I just wrote this two minute primer on Bitcoin and Blockchain.

We are at $2,500 but potentially a long way to go still. The must read that explains the fundamentals of a blockchain and bitcoin is still the original white paper.

The breakthrough is the ability to transfer ownership of a digital good without a trusted third party - this was not possible before bitcoin. The implication is that cash can for the first time become digital without an intermediary like a bank, visa, paypal etc. Much of the nomenclature is borrowed from mining. The miners in a competitive process keep the network secure and is rewarded by transaction fees as well as a block reward, currently 12.5 bitcoins per block - on average every 10 minutes. The block reward is cut in half in about every 4 years. There will never be more than 21 million bitcoins. Bitcoin can be seen as digital gold - limited supply, hard coded the protocol, no cost of storage and transferable as easy as an email, Gold 2.0. The bull case of bitcoin is that it is arguably 'better' than gold, and gold's 'market cap' is around 10 trillion, which would equal around $500,000 vs. the current price of around 2,500 per bitcoin.

Each block in bitcoin is capped in size to 1MB, this has meant that transaction fees recently gone up dramatically as the blocks are getting full and is now averaging some $3. There has been a big scaling debate in the space for a couple of years now that hasn't been resolved yet. Barry Silbert of Digital Currency Group is right now building consensus around a promising scaling solution. It if becomes a reality, one could expect the price of bitcoin to experience a relief rally.

As for investing, most trading are done on dedicated exchanges such as GDAX, Bitstamp, OKCoin etc. The Winklevoss ETF was rejected by the SEC earlier this year, currently that is being reviewed for a final decision but there are not big hopes. Interestingly, CME Group launched an index last year and rumor has it they might look into launching futures on Bitcoin. The most liquid listed asset is currently two ETNs listed on the Stockholm Stock Exchange by xbtprovider. Their combined assets are around $80M. They have seen some institutional buying as well.

The price currently seems to be driven by Japan, Korea, maybe India. Seen quite high premiums in those markets recently.

Other blockchains:

Every major bank is currently researching blockchains as it has the potential for instant and secure settlements in combination with the fear of being disrupted by nimble fintech startups. I think they are slowly realizing that if you create a private blockchain without a token which is required for the consensus mechanism in an open blockchain such as bitcoin, you are essentially just creating a shared, inefficient database; nothing revolutionary. The point with blockchain is precisely that you're able to do away with the trusted 'third party'. The biggest bank project is called R3: and is run by more than 70 financial institutions. They announced earlier this year that they in fact is not building a blockchain. I think this blockchain hype much driven by consultants preying on banks scared of being disrupted will slowly die down.

The open blockchain currently with the most promise besides Bitcoin is Ethereum. The transactions in Ethereum is much more flexible than Bitcoin, which gives rise to the possibility of trustless 'smart contracts' - programmable money. These contracts will execute according to the code, ie code becomes law. I can imagine asset management type of apps, financial derivatives, decentralized autonomous organizations (the most famous was called the DAO, and had a funding of $150M, see ) all built on top of Ethereum. If the "killer app' for Bitcoin is digital gold, the current killer app for Ethereum is tokens and so called ICOs, this is a really good introduction by a partner at Andreessen Horowitz, Balaji S. Srinivasan.

This is another take on the token space by Chris Dixon also Andreessen Horowitz. As an example the BAT, an Ethereum based token earlier this week raised $37M in 30 seconds.Even though Ethereum is attracting some real money it is still experimental in nature, still very much evolving, buggs are still found, their consensus algorithm is untested at this stage, the native token ether might not be a store of value as the inflation is not capped as Bitcoin's is. The project is much more centralized vs Bitcoin.

There are many other blockchains, one example is Zcash that uses zero knowledge cryptography to protect the privacy of transactions. This discussion with Nick Szabo and Naval Ravikant is really good– two of the absolute brightest minds in the space.


Bitcoin stats

Crypto market caps

Bitcoin price

General info


Industry research



 I have a friend, fairly young (today is his 20th birthday) guy in London. He has no university degree, and has spent not very much time there. Working as a project manager at some IT company, he was earning about what my daughter will be at Morningstar (where she will start in about two weeks—let's hear it for the econ major, better yet, let's hear it for mom and dad who warned about the perils of an English or history major—and can point to the lack of jobs those folks have now that they've graduated) at a ridiculous salary (not that she's complaining).

He just snagged a job at one of the major consulting companies building a blockchain group as the program manager at about 4.5 times (no, not a typo) what he was earning before (with barely 4 mos experience). At first I didn't believe him, but I heard overnight from another friend that an announcement had circulated among a few folks at the consulting firm confirming that this fellow was starting on Monday as program lead.

Absurd? Perhaps—but that's what the market rate is. For those of us who lived through the dot-com bust, it suggests just how out of kilt the area seems to to be—not merely the valuations of the currencies but the perceived opportunities by corporations. At the height of the dot-com bubble, some kid with minimal work experience and a high school diploma could create an idea (like Hotmail) and implement it with 2 days of programing (like Hotmail) and then sell it for a cool $100 million (like Hotmail). Or be hired as a COO for a start-up at a $200 million valuation at a ridiculous salary—and no product (though they had a photo of a whiteboard sketching out a potential produce with a price point no one knew had any basis in reality. Or…you get the message. But if companies are willing to invest in the area to the degree that it seems to be with him, I have to wonder if we're looking at the side of the picture, not its center.

Blockchains are in that situation, as the money flows into them. Or are they? Real products doing real work with real pricing (for the systems supporting the blockchains). So while we can argue about ethers vs bitcoins and whether they are too high or too low, the basis for those currencies to exist is undergoing explosive growth. And that's really the story here. You might get burned on the specific currencies, but investing in blockchains is a low risk-high reward proposition right now. And the question du jour is how to invest in blockchains, not the currencies.

Levi Strauss made as much as many of the 49er miners, and he kept doing so long after they had passed from the scene. Selling the pickaxes may not create as much wealth as using them, but it's a lot safer and will yield a lot of profit.

Sentiments about cryptocurrencies may be hard to assess. Sentiments about blockchains is another matter altogether. That's not only real but with significant money behind it. While I am happy for my friend, I think he would acknowledge that he's not sure how to explain the orders of magnitude change in salary except as suggesting a lot of confidence in this area as one of the building blocks of the future (or present, I suppose).

This thread may be about the blockchain du jour, cryptocurrencies.

Perhaps it should be about blockchains, the emerging technology of informational interchange.

Henrik Andersson writes:

I believe this sentiment described by David to be deeply flawed. The current bubble is in blockchain, the technology. Typically you hear these type of arguments from non technical, consultant type of people. The reason for using a blockchain in the first place is its trust less nature, it needs to be public, open and will be open source - thus this is not where the economic value lies. The banks and the consultants preying on their fear of being disrupted are using blockchain as a buzzword but without a token, it becomes nothing more than an inefficient database. R3 is maybe the best example - they recently realized tis and have abandoned the blockchain technology altogether! There is nothing revolutionary in a private blockchain, it is a shared database, not an immutable ledger. The economic value will lie in the tokens of these blockchains - they become the fat protocols that now can be monetized directly for the first time. The value lies not in the many times free software underlying these tokens. This is a good think piece: "Thoughts on Tokens".



Today I attended a lunch presentation with pension funds as the target audience. They defined risk as volatility and wanted reduce risk while maintaining much of the return. It was said that buying puts reduced return too much for most fund managers. The strategy presented was to reduce equity exposure from 100% to 50% and invest 50% in a low risk asset (short term bonds), at the same time sell both OTM calls and puts. They presented a back test of 10 years where the strategy outperformed index slightly while having a lower volatility (they outperformed during the 2008 crash and vol looked to be lower all along). I'd think they expose themselves tail risk by selling OTM puts, so was surprised they outperformed during the GFC and that they came out ahead. I still think they make it 'look' good during 'normal' markets but will get killed performance wise during sufficiently high upside and downside volatility–so I really think it is somewhat of an intellectual fraud to call this a 'low risk equity exposure' for pension funds.

Alex Castaldo responds: 

I did not attend the presentation mentioned, but I am familiar with this kind of option selling strategy. One of the simplest is the PUTW (or PUTSM) strategy whose results are updated daily on the CBOE web site.

In the attached chart I compare it's total return since 1/2007 to the SPY total return (the S&P 500). Starting both strategies at an arbitrary level of 923, we see that PUTW falls to 690 in early 2009 (a 25% drop), while SPY falls much further to 503 (a 45% drop). What I find particularly interesting is how well PUTW holds up in the first half of 2008: while the stock market is going down PUTW manages to be steady or slightly up because it is selling puts at a high implied vol; only when the stock market begins to sell off very sharply after 9/30/2008 does PUTW also drop.

But even more interesting is what happens in March 2009 and after: the SPY begins to climb faster than the PUTW, slightly faster at first but markedly so after September 2012 and soon thereafter SPY passes PUTW. At the end of December 2016 SPY is at 1798 while PUTW is at 1668.

My conclusions are:

(1) The PUTW strategy has a lower volatility than SPY, both in terms of a lower drawdown in 2008 and a generally smoother path throughout the period (std dev of 11.5% per year versus 15.2% for SPY). The claims made during the presentation are believable. There is no intellectual fraud here.

(2) Everything has drawbacks as well as benefits. The drawback of PUTW is not that it will lose heavily in the future during periods of enormous volatility, but the opposite: that it will underperform during prolonged bullish periods for the market and probably over any sufficiently long period (long enough for the implied vol to adjust to whatever the situation might be and for the law of large numbers to take effect). So there is nothing magical here, as Dr. Zussman would say just the familiar tradeoff between volatility and return.

(3) The correlation between SPY and PUTW monthly returns is 0.85 (beta is 0.65) so PUTW is not all that different from SPY in terms of sources of risk (it is not a very good diversifier for stock market risk).

(4) The performance of PUTW is not theoretical or proprietary or reserved only for pension funds; it is explained on the CBOE web site (roughly speaking: sell 1 month ATM puts fully collateralized with cash) and since February 2016 there has been an ETF (also called PUTW) that implements it. So far it is small (30 million in assets). It has a 0.38% expense ratio, and so far has been tracking the CBOE version with accuracy that is quite respectable, and in line with expectations.

(5) Yes, you can reduce risk by selling Vega. Or increase risk by selling Vega, it is all in the proportions and how you do it.



