Adjunct to Bacon, quote of day:

"Race track players are like people who've run away to be a clown in the circus."

"Where have all the palookas gone? The ones who bet on the colors or names."

The last quote is applicable to our game.

Also, Steven Crist and Craig Lambert are eagles.

Adam Robinson comments:

Victor raises a very interesting point about the various species populating a market's ecosystem.

Conjecture: after prolonged periods of great volatility, and perhaps after prolonged periods of relative quiescent, many of the weaker hands will have abandoned the market, leaving the stronger predators to feed off each other.



 If Fridays are the best day of the week (mood wise) and traders are happy and prone to take chances, but lock in profits to be safe. And Mondays are the worst day of the week (mood wise), back to work, the grind–but some energized from the weekend all studied up and ready to go–would not Wednesday morning then be the mid point in terms of mood? Facing the long tiring day–won't be over the hump till next morning, knee deep in the work week, probably surly or strained.

Tired, stressed and stuck in the middle–how to take advantage?

Victor Niederhoffer writes:

One would count.

Kim Zussman adds:

The weekly cycle in happiness appears to suggest livejournal bloggers don't like work or school. Wednesday is the maximum distance from the weekend, and happiness peaks on Saturday.

I would argue lots of adults are TGIM'ers.

Even without looking at the market, in the old days you could often tell if it's up or down by looking at spec-posts:

Permabull/permabear post ratio and tone.

Adam Robinson comments:

A lot, a lotta work has been done quantifying moods using corpus linguistics. Here's one interesting paper on time of day/day of week mood cycles.

Phil McDonnell replies:

Gallup Daily Poll has done a decent start to confirm that the phenomenon of weekly mood swings is quite real. The linked daily graph of US mood makes it quite clear that there is a weekly cycle. The next step is counting in the market as the Chair suggests. 

J.P Highland writes:

My Friday attitude toward trading depends on how the previous 4 days were. If justice was found I play it safe looking not to finish in foul mood and have a sour weekend. If things went bad I become overly aggressive looking to bring my PnL back to green but usually the outcome is bad.

Victor Niederhoffer comments:

This is right out of Bacon I believe with the 8th and 9th race in those days, now the 17th and 18th on the card, being people like us trying to get even by playing the long shots.



A book every speculator should read: The Farming Game by Bryan Jones, 1995.

Think Green Acres [an old U.S. television show] meets Louis L'Amour, Mark Twain, and Will Rogers. Full of wisdom and insight into the human condition in general and economics in particular.

Vincent Andres add:

A great today story: Buffalo for the Broken Heart, by Dan O'Brien, 2001.

This story resonates very strongly with my own views of life. There is a place in it for macroeconomics, microeconomics, entrepreneurial spirit, regulation (bad and good) and so many good (so many forgotten!) things. Understanding things on our own, and not through traditions, mythology or advertising. Understanding that errors, even if they are old, even if they are widely spread, even if they are deeply supported, are however errors. Thanks to Dan O'Brien for this deep story, thanks for his frankness.

Review by C.C.Bucholz

Amazon.com Review:

"Some 20 years ago, Dan O'Brien, intoxicated by the Black Hills region of South Dakota, purchased the Broken Heart Ranch and began running cattle on more than a thousand acres. Though the decision ultimately cost him his marriage and, at times, his peace of mind, he feels a connection to the land and the lifestyle that continues to justify the decision. When necessary, he has even worked as an endangered-species biologist or English teacher in order to support his ranching habit. His engaging book, Buffalo for the Broken Heart, details both the rebirth of his ranch as well as himself.

"Desperate to rediscover purpose" in his life and disillusioned with working like a serf for the bank while supporting cows–those lumbering, small-brained icons of the plains that O'Brien describes as "a sort of reverse beast of burden. I was carrying them!"–he made a snap decision one day in January 1998 to take in 13 orphaned buffalo calves from a fellow rancher. Later, after much soul searching and contemplation of both practical and emotional matters, he decided to jump headlong into buffalo ranching. He expected differences between the two animals, of course, but was pleasantly surprised by the buffalo's self-sufficiency. Since buffalo are native to the plains, they are much gentler on the land and are able to find most of their own food and water. Plus, their meat is healthier than beef (and delicious to boot), and buffalo do not need the heavy doses of antibiotics, steroids, and hormones that cattle require–a process O'Brien likens to "locking children in a room with ice cream and potato chips and treating the health problems that result with expensive medicine."

O'Brien is a splendid storyteller, and his narrative is a skillful weave of the history of the buffalo on the Great Plains, colorful portraits of fellow ranchers, descriptions of the plains' rugged beauty, and a clear-eyed account of the harsh realities of ranching in this unforgiving landscape." — Shawn Carkonen



How to Build a Better Vocabulary by Nurnberg & Rosenblum is the sort of book I want my daughters to steal and grab away from me so that they adopt it now while they are half the same age compared to the age at which I found a certain zealous attachment to this book.

So, with the recently started summer vacations of the schools me and my wife brought over a new Scrabble Board. The two of us have been playing a few rounds every day creating much WWF style mental teasing at the wins and losses. In the resultant spike of competitive spirits the daughters have started playing the game of Scrabble for far many more hours of the days and the evenings.

In some days we are hoping that the competitive spirits would have soared to a point betwixt the two daughters that they would come to improvising and get at beating Dad at his own game. That's when I intend to leave the very old copy of this book which I used in the ever-competitive MBA entrance tests in India for the vocabulary sections of the exam under a pillow. I am hoping that a surreptitious caught red-handed look on the face would just be the finale of my act at selling the best book on the subject to my daughters at the age where they could gain most by beginning to build a system of continuously enriching their vocabulary.

Across the years, I have yet to discover a better system of building as rich and as utilitarian a vocabulary as this one book has in between its covers. It's a system that it helps with its readers acquire rather than just a focus on memorisation of word lists.

