Magic, from Jim Sogi

January 27, 2009 | 1 Comment

 There are typically three stages of a magic trick. First, the pledge is something that appears ordinary but is not. The magician uses distraction, misdirection, deceit and illusion. The turn is where the ordinary becomes extraordinary. Then the prestige is the effect of the illusion producing a surprise and amazement.

The market, (and our government perhaps) is involved in an intricate magic trick involving the markets at the present time. What started as an ordinary dip turned into an extraordinary global crisis. Misdirection, deceit and illusion abound as evidenced by bailout funds going to fund massive bonuses and lavish office redecoration, buyouts and private airplanes. Apparent failures blamed on the markets but rigged to hide huge inefficiencies. Showing huge misdirections such as Madoff distracts attention like the pretty magician's assistant. The market itself makes horrifying drops or glorious rallies like this Monday morning only to fall back to break even territory.

The trick here as part of the audience is to figure out the illusion that is going on. Things are not as bad as the pledge and turn are showing them to be. Many interests will profit from painting a bleak picture to the public audience. The government needs financial panic to increase its scope. Before people feared terrorists. Now the government is painting fear of economics to increase government power. Big inefficient, bloated, top heavy companies need to create the illusion of imminent collapse to receive billions. Big investors need to create fear to shake out the last holder to be able to buy the lowest prices in decades before and hence. More than entertainment is at stake. We are coming near the end of the turn. Out of the hat will come a wonderful and breathtaking recovery leaving all amazed.

Rod Fitzsimmons Frey adds:

An interesting aspect of a successful magic trick is that it requires the complicity of the audience. Viewers, for their own reasons, want to be deceived and assist the magician in accomplishing that goal.

The boy in the front who yells "I know how you did that!" is not appreciated by the other audience members.



 Reading my daughter Kira's physics textbook PSSC Physics by Schaim, Cross, Dodge, and Walter, which tries to teach physics from the ground up through experiments, rather than mathematics or principles, I was struck by the many beautiful experiments involving the buildup of electrical charge by contact, by the mere proximity of a charged object to a conductor, electrical induction and the electroscope. In brief, as many will recall, if you place a negatively charged object, like a piece of amber rubbed by fur (where is Soros with his world famous amber collection when you need him?), near a conductor, like silver, the negatively charged free electrons in the silver are repelled by the negative electrons in the amber. The result is a net positive charge on the side of the silver near the amber, and a negative charge on the other side. The entire body of silver is attracted towards the amber because the positively charged side is closer to the negatively charged amber than the negatively charged further away side. The force of attraction of two electrically charged objects varies inversely with the square of the distance.

Similarly if you bring a positively charged object such a glass rod rubbed with silk, near the silver, the free negatively charged electrons in the silver will be attracted by the glass rod, leaving the side near the glass rod negatively charged and the side further away from the glass rod positively charged.

The whole situation and all the experiments with the electroscope seemed exactly like the buildup of buys and sells at a price , the repelling of buy orders as a price falls to a level,and then after failing to touch it, moves back to some higher level, and the net positive charge that remains on the side nearer to the price as it moves back up. Similarly, it corresponds to the negative charge that results when a price rises to a level, fails to touch it, and then moves back to some lower level. There is a net negative charge on the side nearer the fallen price and a positve charge on the other side.

The whole situation called for testing. To do so I started with 2 pm prices each day from 1999 to the present and noted how close they were to the low of the day. I hypothesized that 2pm prices very close to the previous low of the day would be attracted to the low, and such prices would be bearish until the close.and that this force would vary with the square of the distance from the previous low as of 2 pm. Furthermore, I hypothesized that 2 pm prices that were very close to the previous high would be bullish and that the bullishness would diminish the further away the 2pm price was from the previous high.

The results confirmed my hypothesis. For example with S&P futures prices there was 190 occasions when the price at 2 pm was a mere 0 to 1 point above the previous low of the day. The expected move to the close was -0.7 points to the close with a standard deviation of 5 full points. Conversely, for the 243 occasions when the 2pm price was just 1 or less below the previous high of the day , the expected move to the close was 0.6 point with a standard deviation of 5.6. Varying the distance of the 2pm price from the lows and high until they were very far away came up with results similar to the inverse square laws experienced in electricity.

Aside from the fact that the results have not held up very well during the last year, the results are quite interesting and suggestive.

I would be interested in other ideas that readers have on the buildup of charges by touching two dissimilar objects,or prices, moving them close together, or the actual flow of electrons or buy and sell orders, when hooked up to an external energy source,of varying strength, i.e. current and voltage, how it related to distance, and the conductivity of the materials and markets involved.

Rod Fitzsimmons Frey reminisces:

Back around 1973 (when 13) while in Junior High School I found a nice little project to do for the school science fair in a book of experiments. The project involved, to my recollection, filling a short paper tube with nails and then coiling copper wire around the tube and finally connecting the leads to a variable transformer left over from a model, electric race car track. Then a separate coil of wound electric wire was made (believe all wires were left coated for safety) and a small light bulb attached.

By creating an electromagnetic field with the nails and coiled wire, that varied or fluctuated to some degree with the AC current, all you needed to do was bring the secondary coil with the small light bulb near it and the bulb would glow. It was fascinating and appealing to see a light come on with no direct connection to an outlet–especially when you are conditioned to things being run by wires– a bit magical really for such a simple device.

The science fair project was named, "What is Induction?". The effect is called "Lenz's Law". There are many demonstrations on the web.

I still remember though the much more elaborate and original science fair displays put together by some of the brilliant kids in the county (with perhaps a wee bit of help from their doctor or engineer mother or father) that were put on display at the local mall. Young kids can do a lot with just a little bit of pushing (not too much).

Interestingly enough there have been recent articles on using induction (which Tesla really thought of doing a long time ago) in order to have wireless lighting and appliances in the house.

Fred Unka adds:

Along the same lines, you may be interested in a toy I built for my father-in-law, which demonstrates some principles of physics and, I believe, markets, especially with regard to volatility, and if my limited testing is not mistaken, especially in markets between countries.

I started with some disk-shaped rare-earth magnets . These magnets have exceptionally high power for their size. I used a stack of 5 disks, although 1 would work as well.

An aluminum tube with an inner diameter slightly larger than the magnets' diameter had holes drilled radially along its length. The holes don't affect operation but let the magnets be seen inside the tube. The tube needs to be non-ferrous and a good conductor.

Now drop the stack of magnets into the tube. They will float down very slowly, almost hovering in the tube, until they get to the bottom where they will fall normally. It is astonishing and delightful to watch them seemingly defy gravity within the aluminum tube.

The effect comes from the motion of the magnets inducing eddy currents within the aluminum tube. The eddy currents, being circular, induce their own magnetic field, which opposes the magnetic field of the disk magnets. That opposed magnetic field, created by induced currents from the original magnets, influences their progenitor and suspends the physical disks. But there are losses in the system, so the drift wins in the end.

Kim Zussman adds:

Recent posts have revolved around physics, so here is a link to one of the free and popular physics lectures given by Walter Lewin, through MIT OpenCourseWare.

And here's the NYT article on Dr. Lewin:

At 71, physics professor is a Web star

CAMBRIDGE, Massachusetts: Walter H. G. Lewin, 71, a physics professor, has long had a cult following at MIT And he has now emerged as an international Internet guru, thanks to the global classroom the institute created to spread knowledge through cyberspace.

Professor Lewin's videotaped physics lectures, free online on the OpenCourseWare of the Massachusetts Institute of Technology, have won him devotees across the country and beyond who stuff his e-mail in-box with praise.



RazorCan anyone suggested a friendly, old-time style barber shop in midtown Manhattan or the Wall Street area?  As my hairline slowly recedes, my focus on what constitutes a good haircut experience no longer centers on the coiffure, but rather the dexterity and consistency of the barber, as well as the opportunity to get a close shave with the straight razor. Valuing such qualities as skill, cost, and character/setting (in a Damon Runyan-esque sense), I'd love to hear if anyone has a favorite place to get groomed in New York.