Today I attended a lunch presentation with pension funds as the target audience. They defined risk as volatility and wanted reduced risk while maintaining much of the return. It was said that buying puts reduced return too much for most fund managers. The strategy presented was to reduce equity exposure from 100% to 50% and invest 50% in a low risk asset (short term bonds), at the same time sell both OTM calls and puts. They presented a back test of 10 years where the strategy outperformed index slightly while having a lower volatility (they outperformed during the 2008 crash and vol looked to be lower all along). I'd think they expose themselves tail risk by selling OTM puts, so was surprised they outperformed during the GFC and that they came out ahead. I still think they make it 'look' good during 'normal' markets but will get killed performance wise during sufficiently high upside and downside volatility– so I really think it is somewhat of an intellectual fraud to call this a 'low risk equity exposure' for pension funds.



Time to reflect on the market as we are at the anniversary of the 6 year bull market.

I hardly know anyone who was bullish at S&P 666 in March 2009, then the market tripled. Think back, who was bullish, maybe that person is worth listening to.

Over the past 8 years whenever I speak to a new hedge fund they are short the same stocks, Kone, H&M, Novo, throw in SHB and Autoliv and you have a basket of the highest quality stocks in Scandinavia (and the best performing companies over the past decades). Therein, I believe, lies the value of local research and knowledge.

Even though every fund is said to be 'contrarian' there are always the current fashionable ideas that everyone gravitates to. Currently, in Scandinavia it is short ICA SS (on the thesis that Sweden will be hit with hard discounters like the UK. ICA's margin was hit in Q4 which reinforces the short sellers thesis independently of the reason) and long AKA NO (oil is said to be 'contrarian', couple that with a divestment case and you have powerful story for the analysts to pitch to their PMs).

Crashing commodity prices, currency war, crashing yields (with a big chunk of European debt trading at negative yield), surely this can't be because everything is so rosy in the world, this cant possibly be 'good' news. Couple this valuations close to ATH and I have for the first time in 25 years sold everything (I started investing when I was 12). Everything.

The ones who were bearish during the past 6 years blamed, QE, the Fed. 'My model couldn't possibly predict the government distorting the market like this'. Now the thesis is 'money is free, the only place to invest is the stock market', 'yields will stay at zero forever', 'buy high yielding stocks'. Peter Thiel argues that high dividend stocks are one most bond-like, so aren't that the biggest bubble around. And at the end of the day aren't Peter Thiel smarter than all of us?

Just to keep things honest. Today, I've have started to buy back. Since I usually sell too early and buy too early, I'm looking to scale in over the coming month or so. Even though I sold at around 2070 and we are now 150 points lower (not sure what the futures are exactly right now), it is really painful to see the market go higher when you're out–it is too hard to get back in when you sold, the lesson is of course not to time the market (even though I was successful this time). In my 401k, I have a guaranteed 3% pa return fund, which was not a bad option during the past 6 months.



Here are some lessons I've learned during the past 8 years:

1. Call options. If you truly have conviction, buy long dated call options as volatility tend to be under priced for long maturities.

2. Short selling. It is harder to short sell than most think, and almost no one is good at it. One hurdle is the drift, but there are countless more.

3. Romance. You're clearly better off to marry someone in management than to marry the stock.

4. Dip buying. The successful buys on dips and vice versa, it follows that the unsuccessful do the opposite.

5. Market. Everyone is always bearish on the market, only the super successful dares to be bullish/naive.

6. Story. Human brains are hard wired over thousands of years to build stories around your beliefs/thesis.

7. Flexibility. The super successful are always ready to change their mind/direction. Go from long to short or from short to long.

8. Art. Stock picking is as much art as science and very rarely are the smartest the best at this game.

9. Top-down. Local knowledge remains under appreciated. The top down guys ends up shorting the best companies and vice versa.

10. Management. Always invest with the best in class management, however you are better off with a good end market and bad management than the other way around.

Stefan Jovanovich writes: 

Yes! Especially #10. "You are better off with a good end market and bad management than the other way around". It applies even more to private business than it does to public companies. Believe me. 

Gary Rogan writes: 

#10 is a lot like the Sage's favorite. When a management with a reputation for brilliance tackles a business with a reputation for bad economics, it is the reputation of the business that remains intact.

Russ Sears writes: 

Most people cannot admit when they are wrong, in over their head or incompetent. If the tide turns and a business with good economics but bad management becomes a business with bad economics and bad management, then the fraud, accounting tricks and pleas for government bailouts come out. The "smartest guy in the room" is leading the way.



 For those with a bloomberg professional terminal, "live" bitcoin prices are now available. The symbol is XBT <CURNCY> <GO> … so we can now run all of those essential analytics.

But standing in the way of this analysis is the fact that the forward, interest rate parity, etc. pages are all blank. Because they don't exist….

VCCY <GO> is the "virtual currency monitor" page.

Henrik Andersson writes:

Rocky, I found a way for you to short Bitcoin. btcjam.com is a peer 2 peer Bitcoin lending web site. If you sign up under the alias 'RockyHumbert' I promise to help fund the loan provided you pay a decent rate….

Rocky's Ghost writes:

Rocky will be heading back to the Northwest Territory shortly, but before he departs, he wants to give a shout out and thanks to Henrik for what Business Insider ranks as the single worst investment of 2014. Bitcoin declined from about 800 to 314 over the course of the year (which is even worse than Rocky's daughter's Mattel stock which she owns for the "long run". )

If Rocky were going to make a similar bet for 2015, it would be to buy calls on UUP. Wishing everyone a happy and healthy 2015.

1. Trade with the trend.
2. Ride winners and cut losers.
3. Manage risk.
4. Keep mind and spirit clear.

Ralph Vince writes:

Interesting post indeed. I have no predictions for 2015, other than to put as much as I can behind my trading. As there is more than one way to skin a cat, in reading Rocky's Ghost's post (and I admire his market acumen as I do his physical self) I would amend his four points, most interestingly, as follows:

1. Trade as though the data is entirely random and fat-tailed (RG :Trade with the trend.)
2. Always be taking profits (RG :Ride winners and cut losers.)
3. Manage risk. (RG: Manage risk.)
4. Shake it - but don't break it (RG: Keep mind and spirit clear.)

Point #3 bears repeating.

anonymous writes:

Some Seykota additions:

#5. Follow the rules.

#6. kKnow when to break rule #5.



 Hi Victor,

I'm wondering if you have studied bitcoin at all? Or do you only consider a market once its very liquid?

Victor Niederhoffer writes: 

Seems ready to implode.

Barry Gitarts writes: 

Based on what?

Victor Niederhoffer writes: 

Crooks are using it.

Barry Gitarts writes: 

Isn't that the case with all money?

Victor Niederhoffer writes: 

It will be shut down because it competes with things the government like to monopolize.

Barry Gitarts replies:

That was a fear earlier, however the senators, agency heads and Bernanke all seem to think it serves a purpose and are afraid to stifle the innovation:

Ultimately isn't the government just run by short sighted politicians who just want to be reelected? Any politician who stands up against bitcoin or any internet application stands the risk of being "Ubered" (see this article).

Bitcoin does seem to be a disruptor for traditional banking, but so was the internet for the post office, newspapers, tv and retail, that only grew the internet not kill it.

This reminds me of a half joking quote by Russian entrepreneur: "If you create a business that disrupts big business in Russia they will kill you, in America they buy your business."

Victor Niederhoffer writes:

I remember Peter Theil the founder of PayPal
saying that if they knew what he was doing, they would have shut him
down. As it is, only the Lousiana Attorney General was fast enough out
of the box to try to shut Paypal down. 

Richard Owen writes: 

Like all good bubbles, there is a legitimate story at hand. Even with Tulips there was a valid story of rarity that then seemed as psychologically permanent as does now the rarity and desirability of a Van Gogh.

Bitcoin is a bit like the currency of an island entrepot whose domestic economy is tiny and whose export base is mainly composed of criminality and laundering and for which the currency of the island is disproportionately held as wealth of a group of island oligarchs [I suspect he has sold some and someone might correct, but it appeared superficially that the founder's bitcoin may have a billion plus market value?]. Many accidental paper fortunes are held by bitcoin miners: will they stand passive in the face of volatility?

Of the three social gatherings I attended Weds to Sat of last week, all featured discussion of bitcoin and at one - of the type featuring participants who, to listen to their narrative over time, would appear as genius and never to have taken a loss - the non-documented boastage of coups won and utmost sagacity shown in the BTC market. Mr Thiel is smart: he is financing the pick and shovel providers, not running a large position in coin.

So yes, why not $10k BTC, but also, why?

Henrik Andersson writes: 

 Richard, this is clearly the mainstream/consensus view - bubble. The contrarian trade is not always right (far from it), but was is clear is that many commentators don't understand the many faces of bitcoin. What is also clear is that a good investment decision (long term, not trading) can be done on the premise that the highest probability is that the ultimate value is zero. The question is what probability do you put to the USD 10k scenario. "Nothing is more powerful than an idea whose time has come" Victor Hugo.

Richard Owen writes: 

 You make very good points, and I am sure you know all sides of the argument well. If you are long bitcoins I hope very much it is for a large and successful profit. Please manage your risk well. I am not smart enough to assign a probability to $10k. The thoughts are offered without prejudice and are an honest sampling of my experiences as have occurred. I have no position either way and should be distrusted or discredited on that basis. There may be commentary that it is a bubble and my thoughts or analogies may be derivative and unoriginal. The price is possibly also a form of consensus and that is that each BTC is worth a bunch of money, and increasing. As many have gone bankrupt shorting bubbles as being long. 

anonymous writes:

I recall the great Jim Rogers saying that Hysteria is the first thing to look for, but one still needs to pinpoint a reason to go against it. The kind of examples he gives are buying stocks in country's whose stock markets have been closed, buying tea plantations when the price of tea has plummeted etc. Bitcoin? Might just have to let it play its course. I think its a bad joke, but even I must admit it did survive the 50% drop recently before this latest headline grabbing advance. Anyway, this is just my two cents and I have no interest in even attempting to try and speculate with or against it. 

Jan Peter-Jannsen writes: 

Bitcoin as a technology is superb. Bitcoin as a currency is questionable. Bitcoin as an investment is a bad bet.

A great strength of Bitcoin is that it is open source. Any experts can validate the code, and so far there seems to be no flaws. The crypto-curency works!