The closing sentence at the preface of the book says it all what lies ahead in the pages, "I love you" is all you would still need to say when you need to despite a vocabulary of the sort you are going to build with this book.

Commonsense, systematic approach to building a knowledge structure on the origin of words, outstanding ways on classifying and connecting with the origin, usage, context and meanings of words are just some of the things I would say in praise here. The rest of the weight of the recommendation would have already been gauged from my sales plan. Think of getting a Scrabble, this book and your own ingenious plan for this summer. Kids would grow up richer with access to more words and stronger with a richer power of expression, over course.

Adam Robinson comments:

Word Power Made Easy by Norman Lewis is the best vocabulary book out there, bar none, even better than mine (though I took a more scientific approach to which words to include, whereas the inimitable Lewis chose words that lent themselves to easy etymological analysis).

An excellent, excellent game, for children and adults, is Rush Hour, which has graduated challenges so can be done by 6 year old (or an Aubrey-esque 3 year old, no doubt!!), or a 60 year old. What I love about the game is that to advance one must be willing to move backwards. Reculer pour mieux sauter, for those who speak French (a good martial proverb in any event).



 I recently read a great essay, "The Importance of Stupidity in Scientific Research" by University of Virginia biologist Martin A. Schwartz in Journal of Cell Science. Excerpts:

"… how hard it is to do research. And how very, very hard it is to do important research… What makes it difficult is that research is immersion in the unknown. We just don't know what we're doing. We can't be sure whether we're asking the right question or doing the right experiment until we get the answer or the result."

"… we don't do a good enough job of teaching our students how to be productively stupid -– that is, if we don't feel stupid it means we're not really trying."

Adam Robinson responds:

That is a wonderfully illuminating essay, at once humble and bold.

When it comes to the scientific method, it is taught that central is the notion of the falsifiable hypothesis. Easier said than done for some personality types, as their need for positive reinforcement nudges them towards being debilitatingly conservative on how far they'll venture forth. Nary a bold stroke attempted for fear of ultimately appearing "wrong." Then again, being right is overrated. Too often it's enervating.



Which I trust is everyone,

Stats.org website is devoted to using statistics to investigate and resolve social and economic disputes, as well as other areas of modern life.

"We check out the numbers behind the news" is their slogan.

Dr. Robinson is the author of The Rocket Review Revolution, NAL Trade, 2006



 Here is a paper showing different buy/sell activity for stocks as a function of digit of price:

It contains a chart quite similar to the one above, which I made using data a real-estate agent shared on the local housing market over the past year, including listing price, sale price, days on market, and selling agent commission.

I tried to address a question related to choosing a listing price. Often when someone wants to sell something for $100, he might price it $99.95 or $98.50, etc., under the theory that people will think "ninety-something" instead of a hundred, and be more tempted to buy. The chart seems to show that people do this with house listing prices too.

To check this, I used the listing prices for homes ranging from $400,000-$999,999, and adjusted them such that the data was moot in the 100,000 column; they were all $9XX,XXX, and binned. For instance 495000 became 995000, 675000 = 975000, 825000=925000, etc. This way I could look at where people priced their homes in the ten-thousands column, regardless of the hundred thousands column (which was adjusted to 9).

Above is a dot-plot showing the frequency of prices in the various 10,000 bins. It is a "bimodal" distribution; people were more likely to price at or above 90,000 (in the ten thousands column), and near the 50,000 level. This confirms the effect alluded to earlier, because of the huge peak in the 90,000 area which dwarfs the 10,000 band. This and the peak around 50,000 bears a resemblance to what was found in stocks.

Adam Robinson writes:

Adam RDr. Zussman's reference on pricing reminds me of the notion of price points: discrete (rather than continuous) pricing "bands" that once "entered," a person is willing to go to the next higher band. (E.g., once a person is willing to pay more than $10 for an item, he's willing to pay $14 — so it would be foolish to ask for $12. Kind of like quantum levels for electrons.) If you examine random price offers, which are tested to death by direct marketers, they cluster around these price points.

Also, for some quirky reason, prices ending in a "7" draw much higher response than any other digit (not sure if this is true of other cultures).

For more on the psychology of pricing, and why we buy things (which might offer insights into why people buy stocks), here are some terrific sources:

Buyology, by Martin Lindstrom

Influence, by Robert Cialdini (Yes! is an offshoot with more applications in business world)

Why We Buy, by Paco Underhill (an almost anthropological take, more on retail environments)

The Strategy and Tactics of Pricing, by Thomas Nagle

Dr. Robinson is the author of The Rocket Review Revolution, NAL Trade, 2006



 My lawn guy is losing his house due to foreclosure. He's quite bitter about being misled about mortgages and the real estate market, and blames the "Fat Cats" for setting this up to steal from the little guy. He refuses to take any responsibility for his actions, and says it's not his fault.

I went over to his house about 2 years ago and was surprised that a lawn guy could live in a beautiful 2400 sq. ft. house, with pool, in a premier gated community where the houses were going for $450K at the top. That same house is selling for ~$190K, if it can sell right now. I asked him if he used the services of a good real estate attorney to vet the deal and walk him through closing. He said that he didn't think he needed an attorney. He needs one now, as he's filing for bankruptcy.

As I value rational thought, I decided that the less said, the better, and didn't comment or make any judgments although I thought to myself how stupid he was. As for the personal bankruptcy, I find that unconscionable.

James Lackey writes:

It's nice of many to hold back judgment until after the fact. The only guy I know to do full disclosure and warn them good in Florida was my brother. One day he made a comment to me and to our friends at the BMX track in Feb of 2006 when another construction buddy was bragging about open land being bid up from 5k lots to 50k. It was where we rode our dirt-bikes…waaaay out there. By May I was gone to Nashville, and that was me, after being here arguing how good it was for everyone to be able to own a home from 2004 to '06, which is true, but as always, the get the joke is at what cost. Florida had many boom to busts and the lead movie in 1929 was the Marx brothers Coconuts making fun of land speculators in Florida. As for personal BK a bit of humility would be prudent. If anyone ever has a sick wife or child a couple million in medical bills and lost wages from taking care of family make it a certainty. But GM should build better cars to compete with others that have workers with national healthcare plans and more prudent savers.