Charles Pennington replies:

I like the shop on 52nd St and 2nd Avenue. The $16 charge includes a haircut, a shave of the neck with a straight razor, and a hot towel. Usually they have "Ultimate Fighting Championship" DVDs playing in the background. They're all Israeli immigrants. Magazines are things like Men's Health ("Get rock hard abs!") and Maxim. With the $16 price, you can just hand them a $20, and that conveniently leaves a >20% tip.

Craig Bowles suggests:

Damian between 2-3rd Place on Court St in Brooklyn is tops and costs $10. Preferable to speak Italian as the oldtimers still play bocce ball up the hill. I used to go to 87th or 88th just west of Lex. Guy close to window is the best and cost was $7 but probably a bit more now. Great barbers and cheap prices leaves more for a good tip.

Scott Brooks writes:

Pattern BaldnessAs one whose hairline has stopped receding, I'll throw in my two cents: If you want consistency and a good experience, get a buzz cut. I get a cut every three weeks and can tell any barber/stylist exactly what to do:  

1. Use a 1/2 blade on the sides
2. Use no guard on the top (cut it right down to the skin)
3. Blend the hair on the sides into the "no-hair" on top (don't want a "ridge-line" where the skin and hair meet)
4. Square or round the back — I don't care which — and blend it
I don't know if you have a Sport Clips in Manhattan or not, but I've come to like them. Sports on all the TVs in the place. At your cut station, you have a private TV to watch whatever's on ESPN and the stylists seemed to be trained to do one of two things:
1. Talk about guy stuff (sports, hunting, fishing, etc.)
2. Figure out quickly if you aren't interested in talking
I hate going into a place to get a haircut (Great Clips is my second choice for a haircut and I run into this problem there too often) and having to listen to a stylist talk about her boyfriend or kids/grandkids, or whatever inane subject is on her mind. Most guys just aren't interested in that kind of stuff. Plus, at Sport Clips, I get a cut, massaging shampoo, hot towel/facial massage, and then a vibrating back massage, all for $20 plus tip while watching Sport Center or some game.
But they don't give shaves, and if you've ever seen that picture of Albert Anastasia lying on the floor of a barber shop, gunned down during his shave, you might consider shaving yourself at home! 

Ken Smith extends:

Wild Irish RoseWhen I was about 18 years old, some 60 years ago, the price of a haircut was 50 cents at the Barber College down on Seattle's skid row, a shop nested between flop houses and cheap taverns where alcoholics roamed the street looking for another cheap bottle of wine. Winos, they called them.

People did not have money and jobs as they do now, so a trip to skid row for a haircut was in the economic order of things. The local indigents could also get a bed for the night for the same price, 50 cents. Called flop houses, they were dormitory floors, like in an army barracks or concentration camp.

Rod Fitzsimmons Frey responds:

If you had taken that $0.50 and invested it at 6% interest, Ken, you'd have had $17.36 today. About the price of a haircut. Or a dorm room. Difference is you'd not have to go down to skid row to get either, unless you wanted to.



Rank the following three networks by prime time viewership:

Black Entertainment Television
Cable News Network
Food Network

Answer in the "Primetime" table of Inside Cable News..

Rod Fitzsimmons Frey haikus:

Appetite trumps race
Gourmets buy more stuff, I guess
But both beat bad news



I had a philosophy professor stand up at the beginning of class one day and state that he didn't know what was real anymore; you're not real; I'm not real; everything is just a big joke being played on us but that we really don't exist anyway. He then walked out of the classroom and we didn't see him until the following week.

Rod Fitzsimmons Frey adds:

I had a philosophy prof, mid fifties, fat, short and bald except for the fringe-ponytail and scraggly white beard. Stopped mid-sentence in the middle of a lecture. Got a thoughtful, faraway expression on his face. Undid his trousers, dropped them to his ankles, smoothed his shirt over his white boxers several times, raised his trousers and repositioned his suspenders. He then resumed his sentence where he had left off.

Advanced philosophy education should come with danger pay.



Niels BohrWhat theory exactly do I test, and how is it put together on the basis of history? In the physical sciences, the answer is, ironically enough, often gut feeling and intuition. Bohr's "crazy" ideas about atoms are an example. That is what makes counting so difficult: What the heck do I count? Statistics and econometrics are fabulous tools, but applying them to forecasting is tough!

Rod Fitzsimmons Frey adds:

I agree that is the crux of the issue. The inductive leap that all scientists must make is a mystery that is not itself explained by science. Francis Bacon, who convinced me to ditch philosophy and take up engineering, hand-waved it away by putting a philosopher-king at the head of the rational, scientific state, with all the other citizens scurrying about gathering data to test the hypotheses that he came up with.

Nigel Davies remarks:

The reason a chess player should practice analysing positions is in order to cultivate intuition. Many players wrongly believe that the idea is to find specific improvements from specific positions, but they rarely get the opportunity to spring their cooks.

I have come to believe that the same role is played by counting for traders, that the main goal should be to cultivate understanding and awareness rather than devise specific trades. And one can find many other examples in difficult human endeavours, such as the importance of kata to the martial artist.

Bill Rafter explains:

Bill RafterThe answer to "what to test?" is "everything."  You try to break everything down to its smallest components and test each.  You keep records and their summaries on everything.  If you learn of something new, you have to go back and test everything again using that new method.

Suppose you know with certainty that the market is headed up in the near future.  A simple and intuitive strategy would be to buy the high beta stocks.  But testing that strategy would prove you wrong.  You cannot know that unless you test.  Okay, now let's consider the reverse:  you know with certainty that the market is headed down.  What about selling the highest beta stocks?  Test and you will find out.

One of the big topics now is volatility.  How do most people define volatility?  Are there any other ways to define volatility?  Is there any symmetry to the various definitions of volatility?  That is, does it work the same way in up days/weeks as it does in down days/weeks?  If you define volatility as one-day rates of change, the answer is affirmative.  But not so with other definitions.

Most researchers make the mistake of testing their ideas against "the market".  Well, the market is just the average.  You are not going to find any leading indicators by looking at the average.  So let's say that instead of looking at the S&P 500, you do your research on the 10 Sectors.  The results are different.  So then you drill down a little more to the 24 Industry Groups, and then to the 60+ Industries. If you are "on to something" you will find that the results get better with additional focus.  Your universe is the same 500 stocks, but you are no longer averaging to mediocrity.  Note that I didn't say this was technical or fundamental research; it's just research rather than intuition.

Most people do research badly.   Let me give some examples. (1) One of the major data suppliers (50,000 subscribers) gives its users the ability to construct their own portfolios.  That's important, as you may just want to work with stocks of companies with positive cash flow.  However a call to the support department of that data supplier will inform you that virtually none of their subscribers make their own portfolios. (2) The research software platform with the highest number of users does not even allow users to construct their own portfolios.  They give them pre-constructed portfolios of the S&P, Russell, Dow, etc. Take it or leave it.  (3) One of the leading (at least by reputation) institutional and retail providers of fundamental research allows its users to screen stocks on the basis of certain factors.  Their screening tool does not work correctly; giving the wrong results.  It's been that way for the two years that we have had a comp account.  No one has fixed it, most likely because no one has noticed.  We noticed, but of course we're not going to tell them.

So if flocks of "counters" or "quants" did poorly in the recent selloff, it may not be because counting or quant research is a flawed concept. It may because the researchers are not giving an honest day's work for their pay.  They are pretending to do research.  Their version of the scientific method is shoddy at best.  But that's okay.  To be a consistent winner, you need a supply of losers.

David Lamb writes:

"What to test" brings to mind the passages on counting in Vic and Laurel's books. In one, Artie, Vic's father, was writing on a yellow pad of paper while he was watching handball players. Upon a completion of a point Artie would notate: OTWK (off the wall killer); KW (killer, winner); DW (drive killer); A (ace); AW (angle winner). He was trying to calculate "the chances of winning the next point after runs of winning and losing points of different magnitudes."

And Dr. Rafter's comments on not testing ideas against the market, due to the market's being average, if further demonstrated by Artie's note taking during handball matches. He wasn't watching average players, he was watching a particular "sector" of players. In this case it was the best players.