But cannot open source also be a great weakness? Anyone can copy the code, improve it, and make an even better alternative to Bitcoin. Is there any reason to stick to Bitcoin if and when that happens? Bitcoin is volatile, no prices are quoted in Bitcoins and very few have both their income and expenses in it. Those who use Bitcoin need to exchange to and from other currencies, so why not switch to another digital currency?

In terms of investment I believe it is a bubble. The supply is very low; many coins have been lost and the majority of coins are probably in the hands of the founders. I guess they are selling at the moment, but at a low enough speed to keep the bubble growing. In terms of demand; everyone talks about it these days.

In the coming years I predict new payment systems to arise based on technology pioneered by Bitcoin. But Bitcoin itself will soon be forgotten.



 Some recent observations from my vacation in Singapore:

1. Kinnevik's 'Zalora' is by far the most visible online shopping site in Singapore

2. As house prices risen, the Singaporean population have turned against low skilled labor in a big way. Not to lose the next election the PAP is making it tougher to immigrate

3. A high speed train between Singapore and KL is in the making, might be positive for KL real estate prices among other things

4. As the case in most of Asia the subway in Singapore is day and night compared to NYC. It's silent, fast and efficient

5. The biggest change since my last visit 7 years ago is the entrance of the (mega) casinos. The government doesn't let locals gamble

6. The Singaporean government publicly says they like to reduce the labor force through efficiency measures.

7. The container harbor seems to have expanded several miles on the coast

8. The best restaurants in Bali are comparable to anywhere in the world

9. Bali still feels like a third world country, much more so than Thailand for example

10. Don't surf in low tide, you risk injuring your ankles (the market analogy; don't go in over your head)

11. The building boom in Dubai is still very much in full swing

12. Emirates' rapid expansion has meant deteriorating service, but still way ahead of any Western airline

13. All the 'real' work in Dubai is done by foreigners. The 25-30% of the population that are local mostly work for the government

14. Burg Khalifa is not only the tallest building in the world (at almost twice the height of Empire State building) but going to the top is 10x less painful and faster than the Empire State experience.

15. Dubai is everything that Singapore aspires to be.

16. Dubai is full of American chains and US celebrities endorsing the brands. IHOP, Shake Shack, Starbucks and the list goes on and on

17. Amazingly the price of car service from the airport is almost exactly the same in Singapore, Dubai and New York.



Some examples.

You have the insider that buys shares in their own company where there is a takeover rumor. If the stock doesn't go down it should. [If there was a real takeover under way the exec would know about it but would be legally prohibited from buying. Hence the takeover rumor is debunked by his buying].

Today I met a manager of a company who was surprised the share price didn't go up when they didn't start the buyback after the quarterly report– like they usually do. The share price didn't move up until after the orders were released to the market. [The postponement was due to an important announcement pending. The fact the company did *not* do the usual thing should have  been a clue that something was up].

What other unintentional signals are there?



 There are 2 obvious derivatives on mobile payments and NFC. The rumor is that iPhone 5 will contain a NFC chip that will help popularize the technology. And so quickly looking into it would lead you to PAY which is the leader in payment terminals that needs to be upgraded would NFC based payments become popular.

The other one is the semiconductor leader in the field, NXPI. The long term problem with NXPI seems to be that prices likely will move from $5 to 50 cents in short order and from standalone chip to integrated solutions where NXPI doesnt play. Both stocks are seemingly cheap at PEGs around 0.5. One has been following Square and what the founder of Twitter is tying to do (payment without tapping phone or credit card). Here is an excellent article.

So this morning when one was about to pull the trigger on PAY, Square announces the partnership with Starbucks and instantly wipes away 10% of PAY's market market cap. Could the reason for Apple not introducing NFC yet be Square? I guess we will see on September 12th.



 When I first started studying stocks and insider trading, I got a cold call from a broker touting a medical stock saying insiders were buying. A little research showed that all the executives got company large loans to buy stock, and the company was in trouble, right before they faced bankruptcy.

Then Indiana's biggest insurance company at the time through rapid acquisition, Conseco, CEO and Board, also seemed to buy just before any big announcement. But again, they got big loans to buy stock right when they got in trouble buying the mobile home lenders. I believe it was Greentree Financials, the first "big" financial failure due subprime 10 years before the crisis of the "big" financials, who were smarter than everybody else.

After these 2 experiences, one wonders, if this is a "hail mary" signal. When the board wants insiders to buy a synthetic call (buying the stock, in effect shorting their bonds by taking a loan), do the stock and their bonds underperform?

Any studies on this?

Henrik Andersson writes: 

The firm I work for just launched a product following insider transactions and the track record per insider for Sweden. The product was first back tested. Part of the conclusion for that back test were:

After studying over 140,000 insider transactions over the past 12 years in Sweden, we conclude that following insiders leads to excess returns on average, confirming the results of numerous academic studies. However, not all insiders were created equally: some company insiders have a much higher "hit ratio". Our analysis also confirms the limited value of sell transactions for generating excess returns on an individual stock basis, although the volume of insider selling on aggregate can be a useful alarm bell for market moves. Our analysis of Swedish insider transactions shows that insiders have on average earned an excess return on share purchases of 3.2%, 5.5% and 13.3% for 3, 6 and 12-month holding periods respectively. Insider purchases outperform the market 55% of the time, but there are large deviations in this "hit ratio" by company.

The log normal distribution of the returns of the insiders look normal but with the average return beating the market.



 Recently I have posited that the market to an inordinate degree shows the main attributes in its daily moves of the most vivid sports game that has not been used. I would add to this that during each hour the market is likely to move to the rhythms and dynamics of the most likely classical music being played on a classical music station in home town, for example the former WQXR in New York, in full knowledge that these programs are often selected 2 months in advance, and noting that I was a subscriber to same when I was 12 years old.

I am adding to my list of mystical encampments and predictions that the fortunes of Apple and Lady Gaga will follow a similar arc in the future, and as soon as the Lady loses her luster, or a substantial base of her gay support, Apple will be ready to nose dive.

Do you feel that because of these ideas that I should resign my post as chair of Dailyspec which is designed to deflate ballyhoo, or is this just a symptom of that predilection that old men such as the Sage and the Fake Doc have to maintain their romantic aura?

Henrik Andersson writes: 

As an engineer I can be accused of being too focused on science. One of my mystical ideas right now is that I believe the market will turn once these four companies reached the round 4. In Chinese '4' is an unlucky number as it sounds similar to 'death'. That's why for example there are no Nokia product lines that begin with '4'. Marine Harvest will at a salmon price of NOK 28 post an EPS of 0.40 in 2012e. At PE 10x, the stock is going to NOK 4, Maersk profit warning is getting closer whearas i believe 40k will be reached. June also seems to the peak season for ordering new vessels, Husqvarna has been on a straight path from SEK 50 to 40 with the CFO canned and the CEO watching the share price decline from the hospital bed. Nokia is this morning getting very close to EUR 4.00. I just read yesterday they are now making more money on iPhone sales (they are getting royalty) than their own sales. The market needs to 'die' before it can rise again, and these stock will in the process all hit 4.



Let's say a high PE stock in an efficient market trades at 1x PEG. Then the share price needs to appreciate at he PE level (20 -> 20%) for the valuation to remain unchanged. This higher drift might be an argument for growth stock investing. Is this an argument usually seen?

Gary Rogan writes:

A simpler version is often seen, simply related to "growth" corresponding to a higher growth in earnings or that the stock in underpriced based on the high growth and not high enough PE. Few people make an argument based on the valuation in the sense of PEG remaining unchanged, probably because there is no rule that it has to remained unchanged due to the volatility of growth rates in growth stocks.



These were the top 5 lessons that the market taught me last week:

1. When the meme is to trade everything on the second derivate it doesn't matter that earnings beat by 114% as the container division in x did.

2. When the world is balancing between hope and despair (double dip) the risk premia ought to be very high and thus the risk reward owning equities unusually favorable.

3. It often pays to stick to your long term cases and not change around too often. xx lost a quarter of the market value last week. xxx finally moving higher etc…

4. Bad/ low quality companies have a tendency to be unlucky. xxxx comes to mind

5. Analysts have a predisposition not to care what is priced in. xxxxx is lower now than before the news that Finland will not implement the windfall taxes.

Steve Ellison writes:

The lesson I have learned this summer is that the counting trader should consider the data mining bias and expect that returns from a backtested method are likely to be lower in real trading than in the backtest. As Bacon recommended, having a trial period for a new method in which one paper trades or trades with tiny amounts can be valuable for assessing whether the method performs well out of sample.

Relatedly, I first heard of the Hindenburg Omen in 2005 (here is a link from that time. Therefore, while some suspect data mining or curve fitting, I am certain that at least the last four occurrences were out of sample. In 3 of those 4 cases, the S&P 500 was lower three months later (and I evaluated only three-month returns, not other intervals, which would have been another form of data mining):

 Date    S&P 500   3 Months  S&P 500
 of Signal   Close     Later     Close   Change
 10/5/2005  1207.8   1/5/2006  1281.3      6%
 4/18/2006  1324.5  7/18/2006  1245.7     -6%
10/19/2007  1515.3  1/18/2008  1325.3    -13%
 6/18/2008  1341.6  9/18/2008  1203.2    -10%



Masa restaurant

I had the best steak in my life last night in Sandpoint , Idaho. A filet of Wagyu beef, bred locally. - Dan Grossman.

The main surprise in Dan's post now that we know that it was suitably down to earth was that a local product like that should be of such a high quality near to the source. Invariably the best quality is at distant locations like Masa from Japan where the transportation costs make the necessary marginal utility of purchasing the product much higher. One leaves as exercise for reader how this can be applied to meals for lifetime in markets.

Henrik Andersson comments:

Maybe the way some successful investors that are far from the information centers (like Wall Street) are widely regarded legendary analysts (at least outside this site)– like Templeton in the Bahamas, Buffett in Omaha… 

Yishen Kuik writes:

a nile perchMany tropical fruits produced in Malaysia get sorted by quality grade, the best of which are sent abroad because they can fetch a higher price in higher GDP/capita countries. Locals complain that they only get the imperfect fruit. Probably useful to note that when you buy and eat a beautiful fruit from Whole Foods, it's possible that is because 4 or 5 other people elsewhere are eating fruit from the less beautiful left tail of the distribution.