Adam Robinson adds:

Adan RA question has arisen as to whether the typical little guy who bought a home was duped or blameful. This wasn't a case, in my opinion, of caveat emptor on a colossal scale.

Given the extent of the bubble, countless "little guys" were securing mortgages on properties they could not possibly have afforded in the past. Even if the lending institution had glossed over, if not misrepresented, the risks, as Alan points out, surely these new homeowners must have realized this change of affairs. Since there was no commensurate change in their own wealth or earning capacity, the sudden change in their fortunes could only be attributed not to their efforts, but rather an unexpectedly favorable turn of events — in short, good luck.

It is natural, of course, to be giddy perhaps to be the beneficiary of such great fortuity, but to expect that luck to persist, or to be without any actual or potential hidden costs — worse still, to resent it when their luck turns bad, or "the catch" in their boon to become painfully clear — suggests a level of credulity about the world, if not the physical universe, that can only be described as stupidity.

Adi Schnytzer replies:

Most people on earth are probably indeed stupid! Remember, in my family's past, I have this image of a man saying to his family in Eastern Europe in 1938 or so, "let's get out of here; I have visas and we have the money." No one wanted to know, and only he survived. No absence of innocent stupidity then or now. I'm of course not comparing the two situations in any other way. And then there are those funny surveys that ask people to name the President, Treasury Secretary, etc. and the results are incredible.

James Lackey chimes in:

Florida is pretty big…saying housing should do X when the state is in 2 climates and 2 different time zones is a tough call especially since the wealth is concentrated in 2 counties, one is Manhattan South and the other is the other side of the world to the North Side of Chicago, and one doubts there are any connections to Washington, DC and if your going to be a land holder you better be back by the full faith and political rigging of the Washington boys. I was a kid from the S side of Chicago but the only place I ever really liked was Boca Raton. Even though the West Coast are Chicago people…but in all of Florida it's hard to make friends in the business of stocks as every other guy you meet is running a scam.

PS. St. Joe is not the biggest land owner in Florida, not even #2. Think bigger.



Beijing MarathonWatching the Olympics, it was clear that distance running has moved up a notch from 1996. It was only 12 years ago that I thought with some hard work and perhaps a miraculous race of a lifetime one day I could make the USA marathon team. But what I watched this past year with the US team trials and then the Olympic marathon was a spectacle most amazing. I was left wondering how I ever thought I had a chance. What was I thinking? I don't know how to convey how good a 2:06 marathon is, especially in those hot conditions.  It is something I think you can only feel, by running with those who have that capability. The only way to understand it is to feel the intensity of the competition, by keeping pace with those amazing talents for a few miles of such a marathon. You can only understand the inner strength of such athletes if you've tried to built up that strength brick by brick — if you knew intimately the effort necessary, and built up within you a magnificently strong structure and then felt it melt by the heat of their calm efforts.

But what I found most amazing was not the asymptotic curve of times as displayed by the 4:00 mile, or the swimming pool. The line gets moved downward as methods, coaching and even equipment improve. But what I found amazing was the great diversity of talent. Any of those top 10 marathoners could have won, given the right venue. But the diversity of talent ensured that even given a terrible venue, one would still shine.

It's impossible to say who would have been best, given today’s knowledge, methods, equipment and training using yesterday's top talent. Everybody responds differently to different methods, especially the extreme training you need to do to be competitive today. For example altitude-simulating chambers  will give one guy a bigger edge than another.

Many have said that yesterday’s talent would never be the best today. And I know in my case, it is probably right; I wouldn’t have gone as far as I did in today’s deep field of youth and talent. But in general I disagree. It's not that they wouldn’t be the best, it's that they would be the best only under a much narrower set up of circumstances. It reminds me of the high school three sport athlete star who gets to college and has to decide which sport to play. Running today is more specialized, for example one marathoner may do better in heat, another in higher altitudes, another on hilly course, another on rougher roads. So it's not just survival of the fittest narrowing the field, but heightened competition responding to the need for more diversity.

Hence the market continually responds differently, not just because the competition is more cut-throat and getting tougher so all must learn new tricks, but because intense competition prepares for strenuous times by developing more diverse talents.

Scott Brooks adds:

If my math is correct, these runners are moving at a rate of ~12.5 mph to cover that distance in 2:06. They are running ~4:48/mile pace for all 26.21875 miles. That is a stunning pace! It makes me ask a question I've always wondered. What is the limit of human endurance? How much more time can we whittle of those numbers? Sure, I guess as time measurements get better we can break it down to the 1/10000th of a second someday to measure the difference between athletes. But when do the changes stop becoming meaningful? In 100 years from now, will marathoners be breaking the two hour barrier with regularity and how much will they break it by? What about 200 years from now?

Russ Sears replies:

The physics of the sport are more important than the time measurement accuracy. For example in measuring a marathon course, I believe it is officially 42,195 meters, then you must add 42 meters, because the course may shrink with temperature. So there maybe some truth to the joke, perhaps they needed to measure the distance of the cube again with so many records being broken. In about 1992, I read an article in Sports Illustrated claiming to analyze the Track and Field events for the physical limits of what is possible. All were well past the then current world record, but I believe that several have since been broken, such as the 10k time.

But for every ten innovations that shave a 1/10th of a second per mile you get one innovation that shaves a full second. Perhaps eventually you reach the point where for every 100 innovations you get 1/100 and one you get 1/10th but you never know if the 1 millionth innovation shaves that full second off again. But what I think you are seeing is that rather than just the talent and training, controlling the conditions of the event starts to mean more than the control of the talent/training. Hence on any given day one can beat the others.

Adam Robinson predicts:

The marathon world record will be under two hours in the year 2023, according to my projections, though it could be broken earlier with superior terrain and weather conditions.