VIXThe problem that a short lookback period does not account for potential volatility regime change is well understood. This is really two questions First, what is the lookback period? Second, how does one accommodate quantitatively for volatility change?  This might be addressed in different ways. First, look for volatility similar to high volatility regimes such as big moves. Second, in Iceberg Risk, Kent Osband suggests taking two distributions, a normal for current everyday entry/exit, and one for outliers and tail risks, and combining the two. Risk control, money management principles and use of leverage could be combined with the trading signals and by using eight-sigma for the risk factor but a normal curve for entries. Phase in could be graduated as survival odds of low volatility drop, and reduce leverage rather than increase it.

Strange CurvesAnother approach is from Strange Curves, Counting Rabbits, & Other Mathematical Explorations by Keith Ball from the field of information theory. The question in his example would be how to compute the minimum number of tests to give a robust reading on the number of children with a certain blood condition. The analysis is similar to the finding the one different coin out of nine with the minimum number of weighing problem, which is solved by dividing the 9 into 3 groups. Rather than equal probabilities as with coins, Ball poses the problem of testing children for a rare blood condition. This is similar to testing for a tail event in the market using a binary protocol — is, or is not, a tail. The number of tests is m and the test is computed as 2^m to be greater than n. For n=3200, then m=12, or 4096, which is greater than 3200. This provides a simple rule of thumb, that might be applied to divide the period into 12 samples, or a lookback of 266 days. The results is derived from principles of entropy as the minimum number of tests to detect the condition. Applied to markets, the lower number detects the cycle changes better. The number of tests might be the divisor of the sample to compute the lookback period. The rare condition to try to detect is the risk of a large excursion. The empirical occurrence of a four-sigma event has a probability of 1/400 or .0025. Another rule of thumb would be 1+2mnp, or 1+2*3200*12*.0025=196. Still some additional risk parameters are needed for the eight-sigma events we're seeing again per the Osband approach for protection in the turns.

Another method would be to change trade parameters to fit expanded volatility, and read the newspaper to follow fundamental changes. And there is truly no substitute for experience and good judgment and a good attitude.

Eric Ross writes:

Models are based on backtesting. Models are based on prior market moves that have happened. Thus, quants are nothing more than historians trying to predict future events from past performance. So, why is Wall Street looking to go black-box and and substitute historians for human traders? Isn't the human element of guts and feeling a powerful tool to trade by, when combined with charting and experience?

Rod Fitzsimmons Frey explains:

The heart of the scientific method is, say something testable, then try to disprove it by testing. If you cannot disprove a hypothesis, you may use it as though it were true (it is now a 'model'); however, continue trying to disprove it, and as soon as you do, cease using it.

Counters try to apply this method to markets. The only way to apply the scientific method to markets is to form a hypothesis (the market goes up every Monday after a down Friday) and test it against historical data. There are well-established statistical tests to take a certain number of outcomes (X number of up Mondays after Y down Fridays) and say something about the odds that such an outcome happened by chance. If the odds are long that something has occurred by chance, you may be wise to place a bet the next time the conditions occur.

AristotleInsofar as human beings have invented the scientific method and its servant, statistics, nothing could be more human than applying these tools to the market, as we have to medicine, evolution, physics, chemistry, physiology, agriculture, biology and botany.

Aristotle teaches us that we should apply only the level of precision to an inquiry that its nature allows: seeking more or less precision is a fool's path. The debate is about how much the markets will yield to scientific inquiry. The view of the Palindrome is that the markets are more akin to psychology and sociology than physics; the truth of the markets is determined by time and place and one must not trust the past. In other words, do not attempt to apply the tools of physics.Intuition, common sense, and experience taught many things that were eventually shown to be wrong when the scientific method was applied — the Earth's being flat and heavy objects' falling faster are obvious examples. I wouldn't trust intuition, but maybe I have no guts.

Fortunately, unlike psychologists, priests, or economists, we in the markets have an excellent scorekeeping mechanism.

Denis Vako remarks:

The "little birdy" model in the paper Mutual Information as a Tool for Identifying Phase Transitions in Complex Systems by Robert Wicks, Sandra Chapman and Richard Dendy covers regime change, clustering, entropy and velocity — all in one place!

Russ Sears extends:

NOAAThis is similar to the "credibility problem" actuaries face with Property and Casualty insurance.

Sometimes volatility changes due to a jump in the frequency of claims, but usually a regime shift occurs by when the size of the average claim jumps. New rulings or litigation or creative lawyers, besides more ordinary causes like inflation or new treatment cost.

The individual large jump should be looked at closely. Is it a new cause, or just an extreme example of current events? In other words, does this set precedent? Has the target changed, under new rules, or has the shooter changed, fighting more aggressively?

The volatility changes are important. Likewise it takes time and many more claims to establish a new norm.

Property and Casualty companies react to high-cost hurricanes poorly at first, due to the unknown of who got stuck with what claims. Then they rebound due to a softer regulatory environment and a mistaken assumption that because it happened once its more likely to happen again.

Gary Rogan writes:

Unlike regime changes in the physical world that are usually tied to the invariant physical laws, regime changes in the markets have no reason to have any specific characteristics because human beings are actively trying to outsmart the system while at the same time other human beings as well as random, from the financial markets point of view, physical reality changes inject error signals into the markets. It is also unknowable when the change phase is over and the new regime begins. It is futile to hope that any amount of backtesting will result in a reliable model. While the regime is constant, backtesting works, but when the regime unpredictably changes it stops working.



I'm looking for some advice from the statisticians. I'm interested in taking an open set of email messages and finding logical groups.  There are obvious ways to group them, including recipient lists, subject lines, etc. but what I'd really like to do is find sets based on the message content. What branch of statistics or area of research should I investigate to find some trailheads?



 I may be using the wrong term here but what really makes a person a "master" of something? And, what does it take to master something? I had this conversation on the golf course the other day with the other three and we came up with four different ideas. Mine was the least kind.

Does being a master mean that one is at the top of the class in a particular endeavor? Does being a master mean there is no room for improvement, that perfection has been achieved? Webster's states a master (in one of its definitions) is one being an expert at something. Can one fall from being a master, such as the Master's Championship in golf, where he is no longer the master?

Can a professional baseball player who hits .400 be called a master at his trade if he only accomplishes a 40% success ratio? Can a trader ever master the markets, at least for more than a brief moment? Perhaps a master is the person who is the best, or one of the best, at any given moment.

Kim Zussman writes: 

It seems impossible to get more than a small percentage of mostly random market movements right. However even doing that does make a difference, and a critical question a trader should try to answer is whether they add any value over buy and hold. And the question should be asked under different market conditions: Bear, bull, and flat.

There are lots of ways to ask this question, but here is an example using mutual fund manager John Hussman's HSGFX. (I don't have any position, but he is interesting and runs a mutual fund with option hedges, was finance professor, and his research seems thorough, though he's been bearish for a while.) I did regressions of his weekly performance vs. SPY (both w/div) over three periods:

11/00-3/03 Bear
3/03-6/05 Bull
6/05-8/07 Recent

Actually he does pretty well.  First during bear mkt 11/00-3/03:

Regression Analysis: HUSBEAR versus SPYBEAR

The regression equation is
HUSBEAR = 0.00340 - 0.0257 SPYBEAR

Predictor      Coef        SE Coef       T       P
Constant   0.003399  0.001135   3.00  0.003
SPYBEAR  -0.02569    0.03942   -0.65  0.516

S = 0.0124754   R-Sq = 0.4%   R-Sq(adj) = 0.0%

highly signif alpha with flat beta

Here is the same for bull period, 3/00-6/05:

Regression Analysis: HUS BUL versus SPY BUL

The regression equation is
HUS BUL = 0.00116 + 0.469 SPY BUL

Predictor       Coef           SE Coef      T      P
Constant       0.00116    0.00064    1.79  0.076
SPY BUL        0.46866    0.04235  11.07  0.000

S = 0.00674420   R-Sq = 52.2%   R-Sq(adj) = 51.8% 

Alpha is not quite significant, but he must have removed the hedges to get beta to 0.5 and extremely signficant correlation. Finally here he is recently, 6/05 to last week:

Regression Analysis: HUS REC versus SPY REC

The regression equation is
HUS REC = 0.00123 - 0.0652 SPY REC

Predictor       Coef            SE Coef        T       P
Constant     0.0012253  0.0004826   2.54  0.012
SPY REC     -0.06516      0.03213     -2.03  0.045

S = 0.00510472   R-Sq = 3.5%   R-Sq(adj) = 2.7%

Alpha again is highly significant, but now with negative beta.