An extreme example of this was featured in the documentary Darwin's Nightmare, where Nile perch from Lake Victoria were caught by local fishermen, turned into Western supermarket friendly fillets and airflown by Soviet pilots to Western Europe. The remnants of the fish carcass are fried and sold locally.

However, I would assume the best sashimi is likely to be sold locally in Japan. The whole mysticism of a Platonic ideal for fish is taken very seriously over there and the population is wealthy enough to bid to keep the best specimens at home.

The best product goes where it will fetch the highest price it seems.

Victor Niederhoffer emails Tyler Cowen:

What is the economic analysis of this? The thread started with a friend saying he had some great wagyuo beef in Idaho and I said I was surprised that a local high quality product like that was not shipped far away because of transportation costs and diminishing marginal utility et al.  

Tyle Cowen replies:

I don't think the Alchian-Allen theorem holds so often for perishable foodstuffs. First there is the spoilage problem.

Second, consumer taste is often more sophisticated near the product's source (maybe people ate it more growing up because of higher absolute quantity). Japanese have better taste in sushi than we do, for instance. That means Japan ends up with the higher quality sushi.

Alston Mabry comments:

But Japan is also by most accounts the most expensive country in the world to live in. If sushi were native to Angola, then Angolans would eat lousy sushi and export the good stuff. Japan, being rich, keeps the good stuff. The good stuff tends to flow from places where prices are low, to places where prices are high. 

Jason Thompson adds:

 Concerning what you wrote about how "Japan is also by most accounts the most expensive country in the world to live in."…

Indeed it's close and this fact is critical to recall when one hears the canard about Japanese "deflation" and their lost decades. It's amusing when stooges like Jonathan Laing (Sp?) of Barrons uses Japan to advocate further dollar debasement and expanding the Fed's role to buying SP futures. It goes to show how the fascist kleptocrats have won when such nonsense can be discussed as if based on sound foundation of fact and logic. Japan is a mess because of a

1) a bubble fueled by massive credit creation made possible by funny money

2) the unwillingness to accept the consequences of said bubble popping (As this would mean that many ofthe elites that run the show would go broke/lose power/lose face)

3) terrible demographics combined with terrible social entitlement programs whose math only computes w/rising taxpayer base.

Don't misunderstand me, parrallels exist between Japan and the US, it's just that the kleptocrats don't want you to figure that the connection is their behaviour– that they are the problem. 



Lone Norwegian wolfI've been pitching a Norwegian tech stock to my US clients recently without any success. I wrote down some lessons I learned in the process. Hopefully some of them are more than meals for a day:

1. These days, some of the most successful companies in the world are platform companies

2. Buy companies that you don't understand. Most likely others don't either and with some homework you can easily get an advantage over the average investor. This is my anti-Buffett rule of investing. Now, do you understand how x makes money? Do you have a grip of all parts of xx?

3. It doesnt matter if the share price is up six fold during the past 12 months, what matters is if the company got cheaper or not in the process. Did xx get cheaper or more expensive when xxx was up 6% yesterday?

4. Sometimes the news follows the price. This is particularly true in Norway. Did xxxx trade up just before the bid last year?

5. If management goes on a buying spree maybe you should too; especially if management has higher degrees than you have. Did xxxxx board go on a buying spree this spring?

6. PE 15 is not necessary expensive for a company growing 150 or 200% and has nok 5 in cash (pre split).

7. A company with no international investors is probably not crowded

8. If the biggest companies in the world wants to be your clients, the business model is probably strong

9. Growth will eventually slow is true for the best companies in the world and every investment I can think of. Is that your or other people's investment obstacle?

10. It doesnt pay to a be a lone wolf/contraian on the sell side, only on the buy side.



It seems like

1) naive people think the market will go higher as the momentum is that way

2) the smart people think the market will go lower because the VIX is at a low level, and they want to look smart being contrarian. They also know that you always sound smarter if you are bearish, being too afraid of being thought to be naive, and only Buffett is allowed to be bullish

3) the super smart think the market is going higher since the IPO market hasn't taken off, M&A hasn't taken off, and there are still people who have missed the rally, i.e., money on the sidelines. They also would rather talk about the rho than the vega.

Category 3 often overthinks the market, in my opinion, and some of the worst stock pickers are found in that category.

Phil McDonnell writes:

Mr. Andersson's point about rho's being important is noteworthy. The normalization of the yield curve will be the biggest macro event over the next 12 months. It is not a question of if, but when. Selling options when that happens could be hazardous to your wealth because increasing rho will cause them to rise.

Jim Sogi comments:

It seems from the depth there is some big money bidding up here. Brokers? There was also big money bidding the '07 highs as well, so not sure if that means much, but the size sure is squashing the market. No one is hitting the market, all limits, at big numbers. 



 The variations in prices during the day is a source of wonderment to all who study them. For example the price of 1 comes up so frequently as to excite the admiration for its fortitude and staying power. Of 26 markets on my screen with a total of 81 digits among them, 30 of them have/are the digit one. Indeed, the proverbial battle during the day between the ensemble of markets and the bulls and the bears might well be considered as a battle among the prices themselves for replication and survivability.

From similar observations in the field of evolution Richard Dawkins came up with the theory of Selfish Genes. He pointed out that evolution works by copying genes. The genes themselves, without any motivation on their part, are in a battle to be passed on. They don't care about the interests of the organism that they are part of. His book based on this theory is considered one of the two most influential books of science of the last 50 years, and has sold more than 1 million copies. It explains and illuminates many phenomena that the traditional view of organisms competing at the level of the phenotype in a struggle for survival of the fittest find hard to explain — particularly altruism, deception, kinship, acting against interest, vivid and startling coloration (green beards).

The time has come to apply this theory to prices themselves. They are the units of variation that try to reproduce that control markets, not the other way around as is so frequently posited. Let's start with the battle of the price 0 to extend itself. Using daily prices, we see the Dow crossing from above 10000 to below 10000 three times during the last two years and crossing from below 10000 to above 10000 on two occasions. The 0 in 10000 gets to express itself four times while in all other prices of recent vintage it is only expressed three times so that 10000 is a particularly noteworthy price to achieve.

In addition, it's a green beard that attracts other prices at 0. When the Dow hits 10000 every financial media is likely to have a headline that the magic number has been broken. Other zeroes in other markets such as the Nikkei at 10000, gold at 10000, oil at 100, the yen at 1000, and the S&P at  1000, soybeans at $10.00 are sure to note the price and copy it. The zeroes in 10000 while acting essentially selfishly benefit other zeroes in other market that have the intellect to recognize what is happening in the Dow. The transmission of these effects in the media magnifies what has been called "green bearding" by Dawkins in the concept of the selfish gene.

a green beardOf course, if recognition plays a part in the propagation of prices, so does deceit. The same way that butterflies mimic wasps, markets may pretend to be going to a recognized number like 10000 but stop right before it as fast moving operations like the specialists or the high frequency traders step in to beat out those who have been deceived by the path. Such activities lead to the well known phenomena that highs below the round number and lows just above it happen much too frequently to be explained by chance in individual stocks and the major market averages.   

As a first crack at systematizing the theory of the selfish price, I calculated the closing 10 digit of the S&P unadjusted futures for the last three years, 743 observations in all.

Battle of selfish opening and closing prices

             opening price        closing price
0                  71                  88
1                  76                  69
2                  64                  55
3                  74                  79
4                  77                  70
5                  84                  79
6                  77                  76
7                  68                  65
8                  68                  76
9                  84                  70

One notes that the digit of 2 is losing the investment table, some 5 standard errors away from expectation, while the old faithful of 0 is winning the ultimate battle closing 88 times, 3 standard errors above expectation from its 74 expectancy. There are other wonderful and noteworthy phenomena revealed in this table, and its extensions, and many beautiful aspects of the struggle for existence, the mutualism, and antagonism of the prices for one another, and always their tendency to be in a positive feedback system with the growth of the market organism itself, which I will not gainsay the reader the jubilation of ascertaining for himself.

It is well known that genes often work together with each for the greater good of each other. For example, there could be a gene to make disease less likely under certain circumstances, and a gene for long life. A typical example of a gene that is beneficial to other genes but not to itself is a gene in birds for calling out loudly and clearly in situations of danger. The gene helps all the other genes survive in its kin, but not necessarily itself as it calls attention to itself. Genes tend to  work together to make for a greater likelihood that the whole organism and all its genes will survive and reproduce. The cost benefit function of a given gene may be y expressed as pb  versus c  where b is the benefit a gene gives to another gene, c is the cost, and p is the increase in probability that the other gene will provide to it.

The cost benefit function creates a situation where the genes come to be represented according to their net contribution to their ability to be reproduced in successive generations, including their cumulative impact on all other genes in the genome. The opposite situation which occurs must less frequently is called intragenomic conflict, and the classic example is referred to as segregation distorter genes which act to crowd out other genes that are beneficial to fertility. Egbert Leigh expresses this unlikelihood as follows: The genes act as "a parliament of genes, each acting in its own interests, but if it acts hurt the others, they will combine together to suppress it."                            

Apparently the price units of selection in markets do not act to suppress their neighbors. During the last 2600 days for example in the  S&P, 2530 days in the S&P 24 hour futures, 2412 of them have allowed each of the ten separate 10 digits, 0 to 9 to appear. In other words the 24 hour range has been more than 10 on more than 95% of all days. Apparently it keeps all the individual prices healthy to exercise each of its competitors on almost all days.

Here is a good reference on this Selfish Price theory which I posit in all seriousity.

Rocky Humbert notes:

The paucity of "2" as described by the Chair is a persistent phenomenon. For the 12,143 trading days between 1955 to 2003 (when the S&P first went over 1,000), the digit "2" occurred (as a tens) only 5.1% of the time.

Perhaps some of this may be explained by number theory — i.e. index calculation effects due to stocks trading in eighths and quarters, and that may also explain the increase in the "2" in the Chair's data post decimalization. (He found "2" rose to 8% from the 5.1% over the longer period.)

One further notes that on most QWERTY keyboards, the lowly "@" sits above the "2". Prior to email, the @ was slowly facing extinction– only to be resurrected to prominence contemporaneous with AAPL stock. Hence I believe it's premature to put the "2" in the Peabody Museum diorama that also houses the Dodo Bird and Pig-footed Bandicoot. 