The equation I fit was:

Marathon post WWII times (in minutes) = 159 - .00044 * (world pop.)^0.5

Nigel Davies queries:

Are you sure this will be linear? Training methods and superior equipment may be part of the equation but other factors could include things like human height (with a direct effect on stride length) and population size (increasing or decreasing competition). And it seems there's a cyclical element to human height at least; it declined in the late 19th and increased in the 20th century.

Adam Robinson replies:

There's no way to model training method improvements, and I assume in something like the marathon that technique and training is probably close to asymptotically perfected as we're likely to see, unlike shorter events where a better start or something might shave off a significant fraction of time.

But note that the relationship is not linear, it's based on the square root of the world's population, which is how the bell curve of talent will disperse, so the model's based on the very simple assumption that the fastest time will improve simply because the sample size has gotten larger.

I did this quickly, back-of-the-envelope, when in fact a better model would have been the world record as a function of the accumulated population of the world. But as a rough (90% accurate) prediction, it's not bad.

Clive Burlin says it all depends on incentives:

Idolize and pay huge sums of money to marathon winners and sub two hours will be broken long before 2023.

Why would anyone but a narcissist endure all that pain when you can go out on a field, catch a ball, run a few yards and make 20 million a year?

When marathon runners start making mad Benjamins, more will come out to train and break records.

Stefan Jovanovich rectifies:

There has only been one baseball player paid $20 million/year; and, as Yankee fans know, Mr. Rodriguez is not being paid for his glove work. As for running backs, none is paid $20 million a year or anything close to it. One of the great successes of the NFL — compared to baseball and basketball — is that the spread between the publicly-announced salaries and the net cash received by players is 50% or more; it was one of Gene Upshaw's many burdens that the NFL Player's Unions strikes were not nearly as effective as the baseball and basketball player unions "job actions" have been. (Anyone have any idea why?)

Compared to what they made even ten years ago, track and field athletes have made remarkable gains; there are now several thousand professionals who actually make a living from their pains. In Carl Lewis' heyday the number was fewer than one hundred. There may be more than narcissism motivating those guys in Mexico City who train in the smog every day.

One of the fascinating ironies of the Olympics regarding money and sports was that the Russian women's basketball team won the bronze medal by having the American Becky Hammon as a ringer. When one of the newsies complained that she has playing for the U.S. cold war enemy, she pointed out that the U.S. team did not invite her to play (itself puzzling since she is the best pure shooter in the history of U.S. women's professional basketball). She also pointed out that she makes far more money playing for the Moscow team in the Russian professional basketball league than she makes playing for San Antonio in the WNBA.



V KatsenelsonQ. What provision does the value investor make for an error in his estimation of the "true" value?

A. Investing is not a precise science, a fair value is an estimate. That estimate is as good as the assumptions that went into it. I detest the precision of many sell side analysts when they estimate the value of the company (i.e. we believe this company is worth $10.75 thus at $10.10 it is 6% undervalued). I suggest to tamper with assumptions to arrive to ranges of estimate (i.e. change discount rate, sales growth, profit margins etc., tinker with them to figure out the impact they have on the fair value. Also playing with these variables will help you to understand which ones have the most impact on the value of the firm and thus you can spend your time focusing on things that really matter).

In my analysis the required margin of safety is a function of two variables: company's quality (the higher the quality the less margin of safety I need); and fundamental return (earnings growth and dividends), the lower the fundamental return the higher margin of safety I'll require as I need to be compensated for the stock turning into dead money. In other words when you own a company that doesn't grow earnings or pay a dividends, a time is not on your side, thus you want to make sure that you are compensated for that by a larger discount to fair value.

Q. What of Keynes's warning about the tenacity of the market's irrationality outlasting one's funds or investment horizon. How do you deal with that?
A. Great question!

The point I made above answers this question somewhat, but I'll repeat. If I own companies that pay dividends and grow earnings I'm compensated for the wait. Dividends provide a real time payments, where earnings growth makes companies more and more valuable, compressing the P/E under the stock.

This is a reason why I don't use leverage. Leverage compresses the time of your bet. Even if you are right on undervaluation, leverage may kick you out of the position before your proven right. To some degree this is what happened to LTCM, they were right on the arbitrage but because of the high leverage they did not survive to see themselves being proven right.

Q. Also, at what point does the value investor exit on the upside, assuming that the market "wises up" to the "true" value of the stock and starts bidding it up? When the price reaches value, or when it overshoots it by some predetermined amount, or what?

I suggest figuring out the sell price or sell P/E (I prefer P/E) at the time of purchase. This way you have not developed the psychological attachment to the company. I discuss selling in my book in depth (Active Value Investing: Making Money in Range-Bound Markets). The sell price will be close to the fair value point.

Q. Finally, can't the stock price itself affect "the fundamentals" in a Sorosian fashion (e.g., cost of capital, certain loan provision triggers, ability to make acquisitions, attractiveness as an employer, etc)?

A. I try not to own companies that rely heavily on external financing or their P/E staying high so they can make "accretive" acquisitions. This point you touched upon is so true with banks in today's environment; they have to issue stock because their capital is destroyed, but their stock is down. But let me give you the opposite side of this: I own UNH , WLP, NOK and Microsoft , these companies have couple things in common, they have incredible balance sheets (NOK and MSFT have no net debt and billions of cash), lower stock prices will provide these companies an opportunity to buy their stock on the cheap.

Q. The bedrock premises of value investing have always left me slightly puzzled, as if I'm missing something.

A. I guess the idea behind value investing is to find companies that market misprices (often for psychological reasons) and sell them when market recognizes the error.



