractive.  (April 25)

3.JPG

This was an unequivocal success.  FOREX traders trade on leveraged currencies.  I don't trade FOREX and I honestly don't know what leverage ratio I would use, so I can't estimate what my returns would be.  Further, my predictions were just a general knock on the US dollar but I did not explicitly mention which currency would be stronger than the USD, so I just picked EURO.  Either way, this was a gangbuster correct guess.


Guess #4:  I'm starting to think this current rally might have been a bit too much and too soon.  (June 11)

4.JPG

Out of all my guesses, this one is one that sticks out the most to me.  Not just because the S&P zoomed from 944 to a 1000, but because I took the entire month of July off.  

This one is tricky and I'll chalk it up as a 6% loss.  The S&P pretty much followed as I predicted until July when it turned around and zoomed up.  Unfortunately, I was busy preparing for the Bar Exam (which I never took) and so I haven't paid much attention to the market.  

The question that bugs me is, would I have pulled the trigger in July to get out this losing position?  On about July 15th, it occurred to me that I did not check the July June ISM numbers.  The ISM numbers were surprising for me, because it showed an undeniable decline in shrinkage -- meaning the economy was showing real signs of improvement.  Would I have pulled the trigger?  This question still bugs me, but I'll chalk it up as a loss.  The lesson to be learned is that if I want to trade professionally, I will have to devote full time to the markets.  I can't compete against the market on a hobbyist basis when I'm competing against people who live and breathe the market 24/7.


Overall:  Not bad guesses.  Maybe studying economics wasn't such a bad idea after all.  

The Legendary Paul Tudor Jones on PBS

By Philip K. on July 28, 2009 2:22 AM | 0 Comments
 


I've been trying to find a copy of this 1980's PBS documentary on Paul Tudor Jones.  The only places that had it were bootlegged copies charging hundreds.  Bear in mind this was shown on PBS for free back in the 80's.  

The hour long documentary follows the daily grind, mindset, and attitude of the legendary trader Paul Tudor Jones.  FYI, Paul Tudor Jones and Edward Thorp (the father of card counting) were in a few investment deals together and it's fair to say they've collaborated on a few trading strategies.

After watching the tape, I (1) have a man crush on PTJ and (2) feel better about gambling with my life.

Update:  It's been taken down.  If you missed it, it was a great video.  Look for it to spread at the torrent sites and other places.

A Gem From Security Analysis

By Philip K. on June 29, 2009 1:08 PM | 0 Comments
From Graham's and Dodd's 1940's edition of Security Analysis, p.685:

Can the analyst exploit successfully the repeated exaggerations of the general market?  Experience suggest that a procedure somewhat like the following should turn out to be reasonably satisfactory:
  1. Select a diversified list of leading common stocks, e.g. those in the DJIA
  2. Determine an indicated "normal" value for this group by applying a suitable multiplier to average earnings.  The multiplier might be equivalent to capitalizing the earnings at, say, twice the current interest rate on highest grade industrial bonds.  The period for averaging earnings would ordinarily be seven to ten years, but exceptional conditions such as occurred in 1931-1933 might suggest a different method, e.g., basing the average on the period beginning in 1934, when operating in 1939 or later.
  3. Make composite purchased of the list when the shares can be bought at a substantial discount from normal value, say, at 2/3 such value.  Or purchases may be made on a scale downwards, beginning say, at 80% of normal value.
  4. Sell out such purchases when a price is reached substantially above normal value, say 1/3 higher, or from 20% to 50% higher on a scale basis.

Haven't I Already Said This?

By Philip K. on June 24, 2009 1:25 PM | 0 Comments
Exactly two months from today.  I said on April 24, 2009


http://www.marketwatch.com/story/inflation-linked-bonds-look-cheap-after-sell-off?siteid=rss

It's possible that I'm picking the one article in the universe that supports my position.  Am I guilty again of selection bias?

Am I Guilty of Selection Bias?

By Philip K. on June 13, 2009 2:59 PM | 2 Comments
Back in January 12, 2009 I wrote this:

The big take home for 2009 is the death of free markets. We weren't truly free markets to begin with, but government spending will be the biggest game in 2009. Our markets are going to start looking like the "Chinese Markets" with its government involvement. I can't say with absolute certainty what the next administration will focus it's capital on, but I feel confident in saying they will spend/spend/spend because we are fighting a Depression.... 