Marion Dreyfus comments:

There is apparently a marker gene for how many times a person sneezes when he or she sneezes daily–This might be a signal to alert noticers of the individual patterning of investment thinking or individual behavior. As some people always sneeze thrice, and only thrice, or twice if the gene for twice is embedded in the coding ''parliament'' of the genome sequencing, perhaps we also have an idiosyncratic pattern of investing that has hitherto gone unnoticed. Can this be mapped, one wonders. And if so, can one be thus invested with more knowledge of the other's "hand," as in playing poker with someone whose "tell" you know, so you can conserve bets for when a hand/bet/risk is most propitious…

Pete Earle writes:

morpholinoOne of the tools used in determining genetic action– or, more aptly, interaction– is the morpholino, a short, targeted nucleotide sequence which blocks ("knocks down") expression of one gene among two or more to see if, or how, the ultimate expression of said genes changes. My partner is involved in exactly this sort of research daily. Once she targets a gene– in this example, trying to determine the interaction of two genes in producing a specified outcome (gene A + gene B = expression C)–she then conducts subsequent experiments in which she varies the amount of the morpholino between 0% (no morpholino, the control group) and increments up to and including full strength (complete knock-down of gene A, 100%). This is to determine which gene, if any, is more important to a given expression than the other; and to see if a gene interaction is of the simply "on/off" type or if expressions take place along a spectrum of outcomes.

I suspect that with respect to Vic's Selfish Price Theory, we might look at morpholino-equivalent testing with a comparison of periods within which a given market approached a certain number-expressing level, and compare those with others, looking for volume superlatives; one would expect the day or week of the arrival of Dow 8888, 10000, and 11111 to be of higher volumes to a statistically more significant extent than, say, those when Dow hit 12345 or 9876. This could be broadened to look at random snapshots of days where, across a number of indices or index-constituting stocks– even, and perhaps especially, in the absence of such aesthetically pleasing prices as 10,000 or 55 and such– we would look for higher-than-expected volumes when and where there noteworthy appearances by a particular number across a spate of closing prices. 

Pitt Maner III writes:

My dentist last week mentioned to me that he was studying the latest papers (within one day of publication) on gene "crosstalk" so as to help his daughter in college who is doing an honors thesis on the subject (and how it relates to drug interactions with cancer cells). Cancer cells evidently have a means of (and this is over my head—cell experts please jump in) of dampening the effects of anti-cancer drugs through cellular cross-talk genes. Therefore drug manufacturer have a need to knock out the cancer cells through a series of steps to weaken these defense/signaling channel mechanisms.

Any underlying, as yet undefined, step-like mechanisms and pathways would seem to skew number distributions.

Henrik Andersson comments:

Benford's lawThis seems somewhat related to Benford's law which predicts the probability of digits, for example the probability that a stock index of stock price will start with a '1' is slightly above 30%. A funny side note is that this theory of frequency of numbers in nature can be checked using Google searches.

Victor Niederhoffer responds:

I don't think it applies here, especially for the second, third and fourth digits.

Henrik Andersson replies:

Yes, it probably only over powers other forces in the market for the first digit.

Kim Zussman writes in:

The SP500 is Benfordian:

Using daily closes SP500 1950-present, counted days which closed with the first digit = 1. eg, {1XXX.XX, 1XX.XX, 1X.XX} (there were no 1.XX yet}.

Of 15135 total days, 5514 had 1 as the first digit.

Alston Mabry writes:

And to relate that chart to genetics: If volatility = selection pressure, then when volatility/selection pressure is low, variability in digit frequency/phenotype expression is high; but when volatility/selection pressure is high, variability in digit frequency/phenotype expression is low.

And different species have different time intervals, i.e., lifespans.

Peter Earle responds to Henrik Andersson's comment:

At risk of torturing the analogy a bit– but worth mentioning: "Yes it probably only 'over powers' other forces in the market for the first digit. "Let's discuss those "other powers", as they are germane to Vic's theory. It's appropriate to at this point bring up one of the hot topics that my partner, again, is working on: epigenetics. In short, it's the imposition of hard-coding changes on DNA (via methylation) by environmental effects. While still not fully understood, one example is depicted by rat experiments in which the pups of profoundly overweight mothers (exposed to high levels of interuterine glucose) switched at birth with skinnier rat mothers show a statistically significant greater chance, thereafter, of becoming obese, even setting aside "lifestyle" and dietary settings. (See the "Barker Hypothesis" for another example of this phenomenon.)

With respect to Vic's Selfish Price theory, we might quantitatively express these variations from expected (Benford's Law) vs. actually expressed frequencies of prices/digits as an epigenetic effect: 'environmental' effects whereby the impact of market participants and economic influences -forces and memes - push toward or away from predicted, anticipated baselines.To that end, tracking the ebb and flow in expressed, realized prices from what which the Law predicts over time could provide one way– no doubt an incomplete way, but a way nonetheless - of quantifying the ever-changing cycles. 

Alston Mabry says:

Back to the tens digit, this time in the S&P cash. Starting with January, 2004, I calculated a 250-tday rolling total for each digit, e.g., in the past 250 tdays, how many times has the tens digit of the S&P Close been 0 or 1 or 2, etc. Then calculated the gap between the most frequent and least frequent digit, e.g., if 6 was the most frequent in a given 250-tday period, occurring 48 times, and 3 was the least frequent, occurring 21 times, then the max-min gap would be 48-21 = 27.

Then for I calculated the SD for each 250-tday period, too, as a measure of volatility. The attached graph shows the two series. What can be seen is how the max-min gap is higher when volatility is low, but compresses into a narrow range when volatility increases. This seems intuitively sensible if one thinks of a more volatile S&P moving quickly through various values and thus being more "random" at the tens digit. Whereas, when volatility is low, the S&P would be "stickier", hanging around longer at certain tens digits, thus creating a wider max-min gap.

Of course, an underlying factor is the arbitrary nature of choosing a unit of time such as a trading day. If one zoomed in and out, using different lengths of time to create ecah "Close", then one would probably see a clear relationship between volatility and digits on different time scales.

One more take (esoteric, but I really like the chart): For each S&P day from 1990 to present, calculate the distribution of the tens digit in the S&P for the 250-tday period ending that day: 41 zeros, 24 ones, 23 twos, etc. Then get the SD for this distribution. Example:

41 0's
24 1's
23 2's
17 3's
26 4's
20 5's
20 6's
21 7's
19 8's
39 9's

SD: 8.33

Then calculate for the same 250-tday period the SD of the daily change in points of the S&P - points rather than percent because we are relating index point movement to digit distribution.

So, for each 250-tday period, we have a measure of the volatility of the index and the variability of the tens digit. Sort all the 250-tday periods by the S&P volatility value, high to low, and graph the result - see attached graph .

Nice inverse relationship between the S&P point volatility and the variability in the tens digit.



 Here are some thoughts on deception in the stock market:

1. It is a known signal that when the broker gets an odd number of shares to buy or sell, it is the last part of the order. Why not start with the odd number instead?

2. So as not to signal panic, always cover the short going against you with a limit order, not a market order.

3. Don't always ask why xyz stock is up ( or down) just because the position is going against you.

4. When you meet the management of the stock you're short, play extra nice to charm them and commend them on all their accomplishments.

5. Pretend you do not know anything about the stock when speaking to the analyst. This way you will find out what he/she really knows about the company.

6. Emphasize your losses and hide your winnings when talking to people outside your firm.

7. When meeting your broker tell him or her that you haven't been active in his or her region lately but that you're about to enter it shortly. Then continue to use dma.

8. Call the analysts with the opposite recommendation of your position first to find out their story.



 I used to do a lot of business in Japan and I think very highly of Japanese businessmen (unfortunately they rarely include women at high levels). They have an industrious, highly intelligent population, are very interested in business, and a good base as the second largest economy in the world.

It is a great mystery to me why they (and their stock market) have not done better in recent years and I have never seen any good explanation of it. Okay, they had a bubble that burst, government policies that were not great, and they have an aging population. But so what? They had plenty of opportunity to recover on their own in spite of whatever the government has been doing. (BTW their government policies could not be any worse than our current ones, so if government policies are the test, we're in big trouble.)

Has anyone seen or can anyone give a decent explanation of why Japan has lagged?

Ken Drees writes:

1. LDP party out of power after 55 years.

2. Exports and profits slumping via USA trade like others Asian exporters.

3. Big(gest) holder of USD denominated debt.

4. Aging populaton (nothing new), but 81 billion spending package just announced, more internal stimulus to follow?

5. Need to diversify their surplus holdings like others (China, Brazil, Russia, et. al.)?

6. New party administration playing a little differently with USA — recent Obama trip no real results, prior to that some grumblings about USA debt, etc.

7. Japan equities — bottoms in 1998, 2003, 2009 — skewed symetric reverse head & shoulders – or just bumping along the bottom?

8. Will need to strengthen export markets everywhere and keep USA markets open and profitable. Japan's growth lies with its neighbors if USA doesn't fix itself.

9. Yen carry trade over, yen rising — conflicts with strategic direction that exports and export profits need to be robust.

10. Zugszwang-lite Japan — any small move doesn't change game for the better. Are there any good moves available?

How will the new party lead? If they cannot rope in the yen to improve exports can they stimulate spending via QE and weaken yen at same time? Or is this approach too slow and meandering? There seems no real strong moves available unless global imbalances happen first and allow Japan countermove possibilties. Japan seems still to be unable to escape via its own power.

Is Japan getting tired of being tired?

Charles Pennington adds:

A broad-brush explanation is that the Nikkei got way out of line with other world markets and has spent the past 20 years returning to normalcy.

The Japanese price to earnings ratio was "well over 100" in the late 80s, and now it's 33 (reported by today's Financial Times), still higher than the US at 22. Earnings for the S&P are up about 2-3 times over their level in 1989, and perhaps the Nikkei's are as well, but if the P/E fell from, say, 200 down to more normal value of 33, a value much more in-line with other world markets, well, that explains a lot.

The Chair will rightly point out that this is retrospective, descriptive, and not predictive, that Japan's interest rates are (or at least were) lower, that the accounting may be different. Also, Mr. Grossman doubtless already knows all these figures, so he is looking for a better explanation, which I don't have.