CanaAs a very serious collector of art, I see people buy art for the purpose of investment all the time. I'm asked to give my opinion on the worth of a particular piece of art a few times a month. When the public sees headlines touting record price for Van Gogh, Renoir or Matisse, they rush out to buy art for investment. Some major companies have also put the shareholders at "art market risk" by owning large collections of art for investment purposes. The cottage industry of consultants that has sprung up dealing with the art investment field is full of swindlers, thieves, liars and cheats. The consultants, dealers, and auction houses are the ones who profit, not the average collector. Even some reputable dealers have been known to sell fakes, such as works by Dali, which are 99% fake (except for his signature). While it is possible to make some money in the art market, it is very improbable for the collector to profit. A collector should stick to buying art he loves, has beauty, wants to display forever, and is willing to bequeath to a relative or museum upon death. The art hanging on our walls and in our collections is owned by history, and we are merely the caretakers of the art. Incidently, despite the spin by Sotheby's and others, the mid-range market for good Impressionist art is rather soft. There are also some good prices to be found in the Old Masters. I used to tell my lovely wife that the price of good mid-range art fluctuates inversely with the number of margin calls on the Street.

Sam Marx remarks:

PollockI believe a lot of modern art is a fraud. Jackson Pollock's splatter paintings — how can anyone take them seriously? Yet they are sold for millions of dollars. A painting (not a Pollock) hung in the Museum of Modern Art in NYC for a number of years before it was discovered to be upside down.

Marion Dreyfus critiques:

Your grasp of modern art is not strong; if you know the continuum of the field's development, you would not say that. It marks a yahoo sensibility, alas. There are fraudulent practitioners, but Pollock is not one. Suffice to say there are less well researched and annotated and revered artists around to pick on. In general, if you are going to pick on frauds and fakes, better to pick on a very current artist whose chops are not yet firmly implanted in the historical record and universally accepted.

Just as there are 'collectors' without an ounce of sophitication in what they are amassing, there are quick-buck artists eager to make use of the investing/collecting sensibility when they adjudge the market to be a bunch of gullible wallets circling for a kill.

And though it sounds foolish, because much of modern art is nonrepresentational, if the artist is not present while the museum hangs the piece, it is forgivable if the canvas is not the way the artist intended: The average viewer could not tell which side was intended to be down, which up, so one ought not hold the museum guilty for such an understandable error.

Sam Marx retorts:

What makes Pollock’s work worth millions? One critic called Pollock's work colorful "wallpaper designs." I don't believe Pollock precisely measured the hole he created in the bottom of the paint can and a slight change in the hole size in the can of paint that he was dripping from would've resulted in a very different painting. If you don't have a precise control over what you're doing, I have doubts about it as a masterpiece.

Michael Bonderer assays:

RothkoSam, easy boy! Kindly try to put Pollock specifically, and the Abstract Expressionists of the budding NY School Artists more generally, in the context of post Hiroshima/Nagasaki, post WW II ethos and emerging Cold War ethos of the late 40s and early 50s, to understand their aesthetic and important place in global art and their brilliance. Particularly interesting would be for you to trace Pollock's pre-Abstract Exprisionist work to see how he as an artist developed and emerged as a leading Abstract Expressionist. As the atom's understanding came to mass consciousness, you will see bio-morphic imagery present in many artists' work, including Pollock's. This gave rise to the 'explosive canvas' of Pollock and others and the magnificient 'color-field' work of Rothko, as they all came to grips and a better understanding of where we as a society were going on a certain level from 1945 to the present. Collecting and investing in art is an aesthetic and a lifestyle, and to do it well you really have to immerse yourself, e.g., Paris in the 20s and 30s, NYC in the late 40s, 50s and 60s, LA and SF Bay area in the 50s and 60s and 70s and the LA Chicano art of the 70s and 80s and now Shanghai today with its phenomenal present day contemporary pieces and artists. Sam, I kindly direct you to the Art Tab on Costco's web site!

Lon Evans adds:

Should this be 1910, Sam, you’d be offering to pass on any available Van Gogh.

Adam Robinson offers:

Cana Alas, what's not strong is modern art's grasp on what moves the human heart.

If anyone wants to take up the affirmative position that modern art resonates with the human soul and psyche anywhere near as much as does any Old Master painting, I'll take up the negative banner onto the debate field with gleeful alacrity.

As a rule of thumb, in any field of human production, whether art or literature or essay writing or science, I lay it down as axiomatic that the time and consideration that ought to be accorded to the appreciation and evaluation of human products is proportional to the time and consideration that went into their creation.

Some might argue that talent or brainpower ought to figure in to the calculus of merit, also, so for those who like to quantify things, let's say,

PT x BP/T = k x CAT (production time of creation times the creator's brain power/talent equals some positive constant times the claim on an audience's time)

Show me a piece of art — or an idea even — that took two years of a human being's life to conjure and produce, and another that took two days, and the assuming the talent of the creator's to be the same, I'll give the later maybe 1% as much of my time weighing and appreciating as I will the former.

Michael Bonderer explains:

Tang ZhigangAnd therein lies the adventure and challenge. To effectively emmerse oneself into the Shanghai art and media cognoscenti and find the Shanghai Pollock and Rothko and Diebenkorn. Scour the streets and allys and lofts for the work-product of the Tiananmen-inspired dissidents and new-found 21st Century Shanghai sensabilities. Maybe even find the Costco art-mill progenitor and take him out for tea and latte and pick his brain. He may be nothing more then a knuckle dragger, but then again, he may point you to a street that is having a new showing Friday night.

Jeff Watson responds:

There are some prefectly dreadful works from the Old Masters out there. Just go to the Prado or Louvre, and you'll see plenty of examples. While I'm not a fan of most modern art, I do like some of it, and have one piece in my collection. Good art is good art, in any genre, be it music, literature, or theater, and the heart will respond to to what's good. Some have pre-existing opinions on the merits of a certain genre, and it could cause them to miss out on something beautiful. Pre-existing opinions have cost me a lot of money in the market over the years, and this has taught me to sample everything, and keep an open mind.

Steve Leslie ponders:

Why is it that a painting of a nude is considered artform when a photograph can be considered pornography? As an addendum, do I need Freudian therapy if I am a fan of Robert Mapplethorpe?