I received some flak with people calling into the whole philosophical definition of words.  There's not much value in arguments (outside of legal arguments) when people raise definitional issues to an argument.  It usually means they've ran out of counter-arguments.

Anyway, Businessweek has a nice article about the "Campaign for Free Enterprise".  Some businesses are fed up with government control.  They're even comparing the government control to communist Russia and that we're no longer in free markets.

I'd say that's pretty close to the above prediction.  I might be guilty of picking the one article out of the universe that supports my point, but it's pretty spot on.

Strong is Weak, Weak is Strong

By Philip K. on June 11, 2009 6:26 PM | 0 Comments
One of the best ideas to take from Caro's Book of Poker Tells is the notion of players trying to mask their strength by acting the complete opposite.  Players with weak hands tend to act too strong.  Players with strong hands act too weak.  The instinct is to use deception to win as much money as possible.  Weak players just don't realize that better players are one game step ahead and use weak players' deceptions to their advantage.  

The market sometimes operate on this similar contrarian principle. Widely read newspapers and magazines can be the ultimate contrarian indicators.  When the newspapers are forecasting the Golden Age of wealth, it's time to sell.  When newspapers are reporting the apocalypse, it's time to buy.

wl.jpg
The current market rally from March is giving me some cause for concern.  The economy is operating very much like I predicted since January.  The transition from bad news to "not so bad" news is the likely driving reason for the current market rally.

The problem with this current market rally is the sudden and explosive gains.  The returns are so strong and so soon, some newspapers are reporting a quick V shaped recovery.  

My economist hat tells me this recovery won't be as soon and as quick as the newspapers report.  While the US is moving out of negative growth towards 0% growth, the move from 0% to +% growth is much more uncertain.  

I just don't see much in the way of increased consumer spending (slight increases but not that great) or more business spending to drive positive growth, at least not yet.

For people to start heralding a quick V shape recovery when the current economic feel is much more uncertain signals to me a disconnect with the reality.  I'm starting to think this current rally might have been a bit too much and too soon.  

Bringing It All Together - Investing, Gambling, Economics

By Philip K. on June 2, 2009 6:36 PM | 1 Comment
Yesterday I wrote about some of the analytical framework that goes on in setting the sports line.  I might as well tie together this analytical framework in setting point spreads to investing, and economics.


Sports Gambling
  • Point Spread =  Home Court + Team Stats + Popularity +.......

Economics
  • GDP  = Consumer Spending + Business Investments + Government Spending + Net Trade

Investing
  • Stock Price = Earnings Per Share + Book Value + Market Cap +.....

In the three examples, an outcome can be estimated through regression analysis.  How we determine the  ultimate value of something is based on the parts that make up the thing.  Using regression analysis can be one of the most powerful ways of finding the truth in gambling, investing, and economics.


Note:  I've dumbed things down considerably to make this as accessible as possible.  There's also usually a coefficient value in front of each factor, but adding coefficients would make it look more confusing.  There's also the assortment of problems from data mining, multicollinearity, bad models, etc., etc.  But the three example is its simplest form

The Wisdom of the Crowds

By Philip K. on May 19, 2009 5:05 PM | 0 Comments
stand-out-in-a-crowd copy.jpgPolitical prediction markets like Intrade.com tend to be more accurate than most Gallup polls.  They reflect a "wisdom of the crowd" because of monetary incentives to be accurate.

What's confusing is how the wisdom of the crowd is defined.  While markets are very public, they don't reflect the majority opinion.  Markets are public by definition, but I'd posit that the decision that the crowd makes in the stock market is more heavily weighted by sophisticated investors.  The resulting outcome isn't the product of a majority opinion.  The average American could be stripped from the equation and the crowd accuracy of stock markets, sports betting markets, and political prediction markets, would probably be just as accurate.

That's why some of the justifications from behavioral financial economics are inaccurate.  Some traders claim that trading patterns can be exploited, because of the irrational nature of human beings.  Individuals are very irrational, but any such profitable patterns are likely gamed away by sophisticated investors.  They make up much more of the action than irrational investors.  That's what makes the investing game even more difficult.  To make a billion, I'd have to outsmart these sophisticated investors and that requires a lot of brains--the kind of brains that I don't currently possess.  

« *Gambling | Main Index | Archives | Bill Gross Comments »

Categories