Kim Zussman adds:

Country-stock could be like "best company" studies, showing admired firms under-performing the rest. Presumably established/successful companies/economies have less upside than currently dire situations. And more downside? 

Vince Fulco replies:

To the list I would add traditional factors such as:

1. Shareholders — very far down the societal list of all stakeholders in the corporate world. The stock market is generally considered more for gambling (no jokes Dr. Z!)

2. Much heavier reliance on debt financing (too much) due to roots in maibatsu/keiretsu structure whereby a conglomerate's banking branch handles all the financing needs

3. No Carl Icahn or Guy Wyser Pratte influence to shake up entrenched mgmts and unlock under-utilized assets. The quote is 'the nail which sticks up gets pounded down'. A few have tried over the years but are usually labeled degenerates or cowboys and run out of town one way or another.

4. Years of very low ROI, white elephant projects by the government, to keep happy important constituents of the LDP (the old group in power) such as construction and the mob — i.e. the bridge to an island with 50 people on it, which we almost got in Alaska a few years back.

5. Legacy obligations which haven't been addressed but simply kicked down the road as we've emulated so well in the last 12 months.

Ken Drees responds:

Mt FujiVince, Kevin, Kim and Charles have all provided excellent observations as to Japan's inbred entrenched-ness, inabilities to move, and relative over valuations. Also, the idea that is was the once high flyer status albatross, so all these past behaviors are in the rear view mirror, yet they continue to taint the view of Japan as an old has-been power country. But change agents may now be inside this yesterday/today paradigm. So far Palindrome's reflexive reinforcement of trend is still in force. The malaise continues. Will some new change agent surface? Will the reflexive reinforcement finally be breached.

The early elements for a change exist. To bet on a new bullish Japan is a long shot. But how much money can be made betting the field? Tax policy can be repealed, monopoly/hands in hands can be abolished, small investors can be made more ownership level. All the levers to lift the old dead stump and turn it over are at the ready. Or is this a dead end due to lack of will? Is Japan a stunted growth, never ever to leave off-broadway? If a global imbalance rises up, will Japan change tack and ride out on a new wind? I am watching Japan, if only since they since they are shackled to the USD. Maybe the impetus for change is at hand. This new administration in Japan — what do they owe the US? 

Stefan Jovanovich replies:

The Japanese are certainly not hidebound where their Navy is concerned. They are the dominant sea power in their part of the world. From the folks at StrategyPage.com:

"Japan is currently the second largest naval power in the Pacific (after the United States), with a total of 32 destroyers, nine guided-missile destroyers, and nine frigates. The older Tachikaze-class guided-missile destroyers are being replaced by the new Atago-class destroyers. Japan also has 16 modern diesel-electric submarines. The Chinese navy is larger in terms of ships. They have 25 destroyers and 45 frigates. However, of these 25 destroyers, 16 are the much older (than Japanese equivalent) Luda class. Most of the frigates are the obsolete Jianghu class ships. China has 60 diesel-electric submarines, but most of them are elderly Romeo and Ming class boats. China's Han class SSNs (nuclear attack subs) are old and noisy. In terms of modern vessels, China is not only outnumbered, but the Japanese ships spend more time at sea and the crews are better trained. The Chinese are also at a disadvantage when it comes to naval air power. Most of China's naval fighters are old. They have a growing number of modern J-11s (a copy of the Russian Su-27) and the Su-30MKK. Japan is almost at parity in terms of numbers (187 F-15J/DJs and 140 F-2s to 400 Chinese J-11/Su-30MKKs). Japan has better trained pilots, although China is trying to close that gap as well."

Yishen Kuik adds:

 The attention to detail and sense of duty of their workforce is amazing, and the public infrastructure in Tokyo is of a very high quality — certainly better than Boston, DC, New York or the Bay Area. Tokyo is much bigger than all these four areas. It makes New York seem small.

It's not entirely clear to me why their equity markets haven't done better, but the "obvious" explanations of long term multiple contraction and shrinking internal aggregate demand seem to be correct.

I believe GDP per capita in Japan has been rising all along at the same pace as in the US since 1989, so it isn't as if quality of living in Japan has been frozen at 1989 levels. From what I can tell walking around the streets, they still enjoy a comparable standard of living to anywhere in the OECD, and have an unemployment rate (whatever that means in Japan) of 5.0%

Henrik Andersson replies:

Some investors are expressing great fear about the debt given the large amount maturing in the coming 12 months that is held by citizens, as Yishen writes, and given it has "no foreign demand, no domestic savings, structurally declining tax receipts and savings due to demographics, etc." Any views on this?

The top line numbers for the country are stagnant, but the per capita numbers don't look so bad. Japan might have a ton of public debt, but most of it is yen denominated and some 3/4 of it is held domestically by its own citizens.

Dan Grossman writes:

 Two thoughts perhaps follow from the helpful comments of Prof. Pennington and Mr. Kuik:

1. Based on the two-decade decline in average Japanese stock PEs from 200 to 33, why shouldn't average US stock PEs decline further from the current 22 if government policies following bursting of the bubble are equally ineffective in the US as they have been in Japan?

2. If since 1990 the U.S had avoided illegal and legal immigration anywhere near the extent to which Japan has, the US unemployment rate would probably also be 5%.

Vitaliy Katsenelson adds:

Please look at slide 14. Japanese valuations at the of 1989 were incredibly high, add to that a lengthy deleveraging process on the corporate side and leveraging (debt to GDP has tripled) on the government side and you also have anemic economic growth.

Vince Fulco writes:

Here is fascinating article in the WSJ re: a foreigner helping a small japanese village manage the downside of the demographic slowdown. One wonders how much more pervasive this sclerotic 'no change' attitude really is…

Charles Pennington adds:

There's a nice column by Lisa W. Hess in the Dec. 28 Forbes about investing in Japan.

She claims that small cap companies are even more undervalued than large cap, and recommends buying the Topix rather than the Nikkei.



Nurture ShockI was very positively surprised by the book NurtureShock — New Thinking About Children, by Po Bronson & Ashley Merryman. Without any other comparison they try much like the Chair to dismiss popular myths with sound science-based research. In ten chapters the authors go through topics such as Praise, Lying, Self-Control, Language Development and what the latest research tells us about these and how it contrast versus popular belief. I think the title is a bit of a misnomer, the content is not really that 'shocking' after all, nevertheless I can really recommend the book to any Spec with children or an interest in the topic.



LeverThe levered ETFs tend to underperform. Take SSO, which is double the S&P 500 compared to SPY. SSO was listed in 2006. On 7/7/2008 the SPY was back to even while SSO was down 12% since inception. YTD the SPY is down 0.15% (as of yesterday's close) while the SSO is down 4.83%. Levered ETFs are re-weighted each day to match the double daily performance of the S&P. A simple example: if the market stands at 100 and increases to 110 and falls back to 100, the double ETF will be worth 98. So levered ETFs will tend to underperform in sideways markets and naturally (for long ETFs) in declining markets. Also there must be some transaction costs and vig to be paid with the daily re-balancing, especially in volatile markets.

Yishen Kuik replies:

I've thought that owning a double up ETF and a double down ETF at the same time is really like owning a straddle. While the index drifts sideways, you keep losing value, somewhat analogous to theta, but when it takes off in one direction, you start to really get in the money.

Alex Forshaw adds:

The ultra ETFs just hedge themselves with options; a 2x long ETF buys you a basket of calls with some management overhead. A 2x short ETF buys you a basket of puts. So if you are short the ultra long and the ultra short, you are short a bunch of calls and a bunch of puts. So you're short the VIX. And you get hit if vol and vol-squared both go up at the same time.



The chair has many times pointed out how the vix level is an indication of future moves on the SPX. The VIX seems to be under great pressure here, even with yesterday 2% fall on the SPX the VIX was down, that must be highly unusual. Just an observation.

Greg Calvin writes: 

 It seems there have been numerous unusual moves in VIX recently. Similarly, today's VIX movement thus far is interesting in contrast to the market's paint-drying picture, and the relative movement in contrast to for example, yesterday's relative moves intraday.

Vitaliy N. Katsenelson writes:

I've met a money manager yesterday who explained to me that the decrease in risk premium is driving the market up (and vice versa). He showed me a nice chart that displayed risk premium as inverse P/E (earnings yeild) less 10 year Treasury. This major problem with that concept is that E over last 3-5 years did not really represent a true earnings power of S&P, it overstated it. P/E was too low. Margins reverted towards the mean -declined, E declined and took market with it. I'd suggest to use a ten year traling P/E, at least it will cover the full economic cycle and thus margins will be normalized and P/E (or earnings yield) will be more meaninfull.



This must be some kind of record intraday move for a EUR 100bn market cap stock. It was up 57% intraday, apparently on a short squeeze, then ended the day down 5 Euros.



V NThe action on the first day of the month of September was highly unusual, and apparently at that time the employment number had leaked so the moves after that first day were much more likely to happen than before. After such bad starts the rest of the week has a standard deviation of 30 and only 50% chance of rise.

The 40 point S&P decline on Thursday was the fourth largest decline on a Thursday ever. By that time, the news was out, and the increase in unemployment was icing on the cake.

All this occured in conjunction with repeated highs in the fixed income prices around the world, and declines in the omniscient market in Israel below the round and Japan near three year lows of 12000 on the Nikkei.

To me, the key event was the raising of the Swedish discount rate during the night Thursday, causing an immediate 1% decline in all European equities. How come they weren't keyed in like the others to the forthcoming announcement?

The most hurtful piece of mass psychology was the naive notion about stocks having to go down because the P/E of 25 was the highest in 15 years, and that was bearish. Earnings are forecast next quarter to be the highest increase ever of 50% and you would think that people are taught to look at the future rather than the past for moves in markets.

There were many good economic numbers and bad economic numbers in the past week relative to expectations. What is it that caused the employment number to be the focus, other than the desire to paint the economy as weak before the election for obvious reasons of agrarianism? More important, why should a decline in employment at this stage be bearish for stock markets?

The one factor that made it seem so much like the end of the world was the the four day move down in S&P from the Thursday 8 28 close of 1298 to the Tuesday 9 04 close of 1236, a decline of 62 points was the second worst start of a week since the beginning of 2002, the only comparable being the four day move on 1 17 2008 before the French bank inside trading activity.

Michael Bonderer adds:

Perhaps equally important, maybe more so: Trichet's decision to increase the haircut on collateral to 12% from 2%.