This suggests he knows how to make money in up and down markets, partly as consistent alpha and partly when to turn up beta. You can see it also in one-sample t-test vs H(0) of return = 0:

Test of mu = 0 vs. not = 0

Variable      N       Mean     StDev       SE Mean          95% CI                T         P  

HUSBEAR  122   0.00347  0.01244  0.00112  ( 0.00124, 0.00570)    3.08   0.003
SPYBEAR   122  -0.00279  0.02876  0.00260  (-0.00795, 0.00235)  -1.07   0.285
HUS BUL   114   0.00262  0.00971  0.00091  ( 0.00082, 0.00443)    2.89   0.005
SPY BUL    114   0.00313  0.01498  0.00140  ( 0.00035, 0.00591)    2.23   0.027
HUS REC   114   0.00109  0.00517  0.00048  ( 0.00013, 0.00205)    2.25   0.026
SPY REC    114   0.00204  0.01494  0.00140  (-0.00072, 0.00481)   1.46   0.147

There seem to be three ways to beat the market:

1. Significant alpha with insignificant beta
2. Insignificant alpha, but significant positive beta in up-markets (market timing)
3. Combination of 1+2

This kind of analysis doesn't factor in volatility of returns, which is also important. There is less value in matching the market with a weekly standard deviation of 50% than 5%, at least in terms of stomach upset. 

Jeff Sasmore comments: 

WADR, Hussman's technical stuff may look good in a table.

The NAV on HSGFX hasn't moved since mid 2004. He missed almost all of the rally since he's so bearish. Must be related to a prominent editorialist at Barrons. If you want that sort of stability buy a CD. 

Rod Fitzsimmons Frey writes:

"Master" is a term widely used in the hobbyist craft market in order to tout videos, TV shows, etc. Person X is a master woodworker and so you should buy his four-hour DVD about sharpening plane irons.

In the 17th and 18th centuries a woodworker or joiner would serve a four to five year apprenticeship which was really more akin to slavery than employment. Then he could call himself a journeyman.

The next day if he had the money he could open a shop, employ an apprentice (slave), and call himself a master.

So in woodworking, the original sense of "master" was one who, largely due to protections built into the system, could employ slave labor. It has morphed into a marketing term used to hawk wares to people who often would like to substitute money for hard work and skill. I won't insult anybody by spelling out the investment-world parallels. 



A quick bit of Google research indicates that traffic deaths in 1972 were about 54500. Heres a chart from 1988 to 2005:

1988 42,130
1989 40,741
1990 39,836
1991 36,937
1992 34,942
1993 35,780
1994 36,254
1995 37,241
1996 37,494
1997 37,324
1998 37,107
1999 37,140
2000 37,526
2001 37,862
2002 38,491
2003 38,477
2004 38,444
2005 39,189

In other words, absolute fatalities declined after 1972, and have been more-or-less constant over the last 20 years. However, more cars are registered as we grow more prosperous. So the number of fatalities per 1000 registered vehicles has actually been declining steadily, from about 0.6 per 1000 vehicles in 1970 to about 0.08 today.



 A few weeks ago Apple said that the next release of their operating system, Leopard, would be delayed because they were pulling engineers to work on the iPhone, scheduled for release in June. I predicted at that time that the iPhone would also be late, mostly due to Brooks' Law that adding manpower to a late project makes it later.

On Wednesday, Engadget reported (incorrectly) that the Apple iPhone would be delayed three months. The result $4b wiped off Apple's capitalization in a few minutes.

Engadget was forwarded an internal Apple email by an Apple employee. Apparently Apple's email servers were hacked and the internal email announcing the iPhone delay was forged. Be that as it may, we (along with Apple's management) can now see the likely stock market reaction to an iPhone delay.

I'm sure Apple's engineering dept is praying for a repeal of Brooks's Law. But what I see is that an on-time launch is already priced into the stock, and we've now seen a dress rehearsal of a delay announcement.



We've talked here about the importance and nobility of marketing, and how important it is to our society.

Someone sent me this website because it was cool, but I couldn't help thinking about how the web has changed marketing and what a groovy thing that is.



 A while ago I left my full-time employment to start a software business. I'm only a month in, but already I've got some bruises to match the bags under my eyes.

The Chair and some of his colleagues have their racquets to help relieve stress; some others play golf or go biking. I play hockey. I was driving home after a particularly character-building game thinking about why I had enjoyed it so much even though we got thrashed. My conclusion was that it is impossible for an entrepreneurial spirit to not enjoy hockey. I give you:

The Top Five Reasons Entrepreneurs Like Hockey

5. There are piles of ways to be a successful hockey player. You can be small, fast and agile; you can be strong and determined; you can be good with your hands; you can have a powerful slapshot; you can be deceptive; you can have the world's best balance. You don't need them all. Likewise the entrepreneur does not need to satisfy some master checklist of qualities. She can find a way to leverage her strengths to succeed.

4. Hitting is allowed, and encouraged. The game is real: if you allow your attention to wander you will be knocked off the puck. No reality distortion field protects you from that harsh fact. What rules exist are there to prevent serious injury, not give you a glass bubble to wander around in. Coming from school or an internal corporate project to an entrepreneurial endeavor feels like shifting from a ballet class to an NHL rink.

3. Speed and agility are key. Not everyone on the ice knows where the puck is all the time, but you better believe at least two of your opponents do. Always. And they are skating for it as fast as they can. If you cannot beat them you will lose. If you do beat them to the puck, you will have between 1 and 3 seconds before your opponent is there trying to take it away from you. You therefore have an average of 2 seconds to move the puck someplace where he cannot remove it from you, and dance out of his way so that he cannot remove you from the puck instead.

2. Hockey is played by the players. The game happens so fast, and there is so much information flowing on the ice, that there is no way a coach can even begin to puppeteer his team. The coach's role is to prepare the team during practice and maybe pull players if they're not up to snuff, but if a coach calls a timeout it's really just to let his squad rest. They have to play the game, all of it. Books and mentors and investors and seminars and support groups can help prepare the entrepreneur, but once the game starts, their help is over.

And the number one reason hockey is the King of Entrepreneurial Games:

1. Hockey is a game of time and space. Good hockey players are like chess players at warp speed. They see the rink as it is now, and they visualize it as it will be in five seconds. They see the spaces and they know how they will be filled. When a player is in the right spot to receive a bounce and go in on a breakaway, they were not lucky: they saw the pass, they saw the bounce and its angle, and they moved to get there — before the pass happened. They're wrong a lot. But when they're right, it's magnificent.

Steve Leslie adds: 

I can think of several other fascinating things about hockey.

I. On the surface, hockey appears to be chaos, five skaters trying to advance a black object and flying all over the ice with the ultimate objective of shooting the object (puck) into a net with a stick guarded by some warrior-like creature who is protecting his turf.

There are line changes when players are being substituted for other players all the while the puck is in play and sometimes traveling at speeds of 100mph. These line changes can occur ever 2 minutes or so.

There are well-defined rules such as icing, off-sides and two-line passes, all to control the flow of the game.

There are penalties assessed against a player for rules-of engagement errors such as cross-checking, interference, high-sticking, roughing. This forces a team to skate short-handed and thus utilize a host of strategies to combat an offensive onslaught by their opponents.

Conversely there are power-plays when a team has a one-man and sometimes a two-man advantage. Here they have a huge advantage for a minimum of 2 minutes, which in hockey terms is a very long time. They then resort to strategies such as power plays designed to take advantage of their personnel advantage and to score.

