Herbert Spencer was known for his many unusual hypotheses, all of them untested except for his automatic stair climber. Galton remarked that Spencer was subject to more terrible moments than any as many of his hypotheses were tested by members of The Royal Society and confronted with facts that disproved them. I felt the same way recently with a hypothesis based on trying to capture the vig. If only one could make money by capturing the vig rather than paying it. Well, of course, one of our own, and many others have concluded that selling the etf's short would do the trick. They must pay fortunes in disguised big asked spreads, commissions, churning, sales costs, management fees, assets held in abeyance, and general sluggishness relative to prices paid at the end of days. Well, I decided to test it to see exactly which ones and how to do it. I was ably assisted by 5 or 7 of the best minds and researchers that I know. They did a great job. And one came up with the best methods of doing it, when, and where, and how to rebalance. Finally the only stone left unturned— how much it would cost to do it. The fact that the hypothesis turned on. Regrettably, turns out that borrowing is very costly, so costly in fact that it ruins the profitability. One knows what Herbert Spencer felt like when the Members gave him their sympathies, and raised their eyebrows at the Athenium as they passed him in the Reading Room.

A commenter writes: 

Thanks for breaking this down. A successful HFT once quizzed me on ETFs, without revealing the purpose. I now hazard a guess that their purpose was indeed on the flip side of what I first suspected After all, they may not be forced to borrow. The interview also included the intricacy of what I had capitalized on for decades: the obligatory decay of certain contracts, primarily Wednesday nights, due to two-day banking settlements. I suspect they have eventually figured out how to arbitrage both.

Steve Stigler writes: 

 Very nice. You of course recall the passage from Galton's "Memories". Here is a paragraph from a paper of mine in 2007 where I used it:

In the 1860s a small group of young English intellectuals formed what they called the X Club. The name was taken as the mathematical symbol for the unknown, and the plan was to meet for dinner once a month and let the conversation take them where chance would have it. The group included the Darwinian biologist Thomas Henry Huxley and the social philosopher-scientist Herbert Spencer. One evening about 1870 they met for dinner at the Athenaeum Club in London, and that evening included one exchange that so struck those present that it was repeated on several occasions. Francis Galton was not present at the dinner, but he heard separate accounts from three men who were, and he recorded it in his own memoirs. As Galton reported it, during a pause in the conversation Herbert Spencer said, ³You would little think it, but I once wrote a tragedy.² Huxley answered promptly, ³I know the catastrophe.² Spencer declared it was impossible, for he had never spoken about it before then. Huxley insisted. Spencer asked what it was. Huxley replied, ³A beautiful theory, killed by a nasty, ugly little fact.² (Galton, 1908, p. 258)

Gary Rogan writes: 

These days what seems to be popular is for inconvenient facts to be killed by theories, and for the arguments to be about whether the theory is beautiful or ugly. 


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