Why would someone spend millions for a stolen work of art yet know in advance that he may never reveal it for public viewing?

Along the lines of burglary, How can billions of dollars worth of artwork be stolen every year and vanish for decades?

What happened to all the artwork that the Germans plundered from France, Italy, Denmark and other places during World War II and has not been seen since?

Where does someone draw the line between art and garbage? Along those lines what, defines Dali as a genius and not mildly psychotic?

Was Andy Warhol an accomplished artist because he drew for Campbell’s soup labels or in spite of it?

Who else thinks that Frank Frazetta is genius personified?

Are dogs playing poker classified as modern art, especially with the Phoenix-like rise in popularity of the game?

Do velvet Elvis paintings increase in value?

Alston Mabry postscribes:

I enjoy using artwork as wallpaper on my computers. Two very good sources are Mark Harden's Artchive and WebMuseum. It is crucial to get a good scan, that has decent color saturation and sharpness. For example, Hopper's Cape Cod Afternoon from WebMuseum, in which the colors are very rich, and you can actually see the grain of the canvas.



CubeAll my life, I've heard the familiar refrain on how "So and so is such a lucky person, they always win." I've been to the track and seen guys sweep the whole card of trifectas, much to the chagrin of the losers who attribute this feat to that elusive concept called luck. I've seen people throw away all of their money in pursuit of the long shot, afterwards labeling themselves as "Having a streak of bad luck." The concept of luck always intrigued me, and caused me many sleepless nights in grad school trying to prove, or disprove luck's existence. After a few months of thought, I eventually came up with a very elegant proof that denied the existence of luck. Ever since that moment, equipped with a new mind set, I have viewed all events as random occurrences that are subject to the laws of probability. This idea served me very well over the past few decades, and allowed me to eliminate one more emotional distraction regarding my management of risk in trading, at the track, or at the poker table. I simply denied the existence of luck for the past 30 years and chalked up all occurrences to probability.

About a week ago, my lovely wife, who's assimilated a lot of knowledge about trading through osmosis, came out with a startling statement regarding luck. We were discussing her illness when she blurted out, "You know, luck is a zero sum game." She made that profound statement at a time when I was vulnerable, and it got my mind spinning. I started to revisit a few thoughts about luck, and the meaning of luck. For simplicity's sake, I decided to define luck as a positive outcome to an event, random or otherwise, and bad luck as the opposite. I saw that my wife had a good point, provided that luck exists in the first place. She went on discussing that rain might cause good luck for the farmer while at the same time cause bad luck for the concert promoter who's outdoor concert was rained out. She gave about 10 more like examples of good luck/bad luck, and they all ended up having a zero sum, canceling each other out. However, I brought up the concept where one might have good luck, and the opposing party did not have bad luck, or merely had a case of lesser good luck. I mentioned a poker table where there was one big winner, four smaller winners, and one loser. I revisited the rain being good for the farmer, but too much rain might be bad. My lovely wife brilliantly speculated that there might be a big clearing house somewhere in the universe that dealt with luck, transferring the luck to the clearing house and doling the good and bad to random parties. A cosmic Karmic clearing house, so to speak. The clearing house analogy got to me, as I didn't even know that she knew what the function of an exchange clearing house was. All of this philosophical discussion finally got to her, tired her out, and she finally had to get some needed rest. Meanwhile, I was left with something very insightful to ponder, that zero sum concept of luck. In my usual attempt at avoidance and to remain dispassionate, I got back to my sugar position. Someday, I better find that old journal and revisit that proof.

Kim Zussman cautions:

We attempt to apply Statistics to markets because we see an analogy between markets and gambling. You bet when the deck is rich; count the cards and you will know.

But what if the dealer of the markets:

1. Shuffles under the table or may not shuffle - you cannot know (without inside info)

2. Might be using more than one deck

3. Sometimes uses a deck which favors your opponents

4. Usually favors you but occasionally ruins you

5. Knows that you need the action and abuses this knowledge

6. Knows that you will exploit your knowledge of him to others, especially the weak, ignorant, and women

Henry Gifford writes:

Simple proof that luck doesn't exist: You can't measure it. 

J.T. Holley adds:

The key to quantifying luck is (to paraphrase Thomas Jefferson) "the harder I work, the luckier I get".

If I was going to quantify luck this is where I would start going forward.

Those that have windfall luck from pure chance without doing anything usually lose the benefit within a short time it seems to me. Those on the other hand that receive a windfall from hard/smart work usually compound it from that point.

Vince Fulco agrees:

In his latest book, GM Gary Kasparov harps on this point.

"One interesting, and humbling thing I've noticed while analyzing my own games for publication is how poor some of the ideas I prepared really were…Only a fraction of these ideas every saw the light of day, either because my opponent didn't fall into my trap or because I found a better variation to play. Now I see that in many cases that was not a bad thing….This kind of preparation served me well in a way I never quite appreciated while I was working on it with such determination. These periods of intense preparation were rewarded with good results–even when I didn't end up utilizing the fruits of my labors. There was an almost mystical correlation between work and achievement, with no direct tie between them.

There is also a practical benefit to "wasted" effort. Work leads to knowledge, and knowledge is never wasted…"

Adam Robinson adds:

This sentiment echoes that of another strategist, General Eisenhower: "In preparing for battle I have found that plans are useless, but planning is indispensable."

Perhaps Kasparov romanticizes, however, in the "mystical" lack of correlation between his preparation and his later results. Surely having immersed himself in a position or a variation for some hard thinking, even though over the board he played "something different," he subconconsciously gained insights that facilitated his over-the-board analysis.

Writers experience this phenomenon all the time. You write something, read it over, and then scrap it and write something "completely different" that you realize now was what you meant to say all along. But you couldn't have gotten to that insight without first going down the "blind alley." I once scrapped an entire book manuscript and rewrote it from scratch for the same reason.