In order to score and potentially win a match, each player must work within the concept and framework of the team. It is virtually impossible to score without all the players working in concert both offensively and defensively.

All in all this leads to hockey being a very cerebral game and quite appealing to those who can think very quickly and creatively.

II. Hockey is performed on a very magical and special stage. It requires a rink that must be carefully built and the ice meticulously maintained. Plus rinks tend to be spread out geographically, thus preparation time and travel is involved.

III. Hockey is a very expensive sport and thus can be considered elitist. Not only is ice time expensive but also the equipment required to play is quite broad and very costly. Skates are made out of leather and titanium and can cost $500 or more. A player also needs a helmet, shoulder pads, chest guard, hip pads, uniform, gloves and a stick. A complete hockey outfit can easily run into the thousands.

IV. Hockey requires special skills. Some of which are quite unnatural. Not only must players be able to balance himself or herself, to skate forwards and backwards, they must also handle a puck and face collisions. They must be in extremely good shape muscularly and cardiovascularly. They have to be able to shift gears quickly going from a glide to a mad dash and then stop on a dime. A fit player may lose 10 lbs or more during a hockey match.

V. There seems to be anecdotal evidence that the skills required to play hockey translate very well to other sports particularly golf. Some who have made the transition to golf from hockey have been Wayne Gretzky, Pierre Larouche, Dan Quinn and Mario Lemieux who have played with distinction on the celebrity golf tour.

It then becomes obvious why an entrepreneur would appreciate such a wonderful sport as hockey and find it a marvelous outlet to enjoy and revel in.

George Zachar writes: 

I played goalie. The goalies are the only players on the ice for the full 60 minutes. The goalie must keep track of who is on the ice for both teams at all times. He must know not only the strengths and weakness of them all individually, but must know how the lines match-up against one another.

He must constantly maximize the area he presents between the puck and the net while simultaneously calculating how the opposition will move the puck to create an opening. He must be utterly indifferent to pain, reflexively placing his limbs in the path of a frozen, rock-hard rubber disk traveling upwards of 100 mph.

Finally, the goalie knows that he is the one instantly faulted when the opposition scores. It's hard to think of a better metaphor for trading.

Steve Ellison adds: 

I liked playing hockey because skating is so much faster than running. While in San Jose a few months ago, I attended a Sharks game. It was interesting to watch Joe Thornton, last year's NHL scoring leader. Mr. Thornton likes to set up in the offensive zone either behind the goal or along the boards halfway between the blue line and goal line and look for a teammate to pass to. Both of these locations are on the edges of defensive players' coverage zones, allowing Mr. Thornton an extra second or two before somebody is trying to take the puck away from him. Wayne Gretzky also liked to set up plays from behind the goal. Similarly, entrepreneurs can establish niches in areas not well covered by the big companies. 



 The more sagacious detectives often say sadly at the end of a particularly tragic murder, "why is it always romance?" The particularly tragic move in the market last week needs a Rumpole to put things in perspective. But with his attentions fixed on crime in the English aristocracy and Oxbridgians, I will have to take a feeble crack at it.

It's clear to every thinking person that Ben Bernanke is a much abler chief than the fake Dr. Greenspan. He's thoroughly familiar with the academic literature, understands the full sweep of the interactions between markets, and is diplomatic, clear, and positive. What a contrast to his predecessor who was a academic manqué, prone to query about steel ingots and blast furnace stats in his bathtub for guidance as to what was happening in the economy.

Yes, the fake doctor must feel very chagrined that he's been displaced and shown to be such a straw wizard. What can he do but try to gain the spotlight with ridiculous non-falsifiable statements about "the probability of recession is 1/3?" Who is there who doesn't believe there's a probability of recession? But aren't there a million macroscopic inertial indicators in the market that tell us about them, and a boatload of forecasters that are not prone to look at the old-line heavy manufacturing sector as the key to our continuing expansion?

It is sad to see an old man or old lion displaced from the head of his pride. But what a boon it would be for the market if the fake Dr. G would stop trying to look big and "snarling" at his successor. "I'm trying not to make it hard for Ben," he said. There are people that still believe that he has insight. This just exposes them to so much more loss than they would have to face as the lieutenants of the bear raid spread their hopeful messages of doom with the fake doctor's support.

Along the same lines, it is invariable that in late February, the sage from Nebraska will say something doomsday-esque about the market. It has to get worse and worse each year or else he loses his position as the supreme moral force of abstinence for everyone else but himself. What he needs, he says, is a successor genetically programmed to avoid risk. But no, what he needs is something that Rumpole knows about, or that Hammerstein wrote about in South Pacific, that he ain't got anything besides the sunlight and the sand, the moonlight on the sea, mangoes, and bananas.

This time his message was that saving and deficits are going to cause anything but a soft landing. And you'd have to be crazy, except if you were he, to hold onto anything. Regrettably, he is completely oblivious to the economics of the matter, whereby individuals voluntarily hold debt at a price, and the current account deficit is triggered by the desires of foreigners to invest in the US. The two old curmudgeons came together in late February and their old guard of lieutenants was able to spread the old-hearted message.

It wouldn't be so bad if they were relegated, as they will be in 50 years, to the rogues gallery of old-hearted who decried the economic miracle of the enterprise system just when these pillars of Americanism, entrepreneurialism, competition, immigration, technology, trade, and respect for property rites were spreading throughout the world and setting the base for an economic expansion that will eventually bring the rate of return from stocks to close to the current bond rate, rather than close to a double, thereby proving a 100% increase in base stock values.

Only a Rumpole could do justice to it.

Victor Niederhoffer and Laurel Kenner chime in:

 Old-Hearted Men

(Sung to the tune of Stouthearted Men, from The New Moon. Music by
Sigmund Romberg, original lyrics by Frank Mandel and Oscar

Spare me from men
Who are old-hearted men
Who've been short ever since '82.
Who always call
For the market to fall
Who have always the same point of view
Shorting the dollar,
They don't like the dollar,
They don't like the market at all!
Spare me from old men
Who don't like high vol or low vol
Cynical old men,
Who don't like
Anything at all.

Give me some guys who buy stocks when they dive
And get out when the panics are through.
Give me the spec that will rise up from wrecks
with an optimist's point of view
Spare me from old men
who don't like growth or tech or vol
Cynical old men
Who don't like anything at all.

John Tierney writes:

 If there is one line that runs through Rumpole and that will outlive the series, it is his characterization of his wife: "She who must be obeyed." This line, like our recent correction, can be tentatively linked to romance, but not the more elevated kind that sadly led to the murders Rumpole was forced to solve. Rather, it's the tawdry love of a couple of harlots who deserve little but demand much. The first is the China doll, a wench who has taken much, stolen more, and given little. I believe George Friedman's assessment was partially correct: the Chinese government engineered this little play to teach its increasingly avaricious populace that you can't get rich in the market…fast. (Can you imagine members of the U.S. Fed dealing out a similar dose of reality to the American public?)

But I believe it goes beyond that initial purpose. The last time I looked out the China Doll was still firmly controlled by a communist cadre and all the good thoughts and market innovations in the world will not make them go away. It's mooted that an increasingly prosperous middle class will lead to the eventual downfall of this current ruling class. Are we to assume that this claque of engineers (well schooled, well disciplined, and with all the compassion of the Notre Dame alumni after a losing season) is unaware of this? That they will stand by meekly as their positions are voted away? History would argue otherwise. Just ask Google or Yahoo how much freedom is being dispensed.

We have been engaged with that country for 35 years now and despite repeated and numerous investments there, the big winner has been China…without costing it as much as a kiss. Many, many foreign companies have opened there only to discover that once the assiduous Chinese learned their methods, they quickly established cheaper competitors, drove them out of business, and took over their facilities. Nevertheless, our bankers, perhaps among the most venal individuals this country produces, continue to invest billions directly or indirectly. Billions are shipped over for minority stakes in some of the world's most corrupt and financially troubled financial institutions, copyright suits are brought repeatedly against the country, and theft of intellectual property is so common that it hardly merits news coverage anymore. (Meanwhile the Doll has stashed away quite a hoard with which she is purchasing natural resources, weak governments, weak presidents, and arms which can be shipped to Iran…or Iraq…or Syria…or Venezuela).