Martin Lindqvist writes from Sweden:

The Riksbank declined being part of the liquidity pump that the Fed, ECB, SNB, et al, set up last year and continued with also this year. Maybe they are deliberately kept out of the loop now? However I think it has more to do with them having gotten lot of criticism for raising the last few times. Perhaps they just want to show who is in charge.

John De Palma adds:

With respect to the market obsession with the non-farm payrolls report (to the point of motivating a scene in the movie "25th Hour"), the sensitivity of interest rates to a one standard deviation surprise in payrolls is a few times higher than any other economic indicator. The rankings of market sensitivity to the indicators look like they follow a power law distribution, the distribution that characterizes movie/book popularities and other sociological phenomena. It's difficult to create a model of the economy that conforms to the dispersion of sensitivities. It's more plausible to appeal to a view of markets with focal points, attention biases, etc.

Henrik Andersson follows up on the Swedish developments:

It turns out the Swedish calculation of inflation was flawed leading up to the rate hike and the reported July number of 4.4% was in reality 4.1 percent (they thought shoes prices had increased 30% yoy…). Since the Swedish 'Riksbank' most likely was split in their decision it is widely suspected that with correct data we wouldn't have had a hike to 4.75%.



Some observations from the field based on my recent experience:

1) An analyst's ranking has everything to do with seniority and how well he knows a business or company, nothing to do with how well his recommendations have been doing.

2) The story you have to tell is more important than anything else. If you have a great buy without a story, forget about it.

3) Many investors seem to be looking for a 'trigger' or 'catalyst' that will re-value a company.

A quantitative study of stocks with a 'catalyst' or 'trigger' maybe could be done by counting how many times these words appear in analysts' research for a particular stock, to see if these stocks over- or underperformed. Wouldn't be surprised if stocks where investors have high hopes for a trigger (such as new regulation, spin-off or announcement of buyback) will have underperformed. I personally like stocks without any kind of triggers.



Apparently the earnings yield for the S&P 500 12M forward compared to the 10Y bond interest rate is at a 25 year high at a little less than 350 basis points…

Rob Rice objects:

The Fed model is both overly simplistic and frequently wrong as a basis for accurate valuation of equities versus bonds, except during infrequent, cherry-picked points in time. It’s also inappropriately named. Those sound bites will get you every time.

Victor Niederhoffer replies:

The Fed model Laurel and I developed is completely operational, completely predictive, and accurate to an extraordinary sense. It's based on a I/B/E/S operational earnings forecasts contemporaneously made at the beginning of each year as of the time (the same results from Value Line) and has nothing to do with the accuracy of the earnings prediction. It has to do only with the differential, and when the differential is this high, the average returns is about 20% one year forward, and it's been right 10 of the last 10 years.

Barry Gitarts writes: 

CXO Advisory uses a variation
of the Fed Model. According to them the spread
between the S&P E/P and  total inflation is more significant then
using T-notes as the benchmark for S&P forward yield. A possible
interpretation is that most equity investors do not closely track
T-notes as competing investments, and that they instead focus on the
"real earnings yield" of stocks in deciding whether to buy, hold or
This may be the case, but it seems to me the bond market is more forward
looking than the CPI.



Growth, from Denis Vako

December 3, 2007 | 1 Comment

DamodaranAswath Damodaran says 90% of finance is about PV (essentially DCF), and 95% of DCF is about estimating discount rate. Can we conclude, thus, that 80+% of DCF finance is about estimation of discount rate? Nope, he actually thinks that estimation of growth rate is much more important than estimation of discount rate — and that is the same premise Vic and Laurel initially lead me to, as I read their books a long time ago.

Since it is ultimately about true growth, which is now expected to be rare, therefore especially valuable, one can argue that the current growth industries of the market are: aerospace/defense, diversified and healthcare/medical. What other parts of the market could be growthful?

Henrik Andersson adds:

I remember a couple of years ago when this finance professor did a valuation of Google and said it was worth no more than $100 or similar. The stock was then at maybe $200 and is now around $700.  Not easy. even for someone like Damodaran, to estimate fair value…

Alex Forshaw suggests:

Are you thinking of John Hussman?

June 13, 2005:

Which brings us to Google. Initially, I estimated Google to be worth about $24 a share. It has since enjoyed some very good operating surprises. I'd currently estimate its value somewhere in the $30's.

No zero is missing in that last sentence, though the quickest way for the company to substantially enhance its intrinsic value would be to buy everything it possibly can with its own overvalued currency.

Google has been doing exactly what Hussman prescribed, even as Hussman's forecast/analysis could not have been farther off.

Hussman continues:

To paraphrase Grantham, if Google is worth $300 a share, capitalism is broken.



It is so easy to be negative on the future after the market is down. But I believe to be successful you need to be more positive the more the market drops. Yet maybe it has to be this way for the market to take its rake.

Alan Millhone writes:

The late World "Free Style" Checker Champion, Mr. Tommie Wiswell told me once to "eliminate the negative and accentuate the positive," and "to keep your head, while others around you are losing theirs."

I do my own thing and don’t march to the same drummer as others. I try and do a little good every day. Does the Market Mistress take her 'rake,' or do the soaring vultures swoop down on occasion to feast? It appears to me to be in anything over the long haul one has to be able to ride the waves. 



Bear GryllsI much enjoy watching Man vs. Wild , aired on the Discovery Channel. The host Bear Grylls (former member of SAS, a career that ended when he broke his back in three places, after rehabilitation became the youngest Brit to climb Mt. Everest and return alive) places himself where tourists might get lost. He then with very little equipment shows the viewer how to survive and find the way back to civilization.

It usually involves staying calm and not wasting energy, finding your directions (construct a simple compass, observe the sun, or follow a river), finding water (look for plants in desert, don't eat snow as it is not energy efficient), and food (he shows how to catch fish, birds etc), protecting yourself against the elements (he shows how to block the sun, keep warm in the snow, etc). Maybe some of you can find parallels of how to survive in the markets?

Some survival techniques from the show below taken from Wikipedia:

  1. Glissading down a glacier using a broken ski pole
  2. Using trousers as a flotation device by tying off the leg holes to trap air
  3. Climbing up a tree to survey the land
  4. Hunting a rabbit with a throwing stick
  5. Soaking his shirt in urine and using it as a headdress to cool down in the desert
  6. Climbing up a knotted rope using Prusik loops
  7. Fashioning a raft from bamboo and palm fronds

Scott Brooks adds:

This is a great show and my kids love it! They DVR every episode and watch them over and over! Bear doesn't just talk the talk, he dives right in and walks the walk, actually eats the bugs, catches fish and eats them raw, purposely breaks the ice and then jumps and shows you how to get out, then takes off his clothes in snow and shows you how to dry off in freezing cold weather, or drinks his own urine to survive.

I'm sorry for being so graphic, but you have to admire someone that actually does whatever it takes survive another day. He really teaches the right message and it's a simple message, yet the most important message that any of us can learn. There is no higher value than life, and life requires an optimistic thinking mind to survive.

I find it ironic that his nickname is "Bear". He is the complete antithesis of market bears. Market bears talk their negative talk, but don't walk the walk. Heck if they did, they'd be completely broke! Market bears talk endlessly about gloom and doom and give advice that leads only to disaster. Whereas Bear Grylls gets in and shows you how to avoid the gloom and doom, but if you happen to find yourself in a gloom and doom situation, he actually gives advice that will get you out!

Market bears give lessons of pessimism. Market bears are constantly screaming the sky is falling so you'd better duck and cover. They are anti-life and their methods lead to sure destruction at any cost, and the cost is very high! 

James Sogi writes: 

Many needless deaths are caused by mistakes in a critical, and sometimes not so critical situation. Many times an everyday situation can become critical as a result of compounded series of small errors that snowball into a death threatening situation. A day at the beach, a ski trip, a hike, a trade in the market can all turn into a survival situation in a short period of time as a result of lack of proper preparation, and mistakes of judgment compounding, and or panic or inappropriate responses. 



Nothing has inspired me more in my investing career than Vic and Laurel's books. Between May 3, 2004 and June 1, 2007, I recorded every trade I did and some of the thoughts behind them, and published them in near real time. Some of the things that I have learned from Vic and Laurel and tried to apply to my own trading:

  1. The media will almost always make you lean the wrong way.
  2. Don't take market wisdom for granted. Many precepts don't hold up to testing.
  3. It pays to be an optimist in the stock market.
  4. The concept of 'trend' is backward-looking.
  5. Count.



 Regarding the Swedish tax situation, it is encouraging that we now have a government that aims to lower taxes. At over 50% of GDP we are highest in the world. I am sure that it will be very beneficial long-term as huge amounts of money currently are held outside the country to avoid taxes, and this outflow will be lessened and money and companies will instead grow here. It will be a triumph for the optimists.

While companies and high net individuals try to lower taxes by either going abroad or at least keeping their capital abroad, ordinary citizens gravitate towards using the underground economy and paying Polish guest workers outside the tax system for help with cleaning, house renovation and such. Even a few ministers in the government did that, and had to leave their posts once discovered. But this excerpt from the earlier mentioned pdf, is too funny by far, showing that even the tax authority tries to avoid the sky high taxes here.

"Even the Swedish tax authority tries to avoid Swedish taxes. As noted by the Wall Street Journal, 'When it comes to paying taxes itself, the Swedish Tax Authority, responsible for collecting some of the highest in the world, would just as soon keep them as low as possible. It's saving a bundle on the production of slick TV spots that encourage Swedes to file online by producing them in the neighboring free-market, low-tax haven of Estonia'. _Spokesman Björn Tharnstrom told us, "We decided to do it in Tallinn because the costs are lower. One of those costs is taxes, of course." 

Victor Niederhoffer asks: 

Do you see any opportunities for Swedish equities with new tax rates?

Henrik Andersson comments:

It might come as a surprise that despite the highest tax rates in the world, the Swedish stock market is one of the global winners during the past 100 years or so. Of course it has to do with the state of the country 100 years ago not high taxes.

The earnings yield differential for the Swedish equity market is currently 2.0%.

Kim Zussman adds:

Point at figure analysis suggests high correlation between national tax rates and risk-return profiles of the indigenous female. Like Sweden, Russia has exorbitant nominal tax rates commensurate with 100% non-compliance.

Any comments about reduction in US tax rates relating to immigration patterns or legislated anti-social Darwinism are bifurcative.