Alan Millhone relates it to checkers and stocks:

The late Checker World Champion, Tom Wiswell,  once told me to always make your best move in a game and never assume your opponent will make anything but their best move each time it is their turn. Play for superior position in your game. Luck comes to those who are well prepared.

Being prepared in the Market would be no exception. In Checkers I study past games of top players, keep a hand written manuscript , have a large Checker library for reference. Luck is when preparation meets opportunity.

In the Market one has to know your stock in every detail to make effective trades (like good moves in a Checker game).

The late and great Vince Lombardi said it best, " Luck is the residue of preparation ".

Sam Marx makes a distinction:

I will have to admit that my two most profitable moves in my lifetime were in investments and they were because of luck, also they were relatively cheap and I held them for a long time.

My success in trading, however, was not luck but based almost entirely on probabilities.

Investments vs. Trading. Perhaps luck plays a greater part with investments than trading and we should make that distinction.




 Going to the cinema is pretty expensive these days, with cinema tickets in the UK typically costing £7.50 (around $15). I'm sure ticket prices have outpaced inflation, but perhaps I'm just turning into an old curmudgeon.

Anyway, after a run of bad films I started recording some of the oldies that are shown on TV as time fillers in the early hours. I was pleasantly surprised.

Here are my favourites:

The Big Heat (1953) — Has a beautiful art deco flavour, is very crisp and fresh in its filming (even though it's in black and white), and is very fast paced with top quality acting throughout (this film introduced me to the great Lee Marvin).

Becket (1964) - Features Richard Burton as Becket and Peter O'Toole as an wonderfully intense, unconstrained and maniacal King Henry. Watch this to see two great actors in their prime.

Favourite quote from Becket: Thomas a Becket: Tonight you can do me the honor of christening my forks. King Henry II: Forks? Thomas a Becket: Yes, from Florence. New little invention. It's for pronging meat and carrying it to the mouth. It saves you dirtying your fingers. King Henry II: But then you dirty the fork. Thomas a Becket: Yes, but it's washable. King Henry II: So are your fingers. I don't see the point.

The Treasure of the Sierra Madre (1948) - A Bogart classic. The story of a small group of men who go up in to the hills in search of gold.

A quote from the film: Howard: Aah, gold's a devilish sort of thing, anyway. You start out, you tell yourself you'll be satisfied with 25,000 handsome smackers worth of it. So help me, Lord, and cross my heart. Fine resolution. After months of sweatin' yourself dizzy, and growin' short on provisions, and findin' nothin', you finally come down to 15,000, then ten. Finally, you say, "Lord, let me just find $5,000 worth and I'll never ask for anythin' more the rest of my life." Flophouse Bum: $5,000 is a lot of money. Howard: Yeah, here in this joint it seems like a lot. But I tell you, if you was to make a real strike, you couldn't be dragged away. Not even the threat of miserable death would keep you from trying to add 10,000 more. Ten, you'd want to get twenty-five; twenty-five you'd want to get fifty; fifty, a hundred. Like roulette. One more turn, you know. Always one more.

Adam Robinson hastens to add:

If we're talking Becket we can't leave out the magisterial Man for All Seasons.

For comedy selections, The In Laws (original Peter Falk version) easily ranks in any critic's top 10 comedies.

For readers of Vic and Laurel's web site, I also highly recommend the hard-to-find The Wrong Box, which features every major British comedian in an "economic lottery" theme (I don't want to give anything away), and also the 1960's period piece, The Magic Christian (written by Terry Southern of Dr. Strangelove, Easy Rider, Cinciannti Kid, Barbarella fame) in which Peter Sellars stars as the world's richest man who adopts Ringo Starr (!!) as his son. Quirky, but written by a comic legend, and there are terrific economic gags. 



As Ouspensky argued well (nearly a century ago) in Tertium Organum (following Kant), our concepts of time and space are human constructs based on our conscious experience as members of the human species, and there is no reason to think they have a basis in reality outside that perspective. Laurence Glazier.

It is naive to believe human concepts are merely arbitrary constructs. Oliver Wendell Holmes drew the distinction between the (simplistic) simplicity on this side of complexity, and the (enlightened) simplicity that emerges on the far side of complexity.

The child believes that things are as they appear. The philosopher doubts that things are as they appear. But perhaps, at a more enlightened level still, the child was correct and things are indeed as they appear. (Perhaps as Samuel Johnson, when he could no longer tolerate the "ingenious sophistry" of philosopher Berkeley's "proof" that matter does not exist, said: "I refute it thus" and kicked his foot on a large stone.)

The belief that space and time are arbitrary constructs is, alas, an insight on the wrong side of complexity. Of course they are arbitrary constructs. So are numbers and mathematics, for that matter.

These are 18th and 19th century insights, and far from the final word. The truly miraculous thing, as Einstein always marveled, is that by manipulating these "arbitrary constructs," we can, astoundingly, make accurate predictions and create real changes in the world.

James Clerk Maxwell envisioned electromagnetism as having hydrodynamic properties, and based on this–as it turns out–false model, derived equations that worked.

So if man-made concepts (as if there were any other kind) are merely arbitrary, how then do we explain the miracle that these constructs enable us to do things in the real world?

I liked Larry's point about Ouspensky's never having traded. There's a great chess quote from Emanuel Lasker he reminded me of:

"On the chessboard, lies and hypocrisy do not survive long. The creative combination lays bare the presumption of a lie; the merciless fact, culminating in checkmate, contradicts the hypocrite."

Nothing like the real world of trading to expose, in the long run at least, the weaknesses in one's thinking.



 Victor and Laurel have suggested that a fruitful area for market research may lie in replicating the methods of Brahe and Kepler. Brahe scrupulously gathered very precise data though years of observations. It was left to Kepler, his student, to develop the first model. Kepler first identified planetary orbits as elliptical.

Suppose we have two planetary bodies with periods P1 and P2 respectively. A quick review of Kepler's Laws reminds us that his third law is as follows:

P1^2 / P2^2 = R1^3 / R2^3

where R1 and R2 are the semi major axes of the two bodies. It is interesting to note that there are no linear terms in the above relationship. It can be read as the ratio of the squares of the periods are equal to the ratio of the cubes of the axes.