You want this woman? Take her, but when she breaks you, remember you could have read about her infidelities regularly on the pages of world's newspapers. In fact, you probably have read it, but her "opportunities" are so voluptuous it matters little, now. The second lady is much better known and has been around, in one guise or another, for some time. Her name is Carry Trade and she walks any street on which the swinging d**ks of the hedge fund world are located and within blocks of the banks which will provide the funds for leverage. She has been a generous consort for a long time now but has recently shown indications of retiring. This would be unfortunate, as she would leave behind a significant number of unfunded liabilities insured by firms without the wherewithal to cover 3% of them.

Of course, she has done this before, but a smitten lover is easy pickings. Finally, the most dangerous romance is the one that appears repeatedly in stories going back to the Achaeans and the Peloponnesians — we have become smitten with our own histories, accomplishments, and heroics, the pillars of Americanism. There exists a mentality, a very prevalent one, that because historically we have risen to the challenges, we shall continue to do so. Like Narcissus, we have fallen in love with our own reflection. And there are whole industries devoted to convincing us that the vision we adore is true. One is called Politics, and Greenspan and Bernanke are both its handmaidens. Another is called Finance, and it will tell us (as my grandmother used to), "Every day, in every way, things get better and better." (Does anyone really believe that the recently crowned "Greatest Generation" is really superior to those men who populated this country in the late 18th century?)

There are apostates. Just this week Goldman's chief global economist Jim O'Neill said, "There has been an amazing amount of leverage on currency markets that has nothing to do with real economic activity. I think there are going to be dead bodies around when this is over."

Pretty rough stuff. But for every O'Neill there are a dozen Abby Joseph Cohen's whose unfailingly bullish bellows prevail. Are our love affairs fatal? Can we win our tart's hearts - and minds - and business? Can we drag ourselves away from our mirrors of reminiscences long enough to address today's problems? Maybe, maybe not. But to pin the dip on the old dip who uttered the R word is a reach. This started in China and the maestro has little standing and less influence there. I think Rumpole would dismiss him as a suspect.

Rod Fitzsimmons Frey writes:

Freedom begins with property.

Somebody owns everything. By "own" I mean controls it, controls what gets grown there, what can be built there, who can pitch a tent there. That somebody might be the church, or more modernly, the state. But somebody owns it.

Those who own property, whether state or individual, control those who do not. Without property, one relies on others' goodwill for the most basic needs, food and shelter. One must do what the owner wants — grow wheat, send one's sons to the Middle East, work in a factory — to obtain the basic necessities. Possessing property liberates one from that tyranny. One can quit work and open a store; one can put up a windmill, dig a well, and buy a cow; one can rent out the property for income. Freedom.

Modern finance extends the freedom of property to the entire population, to those who have been denied property throughout the rest of history. Bankers are the modern Moses, leading citizens from servitude into liberty by extending the ability to own property to everyone. Of course, freedom is riskier than servitude, and not all succeed, but that cost is inseparable from emancipation.

All bets are off when the property rights aren't real, of course. Then the ownership of property is illusory and of no benefit. That is why the continuous, almost feverish defense of property by citizens of the United States is so magnificent and glorious, and why those of us in the rest of the world owe them such a debt of gratitude.



This essay was written for American Machinist Magazine in 1931 by Tom White. When I read it, I felt chastened and humbled, and I have redoubled my resolve to spend 2007 studying and learning, rather than trading in a frenzy like the market will disappear tomorrow. I've omitted several paragraphs extolling the machinist trade, although they are lovely. The tie between the later paragraphs and speculation are too obvious to belabor.

Stealing the Trade

As far as I know, there is but one statue of a machinist, as a machinist, in the United States today. This is the statue of Seth Boyden. Boyden was a machinist and an inventor, but the artist has depicted him in the leather apron of a blacksmith, standing at an anvil. This, I suppose, is the average sculptor's conception of a machinist. However, we will not quarrel about a little thing like that. The fact that gear wheels are seldom made with a hammer and anvil does not alter the fact that a lot of people think that is the way they are produced. But speaking of the blacksmith, what a breed he has sired! Wherever one has settled, civilization has blossomed. The machinist is the legitimate son of the blacksmith and like his mighty sire he bends the fractious metal to his will. Look where you will, wherever men congregate, the work of the machinist is visible. In all fields of war, transportation, communication, farming, building, mining, in fact in every phase of our modern civilization, the machinist has supplied the means to carry on.

Most good machinists have served their time, but some others manage to "steal the trade". These men, unless they have a tremendous aptitude and a willing disposition, pass through a terrible ordeal before they acquire enough knowledge of the business to have the other men accept them as machinists. I would not advise anyone to try to steal the trade, though I have known some excellent machinists who took this route, either by accident or design. One whom I know well got into the business quite accidentally, and he got much amusement out of his own ludicrous mistakes.

One morning, about 7 a.m., he joined a group of about 25 or 30 men outside the gate of a large machine shop. He was then about 21 or 22 years old, and was looking for any kind of work that he could get. The employment agent singled him out of the crowd and said, "We need a lathe hand; you're a lathe hand ain't you? Come on in. That's all we need this morning, men, come around tomorrow." He then sent Herman up to the small lathe department, and the boss put him to work. The first job he took on was a shaft about an inch in diameter and six or seven feet long, to be cut in two. The shaft was centered on one end and as there was a chuck on the lathe, he chucked one end and put the center up to the other end. He then put the parting tool in, and started the lathe up. The lathe was speeded up pretty fast but that meant nothing to him. He jammed the tool into the job and started to cut.

He said that he noticed that all the men near him suddenly found important business somewhere else, and that they all seemed in a hurry to get there, but he steamed merrily along and cut the shaft off without a mishap. He said that afterward someone told him that they all expected to see the shaft wrap itself around his neck, but as he put it, "There is a special providence that watches over children and fools, and it was on the job that day." I asked him how he happened to chuck one end of the shaft, and he said he didn't know that the chuck was removable. He said also that he learned about a steady rest some six months afterward.

Herman told me of another fool stunt he pulled off in the next shop he worked in. He hired out as a machinist, and the boss put him on a planer. He got along all right for a few days, then he got a job that was quite particular. After he had squared the job up and clamped it down, the boss told him that he didn't trust the square he had used, and to get the new square from the tool crib, and check it. He went to the crib and asked for the new 12-inch square. The boy handed him a wooden box shaped like a square with the square inside. He never suspected that there was a square inside, but thought it was rather strange that the boss wouldn't trust the steel square, even if it was old, rather than a wooden one, but who was he to question the boss's judgment, so he shoved the wooden box up to the job, found it was OK, and proceeded to finish the job. Fortunately the job turned out all right so that there was no harm done. About a week later he saw someone pull a fine new steel square out of the same wooden box.

Notwithstanding the inauspicious start, this man eventually became one of the best machinists I ever had the good fortune to meet. But he was one in a thousand.



Is this the best trading book of the past year?

No, but Blink by Malcolm Gladwell generated more ponderable and testable trading ideas for me than any other book in recent memory.

Blink is about how intuitive decisions are made. The book is composed of a series of scientific case studies, each of which brought an 'Aha! Trading' moment for me. The cumulative sum of these ideas easily filled a couple of notebook pages, the study of which will fill and influence months of work.

One example the book shows is how a simple, small factor algorithm surpassed ER doctors in determining if a patient was actually having a heart attack. The conclusion was that the judgment of ER doctors was affected too much by information.

As traders and market researchers, we are continuously confronted with too much information, and we usually end up going down paths like 'If (this and this) Then…' or 'If (this or this) Then…' but we rarely go down paths like 'If (this is not present) Then…'

That type of twist, from 'and/or' to 'not' is precisely what made Blink so interesting for me: the ideas it generated were more revolutionary and perspective-changing than evolutionary.

Sam Humbert comments:

…a simple, small factor algorithm surpassed ER doctors in determining if a patient was actually having a heart attack. The conclusion was that the judgment of ER doctors was affected too much by information.