From Jan-Petter Janssen:

My macroeconomics teacher told an anecdote about the Norwegian tax system (Norway's tax system is very similar to neighboring Sweden's.) An American professor came visiting him while he was building a sauna. The American just couldn't understand why he was making it himself. Did the Norwegian professors really get paid so badly he couldn't afford a carpenter? Well, the answer was both yes and no. No, the wages were quite good. Yes, even quite high wages could not buy much labor. The Norwegian came up with a calculation that stated this problem. After income taxes, VAT and the employer's tax, a gross $4 has to be made in order to leave the carpenter with $1.

However, while the economic policy makes labor-intensive services ridiculously expensive, the stock market is flying high. The economy is excellent in supplying our natural resources to a demanding world. In February 2003 the benchmark was playing with sub 100 levels. This Friday it passed the 500 mark for the first time. 

Thomas Bjurlof writes:

I left Sweden some 25 years ago a never returned (except for visits) partly for reasons related to the tax regime and the monolithic political culture. There were other reasons more related to opportunity.

When my father died in 1992 I spent a couple of months in Sweden and I then invested in a number of smaller tech companies. You can imagine the results having timed the bottom of the 1992 crisis and the beginning of the Internet boom (by luck, since in those days I had no idea what a banking crisis was).

The event that tipped my decision to invest was that someone offered gold as payment for some items I sold! I don't know whether this event was representative, but it certainly hinted at a shortage of liquidity in the markets.

I have recently noticed that GaveKal is very upbeat about the Swedish market, so Martin's positive statements about taxation intrigue me. What if tax rates decline say an average of 10%? Is there any research that quantifies the effect of taxation on the market? I understand the direction a change will cause, but what about the quantity?

My question is what reason is there to believe that there will be significant sustainable change to the system this time? Should we start believing in a Thatcherite change emerging in Western Europe? Is there a new "Swedish Model"?

Since there has been a cultural connection between France and Sweden for a long time, might the election of Sarkozy be a first hint of a tipping point? 

Martin Lindkvist responds:

Indeed, Thomas hits the nail on the head as we had a "new start" also in 1991 when a right wing government started to lower taxes only to be voted out of power three years later and taxes once again ware raised. And I don't know how good our chances are for a lower tax environment for the long term, although my gut tells me that it's less than a 50% chance (if that sounds pessimistic, it should be said that I still think we have a better chance now then ever, not least because of international development).

The problem you see is that to lower the tax rates, the costs must of course be lowered, and the obvious and most important cost savings can be made in the redistribution area. And then there are always groups that gets their benefits lowered and are an easy target for the socialists in the next election.

In a sense it is a miracle that the right wing won the election at all. Ha ha, they had to rebrand themselves as "the new labor party." This was true because one of the most important changes has been to start to lower taxes on work and at the same time lower unemployment benefits. Thus it should pay to work. They did get that logic across, but it has been harder for them to get across why it is important to take away taxes like the wealth tax and realty tax. And that might be why they would fall way short of winning the election were it be held again today.

It is amazing but the average Swede has no clue how much he or she pay in taxes. If you ask, you might get an answer like 31%, which is the typical tax for a worker up to about SEK25k a month. If you ask one that is paid more, you might get an answer of 55%, which is the highest marginal tax rate. They are both wrong of course since you have to add a lot to get the full picture. Social costs are paid by the employer but they lower the room for paying the worker.

Then you have value added tax on most things bought, and special taxes on things like liquor, gas, cigarettes, etc. Realty tax of course also raises the rent for those that don't actually own their own house. And more. The Swedish taxpayers association estimates the real tax for a low paid worker to be 65% for a person earning SEK 132k (that is less than USD 20k for crying out loud!), and 69% if you are at a "lofty" SEK 397k (and it does not stop there of course but goes much higher the more you earn).

The real irony is that since the person earning more sees more tax being withheld on the paycheck, percentage wise, he is more likely to vote for the right wing than the poor guy not earning much. But the taxation is almost as high on the latter.

It is a shame that Swedish people have been brainwashed to the extent that they don't even understand what monster they have created in the Swedish tax system. And this is where the rubber meets the road. If things are to change for real this time, then people will have to wake up and understand that if they are paying between 65-80% of their real earnings in tax then they are not free. The day they wake up and want to be free we can expect lasting change



 What is it about square roots that they are so prevalent in natural phenomena? Gravity diminishes as the square root of distance. Tsunamis travel at the square root of the depth of the water. Energy is mass time speed of light squared. Why is this? Is it just a mathematical convention for ease of computation, and if so, why do natural phenomena follow this relationship?

Henrik Andersson suggests:

Sound, gravity and waves are propagating like surface of an expanding sphere. The surface of a sphere is 4*pi*r^2 (squared distance from the center). Thus the square is a result of the two-dimensional property of a surface.



 I believe hedge fund strategies will be new frontiers in the ETF market. As we are seeing ETFs move into more active strategies, we have already seen the beginning of this trend. The quantitative backdrop for evolution can be found in these articles by hedge fund Bridgewater, on selling beta as alfa and levering betas.

My prediction is that the increased accessibility will make it harder to prosper for hedge funds that are currently selling beta as alpha. In effect I see no reason why it couldn't soon be as easy to access some of these strategies as it is to trade the QQQQ today.

Gordon Haave writes:

Yes, but the whole point of the ability to replicate these funds is that you don't need the lockup, or at least not as much of one. One can short volatility without a 1-year lockup.

From Bill Rafter:

The largest portion of hedge fund money is employed in long-short. Long-short is highly liquid and highly scalable, and could easily endure a zero-day lockup. For example, we have a long-only (in theory, less liquid that long-short) large-cap program that has a zero-day lockup. One might ask why. Our answer is "marketing." Investors (particularly pros) are a lot less reluctant to give you money if they can get out on an instant's notice.

Lockups are really only necessary for strategies such as event-driven or distressed assets. The hedge fund industry mostly uses lockups to keep control of its assets. Recall how the recent ('06) Greenwich-based fund went guts-up and tried to manipulate its reports to shareholders to have the latter miss a redemption deadline.

Brian Haag adds:

If the funds are algorithmically managed, they are a short. Fixed systems die. If the funds are actively managed, they are a short. They will not attract the talent that 2/20 type arrangements will, and will thus be the mark at the table.

This whole "you can replicate any hedge fund strategy by adding beta and a few formulas" meme is no different from the "You can beat Wall Street at its own game!" type hucksterism so prevalent in the late 90s. It's just marketing crapola. While the base idea may be sound, that you don't have to get involved in hedge funds to receive average returns, so what? The only possible outperformance in products like these is relative to managers with subpar returns. It's all just another way for the industry to sell average performance.

Managers who do add alpha are very happy about this whole development. It's another source of edge. One needs to look no further than the "Goldman roll" in commodities to see an example.

Charles Sorkin adds:

I have been offered structured notes (intended to be re-offered to our customers) that pay interest based on the Tremont hedge fund indices. Depending on the degree of index participation desired, investors have the option to have total return floored at zero percent (principal guaranteed, like a bank note). Naturally, the secondary market for such a thing is limited, but it's still better than a hedge fund lock-up. Moreover, the issuer is generally an AA-rated large European bank.

Need to get more aggressive? Just buy 'em on margin…

Henrik Andersson adds:

Some of these structured products, which are particularly popular in Europe, are selling with a participation rate of 100% and no Asian etc. This is strange since it seems you get the put for free; but in these cases the cost of the option is most likely taken from the fees of the underlying funds.



It is interesting to note that Viacom is going to provide video to Joost. Behind Joost are the Scandinavian super entrepreneurs Niklas Zennström and Janus Friis (who founded Skype and Kazaa). Keep an eye on Joost as TV is moving to IP distribution.

Wired has a good article on Joost. 

Unfortunately it is not a public company, but maybe Google should make a strategic investment. 

Kim Zussman writes:

Content now on Youtube will soon only be on the boobtube.



 Traders Expo was held this past weekend in NYC. The exhibit was filled with vendors and traders. Seminar topics ranged from 'Basic Momentum Principles' to 'High Probability Pivot Systems for Swing Traders' to 'Candlestick Essentials and Beyond: Catching the Next Move.' In general, there was a strong bias towards finding the next trend and locating breakouts. Much emphasis is on risk management, as if your strategy doesn't matter as long as you have a good risk management system in place. Stop-loss is of course the central theme in all these techniques.

One vendor received much attention, VectorVest. They challenged the audience to pick any starting date over the last 10 years and their system would beat any given benchmark over the period up till today. You can apparently buy this system, which must be classified as the Holy Grail of investing, for the price of $9.95! Should one laugh or cry?
Maybe the savior for the scientific minded investor is the sentiment at Traders Expo, since it seems like ballyhoo investing still very much is the mainstream.



 I was playing with the thought of analyzing the market with the help of a card game analogy. Assume you have a deck of cards with the daily returns for the last five years for the S&P 500. If you draw the cards one by one what would the optimal strategy be, that is, when would you stop in order to maximize your return?

This doesn't seem like an easy problem to solve by hand, so I performed some Monte Carlo simulations. With a simple fixed return-based stop, it seems like a maximum return can be achieved by stopping when you are at around 50% return for an average return of some 40%. The average waiting time for this game strategy is almost 3 years.

For the last five years the S&P 500 moved from 1090 to 1447, a 32.75% return. I believe a more complex analysis of this kind could possibly yield some interesting results. This was inspired by a question in "Heard on the Street: Quantitative Questions from Wall Street Job Interviews" by Timothy Falcon Crack, where one is asked to calculate the optimal stopping rule from 52 playing cards if red cards pay you a dollar and black cards fine you a dollar.

Philip McDonnell writes:

If the market truly has a long term upward drift then there is no good stopping point. In a sense this may be the wrong question. Perhaps the better question is when to enter the market with new money or when to increase one's leverage. The idea is that this implicitly recognizes that buy and hold is very difficult to beat.

The market also differs from the card deck in that the investment horizon is very long, not just 52 known cards. Another difference is that the card deck analogy is a model without replacement. If you have seen unfavorable cards so far then one need only stay in the game to the end to be guaranteed at least a break-even outcome. One is guaranteed a form of mean reversion because cards are drawn without replacement. To assume that the market distribution acts in a mean reverting fashion is a major assumption which should be tested first.


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