May

11

How to turn lead into gold1. Can anyone on the list state the probability that the Dow Jones would lose (and gain) about 10% in ten minutes, without any external stimuli (news headlines, etc.)? Is this probability comparable to the probability that the Dow Jones will lose (and gain) 90% in ten minutes? And how does this probability compare with the chance that lead unintentionally turns into gold? (more info).

If these odds are similar, is it a defensible investment strategy to buy tons of lead (without leverage), and wait for it to turn to gold? Has anyone pitched this idea to the large state pension funds?

2. Brownian motion allows for the possibility that all of the molecules of oxygen in my office move to the other side of the room, and I suffocate at my desk. Is this a more plausible explanation for what happened at trading desks on Thursday?

3. What were the "computers" (and people) who were selling the large cap ETF's / index funds at $0.01 thinking? There may have been some intra-day margin calls, but why would anyone or any computer sell the Vanguard Large Cap Index Fund at a penny? I will once again go on record as a willing buyer of the ENTIRE US Stock market at a penny. Just give me a call, or in the words of the Sage, "You have my number. And I can respond quickly."

4. Would anyone like to defend a portfolio that runs on the full Kelly Criteria and Optimal F?

5. Buy and hold is suddenly looking (comparatively) good again. That is, compared with people who left intraday market stop-orders.5. Lastly, in three months time, who will look smarter, the guys who sold P&G at 50? Or the guys who bought P&G at 50? That's the toughest question of all.

Phil McDonnell comments:

I will volunteer for the Humbert quiz.

1. Can anyone on the list state the probability that the Dow Jones would lose (and gain) about 10% in ten minutes, without any external stimuli (news headlines, etc.)?

I do not think anyone can accurately calculate such probabilities without also taking into account the serial correlation in volatility in the short run. In other words the normal and log-normal models are only a stationery approximation to what is actually going on. In reality the volatility can change and it is positively autocorrelated. Thus the quick swings in the market can happen simply because the parameters of the underlying distribution are changing with positive feedback in the volatility parameter.

2. Rocky can stop worrying about suffocation. If all the molecules in his 3d Brownian office were to move to one side it would violate conservation of momentum.

3. I cannot defend full Kelly it is too risky IMHO. In my book I explain how to find it but only recommend its use as an upper limit for position sizes. It will lead to sub-optimal Sharpe Ratios among other things.

4 & 5. I have to pass on.


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