I've been thinking about this lately. Since this fall/winter has been warm in New England, I've been out on my bike at least once a week. And I need to dress properly, given the winter temperatures and the self-generated windchill from riding reasonably fast.

What I've found through trial-and-error is that I'm better off going to weather.com and dressing based on a mechanical system (40s = jersey + 2 fleeces, 50s = jersey + 1 fleece, low 60s = jersey + windbreaker, high 60s = long sleeve jersey etc., adjusted for unusual wind or rain). Then I am by standing in my driveway to "see how it feels."

My subjective markings, it turns out, are prejudiced by ephemeral factors (sun is behind a cloud, a gust of wind blows through) and also by preconceptions ("it's winter, so it should be cold and windy," "it was warm yesterday").

I've sometimes gotten darned hot or cold by dressing by "how it feels," but I'm never too far off dressing by weather.com.

Rod Fitzsimmons Frey adds: 

I'm glad that others got good things out of Blink! I thought it was one of the most deceitful books I have ever read. Perhaps I judged too quickly (blink!) and read the rest through a negative filter, but I thought it was an anti-intellectual defense of emotional intuition over careful rationality.

As a remedy I suggest Think!: Why Crucial Decisions Can't Be Made in the Blink of an Eye by Michael LeGault, as a fast-and-dirty response, or The Closing of the American Mind by Allan Bloom as a much deeper criticism.

Dr. Aronson addresses the ER physicians example (or something like it) in Evidence Based Technical Analysis (around p.42). He cites many studies that show that human decision making is very effective for linear and sequential problems and hopeless for configural thinking. When faced with configural problems, humans tend to reframe them into linear or sequential problems. Often this works, but for some things (like medical diagnoses), it is disasterous. It was a much more satisfying analysis of the issue than given by Gladwell.

Nigel Davies adds:

One of Bent Larsen's favorite expressions was 'long think, wrong think.' I think there's a lot of truth in this. Many people seem to tie themselves in knots by thinking too deeply and by considering so much information that they simply confuse themselves. But there's a paradox here in that good intuition requires mastery of the medium concerned, and that requires extensive testing, revising and doubting of one's conclusions.

I'd suggest that it's easy to play a blinker, but it's hard to play a master who can blink.



I thought I was exempt from hitting Deer until a few years ago. For 15 years I drove nearly weekly (300 miles round trip) on the Taconic parkway (no fencing, always surrounded with woods, no gas stations) to and from my Mass. country house. I am a speedy driver but extremely vigilant for all the telltale signs of danger. It was snowing and there was snow pack on the road and 4′ foot snow embankments along the side. Nonetheless, three years ago, an adult deer leapt over a snow bank and landed in front of me. There was no possibility to avoid hitting him. Now here is the key to survival (I read about this maneuver years earlier and had rehearsed it mentally several times).I avoided swerving, braked (got down to about 45mph), then eased off the brake as I was about to hit him to get the nose of my Volvo cross country back up — this is to prevent him sliding up the hood and come through the windshield. I hit him square; split him open, and propelled him ahead. A trooper came by. We pulled the carcass off to the side and, yes, the Volvo survived with only one headlight out and I continued the next 120 miles home. There is no doubt luck helped as well. And, the AWD was also equipped with four studded winter tires; that helped too.

Rod Fitzsimmons Frey adds:

When my brother was 17, he had a season pass to a ski hill about 3.5 hours drive from our home. He would drive there every Friday and return every Sunday night with his friend who also had a season pass. They were in a Chevy Sprint.

Being 17, they were foolish. One of the games they played to pass the time was: sometimes when they were passing a car on the fairly deserted highway one or the other would yell “DUCK!”, whereupon both would duck below the dashboard for three seconds or so, just as they passed the other car. In their imagination, the other driver would see a driverless car passing on the highway. Great fun.

In any event, one Sunday they were driving back about 11pm. My brother’s friend catches a glimpse of a running moose out of the corner of his eye. “DUCK!” Because of this foolish game, reflexes take over, and they both duck under the dash as the moose shears off the top of the Sprint. Both boys unhurt: car now completely lacking any metal above the windshield wipers.



A few weeks ago James Sogi wrote about Kai Lake and his friend who is a professional wood craftsman. His website is worth a look if only to remind yourself that mankind does add to the sum beauty of the world.

Crafts are rich with metaphor for traders, but what strikes me most when viewing work like Kai's is the separation between the novice and the master: the gap that exists between the weekend warrior and the true student. I am a dabbler: I make things from wood that my family admires, and visitors to my home have even commissioned a piece or two. But my advanced-amateur status only makes me more aware of the divide between people like me and the likes of Kai, Krenov and Nakashima.

If I were to meet one of these luminaries, I would ask him if there was one skill that was most indispensable in bridging the chasm. Was it cutting to a line with a fine saw? Controlling a chisel to slice a 1/500" shaving from a tenon? Developing one's eye to recognize instantly a good or bad design? Learning to hand-plane a surface so beautifully that putting a coating on it seems sacrilegious?

Fortunately, many have written books, so I have met them, and they have answered my question. Perhaps surprisingly given the range of skills required, there is one fundamental skill. It is sharpening.

It is the lack of keenness on edge tools that leads many woodworkers to think that a bit of a gap in a miter is normal; that everybody has a bit of rough-tearout when they hand-plane, that an ill-carved surface is evidence of "hand-worked" and therefore acceptable. Many woodworkers have never had exposure to a truly sharp tool: until one has held a much-sharper-than-a-razor tool and sliced end-grain with the slightest of effort, it is easy to let sharpening lapse. After one has held that tool, it is impossible to ignore the stone.

A dull chisel forces one to push too hard. That would not be terrible if working plastic: but wood is a variable medium. It transitions unpredictably from hard to soft, it resists mightily on instant and not at all the next. When one is pushing too hard, as one must with a dull tool, when the nature of the work inevitably changes the tool will lurch forward uncontrollably, and another "hand-made" object is born. Furthermore, a dull tool is dangerous to the craftsman: it can easily lurch out of the work and into a palm, thigh or wrist. The link to trading is obvious and poignant.

Sharpening is a very simple job: hold a tool at a constant angle and rub it on an abrasive surface. Use finer abrasive surfaces to get a sharper edge. But it is boring and it takes practice to get it right. So many woodworkers never bother: they make-do with semi-sharp tools, or they regard edge tools as disposable and buy new edges from the store, or they rely on power tools to shield them from dull steel. Store-bought chisels are not sharp enough to do fine work. And professionals like those above rely on power tools to get close, and hand tools to finish. So the gap gets wider.

We amateurs in the trading world face a similar challenge in bridging the gap. What is the fundamental skill? Is it money management? Is it finely tuned entries and exits? A keen eye for a beautiful chart pattern? No. It is counting. It is not complicated, as the Chair has repeatedly mentioned: imagine two categories, make a two-by-two or four-by-four table, and count. It cannot be ignored, and it is not something you do early and forget: it is done repeatedly and often. The resulting sharpness allows one to use exactly the force required: the changing conditions of the market do not cause the account to lurch dangerously. Such flaws are no longer regarded as normal and necessary, and the gap starts to narrow.

But counting is not glamorous, and except for some it is not exciting. So we amateurs buy our edges from advertisements in this magazine or that, and when they stop working we discard them and buy another. Having never held a truly sharp edge we do not know that those store-bought systems or indicators were never sharp enough anyway. Or we hand our money over to a person or automated system, and get results that, although safer, are tragic because we never even tried to cross the chasm to truly fine work.

Time to get out the stones.



I have been trying to gain insight into the economics and sociology of the number of friends one has. Some concepts that are relevant are the substitution of family ties for friendship, the reduced time that we have for friends when we have children, the opportunity cost of having a friend when you have other high value uses for your time, the amount of investment that you place in a friend and what the rate of return on that investment is (and how to measure it). Mobility is often reduced by the amount of friends one has, but life-span is increased and apparently friendship is a more important determinant of happiness than money. Here is a simple mathematical study on friendship and its rewards, based on having 150 friends.

I believe that many of the same factors that determine the number of friends you have determine the number of markets or stocks that you own, and the loyalty that you place on them. Perhaps the methods of studying friendship and the concepts that help us determine our choices could be of use when determining what to buy or sell, and where.

We all could be better friends in one way or another, and I plan to reach out to a few people and become a better friend today. Perhaps this will make me happier and more profitable in my investments also?

Rod Fitzsimmons Frey adds:

There are those who are skilled at being a friend. The adolescent view of a good friend is that he is a good listener, concerned for you, sympathetic, etc. That also describes a Labrador Retriever. I think Optimism is the defining quality of somebody who is good at friendship.

He pays you a visit because he is optimistic you want to see him. He buys a small gift for you when he spots it because he is optimistic you will like it. He telephones after a year because he is optimistic the news will be good. Conversations are about the present and future and not past faded glories. Making new friends is the ultimate vote of confidence in the future.

Not quantitative, unfortunately, but relevant to market activities.

C. Kin comments:

Friendship is in some ways an early form of credit … the accumulation of "favors" receivable. I seem to recall from Sidney Homer's History of Interest Rates that kings would make overtures of friendship with other neighboring kings. Gestures of goodwill, tributes, etc., would require reciprocity with a slightly higher value in the future. Failure to reciprocate (a default) would be met with derision, anger, distrust, a disruption of commerce, and all of the other unpleasant things that occur when royalty gets slighted.

Vince Fulco mentions:

While I am a strong believer in the more altruistic reasons for developing friendship vs. the commercial ones laid out here, Charles' historical mention scratches at some great work by Robert Cialdini, a psych professor, regarding reciprocity. It is a generally inherent trait, some call it a mental flaw, of all humans. A flaw because as Cialdini's studies point out; upon receiving something of only nominal value from a friend or acquaintance, we have a tendency to respond in kind with a return favor or gift many times the value.

This phenomena and many other excellent examples are found in his book Influence: The Psychology of Persuasion which I highly recommend for the reference library.

Jeff Rollert adds:

I differ with the implied symmetry of value. Last weekend I traded $20 and an old stereo for a very nice mountain bike for my son at a place where we normally donate stuff. They had a lot of bikes which were not selling. The receiving area needed a new stereo. I clearly won in my mind, they in theirs, yet on market value a third conclusion may have been reached.

Steve Leslie says:

One thing that I always admired about Winston Churchill was he would invite friends and associates for long dinners at his estate house. His suppers were legendary as some of the great politicians, diplomats and thinkers of his era were invited to discuss the events of the day. And these suppers would last long into the wee hours of the morning. I can only imagine the discussions and as I recall, Churchill continued these especially through World War II. Now if Churchill could find the time to have over a group for supper while the fate of the free world hung in the balance what does that say for us.

Speaking personally, there is no greater enjoyment for me than to be invited to someone's home for dinner. There is just something wonderful about being liked so much that another would want you in their most cherished and private part of their world. It is as if they are saying to me "We are welcoming you to be a part of our inner circle of trusted friends."

Kashi Vishwanath mentions:

Your book and website indicate that you (and your colleagues) are willing to look at alternate explanations than the conventional party line. Here is one on Winston Churchill for your consideration and debate.

Conventional thinking has put Churchill on a pedestal. Witness the recent comment in your thread on friends. Ditto the innumerable books and hagiographies on him. Etc.

All that for someone that sought to continue colonial exploitation, ridiculed and disparaged MK "Mahatma" Gandhi, abused the native population of the Middle East and Africa in his time there and sought to maintain that going into the future, supported slavery, and so on. To call him a "leader of the free world" raises weaknesses in one's own critical and independent thinking. Free for what and for whom? and at what cost?

Jan Petter-Janssen continues on the topic:

As a student on a foreign continent the first weeks are really exciting. Since most students know no one or very few when they arrive, making friends is really easy. Everyone is in a kind of friendship vacuum. After a while the number of friends declines a bit since one cannot find enough time for everyone. This is like in micro economy where a monopolist sets marginal revenue equal marginal cost.

Adapting economic thinking and finding how to increase the social revenue and reduce the time cost of a friend may be a good idea (with the risk of such an idea being regarded cynical - which would imply your friends reducing their revenue of having you as a friend).

Another aspect with friends is to balance socializing with working. You work in order to buy goods and services, so you could say that the marginal benefit of interaction and transaction should be equal? I can definitely see myself in such a dilemma because trading stocks gives me the benefit of competition, achieving goals, and studying the mystery of the marketplace, but little social benefit. However, the balance is found by cutting out TV and video games, so then I have enough time for socializing too.



I babysat my eight-year-old nephew Luke yesterday. We spent some time flying a kite and staring at the clouds.

Luke tended to spot the livestock in the sky: he would point out the horse, or the elephant, or the giraffe. He did spot two trucks and a train as well. I tended to see people: an old man with a hooked nose, a tennis player, a mom beside her minivan. I also found a map of Canada and a totem pole.

What was remarkable was how easy it was to point these shapes out to each other (Luke was skeptical about the map, though). Despite the obvious difficulty in following somebody's pointing finger to a single cloud, and in adopting the other person's imagination, it was usually only a couple of seconds before one would say "Yep! I see it too! Wow, an elephant!".

We did not see any head-and-shoulders, cup-and-saucers, or triple-tops. But on the walk home I thought we might as well have.



My young son, now 18 months old, has been "singing" for almost a year. Since both his parents sing a great deal both to him and to each other, it seemed natural that he would pick it up early. This month, though, he started for the first time to mimic pitch correctly — very exciting.

What about musical tones make some sound lovely together and others clash terribly? Musicians call two notes consonant or dissonant depending on whether they blend or clash. Pythagoras discovered that when two strings were equally stretched, they would be consonant if their lengths were in the ratio of two small numbers such as 2:1, 3:2, etc. So important was this discovery of a law of nature being ruled by integers that it was extended to all the sciences, especially astronomy.

The simplest example of two notes that sound good together is when they are the same note, played one or more octaves apart. An octave separation between notes corresponds to a doubling of the frequency.

When a musical note is played on a stringed instrument, it has a primary frequency and numerous overtones, which are integer multiples of the frequency: for example the A below middle C has its primary frequency at 440Hz (by convention), while the E just above middle C is 660 Hz. The overtones of the A are 880, 1320, 1760, 2200, 2640 and so on. The overtones of E are at 1320, 1980, 2640, and so on. We see that the overtones line up with each other, and the result is a harmonious, or consonant sound.

A   440         880          1320         1760         2200         2640
E         660                1320                1980               2640

If on the other hand, we play the A with a G (freq ~ 785Hz, then the overtones clash with each other.

A   440         880          1320         1760         2200         2640
G             785                  1520                  2355

The result is a disharmonious or dissonant sound. Moving the frequencies of the note around to reflect integer ratios brings a sense of relief and correctness to the listener. This is true even if the notes are not real notes: for example, moving the G's fundamental up 100 Hz, the first harmonic down 200 Hz, and the third harmonic down 150 Hz is not a note found in nature, but can be produced by computer. It is consonant with the A because of its integer-bound relationship to it.

Musicians use these integer relations to great effect manipulating our emotions: they can elicit discomfort, relief, tension, and even laughter by moving further and more aggressively into non-integer ruled domains (dissonance) and resolving back into the more natural integer ratios that sound so lovely.

We know that the Mistress is a musician. Where in her symphony can we find the sources of consonance and dissonance that cause such anxiety and give such relief? An analogue to frequency in plucked strings might be found in volatility. As markets vibrate around whole numbers — fundamental frequencies — are other markets in consonance or dissonance with them? When SPX is ringing out the pure tone of 1300, are the vibrations of DAX part of a small-integer ratio? What has to happen to bring a dissonant market into consonance?

As a final note (yes, intended), one should probably be aware of the changing fashion of music. The notes that Bach wrote had mathematical progressions and rarely used dissonance: today's composers use dissonance to extract maximum effect and may never even resolve into consonance. You have to know your composer if you want to know when to applaud.


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