In the markets we know that the Efficient Market Hypothesis tells us that the market price change today should have no linear correlation with the price change tomorrow. Empirically this seems to be true most of the time for most markets. However a strict interpretation of EMH says nothing about the existence of non-linear relationships.

In particular when we evaluate the squares of changes we find they are significantly correlated. The same holds for the cubes at similar lags. It is left as an exercise for the reader to calculate the magnitude and direction of such correlations. So at first blush there may be an application for Kepler's third law in the markets.

In order to see if there is any similar Keplerian relationship in daily price series the data from the table on page 121 of Education of a Speculator hardback was studied. Using the midpoints of the classes in the table the model used only the squares and cubes of change to predict the next days performance. It turns out that the fit is statistically significant. Notably there is no linear term in the model. Checking whether a linear term would help, the data showed that it would not be helpful. Although the regression model was statistically significant it was based on out of date data and would have to be redone with current data.

Michael Cook remarks:

Kepler was not a student of Brahe; he came to Brahe's observatory because Brahe had good data, continuous night by night observations of the planets. Kepler was desperate to prove that the orbits of the planets were circles, because the circle is the perfect shape, consistent with the beauty of the divine Mind. He decided to work on Mars because it seemed to be closest. After much work he realized the ellipse was a better fit. His comment: "I set out to show that the universe was based on the eternal harmony of the spheres. Instead I showed that it rests on a carthill of dung [the ellipse]."

The other beautiful law of Kepler's is that the planets sweep out equal areas in equal times.
It is also significant that all of his laws can be deduced mathematically from the inverse square law of gravitation.

Adam Robinson replies:

As I'm sure Dr. Cook realizes, the point was that the law of gravitation can be deduced from Kepler's laws, as indeed Robert Hooke (whose insights into force and inverse square relationships were at least contemporaneous with Newton's) was able to do.  Newton's genius (in that regard, there were many instances of course) was in showing the equivalence of the acceleration of a falling object with the acceleration of an object in orbit.

Newton, in other words, gave the relationships a theoretic underpinning (until then Hooke's insights, along with Kepler's, were mere "curve fitting," in the literal sense of the phrase!), just as Einstein did, since numerous scientists at the time (Poincare for one) had come to similar conclusions (e.g., the Lorentz contraction), but lacked any overarching theory to explain why such phenomena had to occur.

Dr. Cook's quotation of Kepler also reveals the extent to which aesthetics can hinder the progress of theory as much as promote it.

Michael Cook responds:

Actually, I am not aware of any derivation of the inverse square law from Kepler's laws. I believe Hooke claimed to derive Kepler's laws from an inverse square law, which resulted in Newton's publishing his proof of the result. Hooke never published an actual proof — it's hard to do without calculus. Feynmann has a paper in which he does so, which I don't think he would have published it if it were already in the literature. 

It is incorrect to say the law of gravitation can be deduced from Kepler's laws — Kepler's laws are descriptive, and don't by themselves imply any causal mechanism.

Adam Robinson replies:

I refer Dr. Cook to the letters between Hooke and Newton; there was much controversy between the two about who had which insights, when. Hooke's insight was more of a conjecture, not a formal "derivation" as such. Not surprisingly, of course, since Hooke's inverse square law with springs contains a surprising analogue with gravitation.

Kim Zussman writes:

Jim SimonsA recent Bloomberg article on Jim Simons of RenTech mentions sunspots and markets, so along with Kepler's dung [see Dr. Cook's remarks above] this must explain the beauty of markets.

Recall that sunspots (which have been observed and recorded since well before Galileo) are magnetic storms on the sun, which appear dark in contrast to the photosphere because (though they are hot) they are relatively cooler.  And to the extent that there may be related effects on solar wind (solar ions flowing past the earth), radiation levels, and earth's ionosphere, and radio/satellite communications, here is a study.

Monthly average sunspot count (American, of course) 1944-2007 is available from the National Geophysical Data Center:

Regression of SP500 monthly index return vs. monthly avg sunspot count (1950-Oct 07) shows almost significant negative correlation (P=0.07):

Regression Analysis: SP CHG versus SPOT AV

The regression equation is
SP CHG = 0.0110 - 0.000052 SPOT AV

Predictor         Coef     SE Coef      T      P
Constant      0.010961    0.002534   4.33  0.000
SPOT AV      -0.0000518   0.000029  -1.79  0.074

S = 0.0405916   R-Sq = 0.5%   R-Sq(adj) = 0.3%

Analysis of Variance

Source           DF        SS        MS     F      P
Regression        1  0.005288  0.005288  3.21  0.074
Residual Error  691  1.138548  0.001648
Total           692  1.143836

Here is a plot of monthly avg sunspots vs date, which clearly shows the 11 year solar cycle. Note that we now near a minimum (good for stocks), and regardless of Fed actions relative to the housing market, explains the recent 5 year bull market (OK the last sunspot maximum was Sept 2001, so the prediction was off by about 1.5 yr).

Eric Falkenstein remarks:

One of the keys of finance is the implication that arbitrage implies that pricing is linear in 'risk', or whatever is priced. Otherwise, you could generate arbitrage by buying bulk and selling little bits, or vice versa. It is intriguing to think that there are nonlinear relations in markets, but these necessarily imply profits, so, to the degree they exist, they must not be too obvious (please email me the exceptions!).



Reading this NBER paper made me think of possible applications in the psychology of stock selection.

Early voters hold most power in primaries, say Brown economists

Summary: Two Brown University economists have, for the first time, quantified the substantial effects of winning early in the race for the presidential nomination. In a National Bureau of Economic Research working paper, Brian Knight and graduate student Nathan Schiff demonstrate that voters in early primary states such as Iowa and New Hampshire have up to 20 times the influence of voters in later states in the selection of candidates.



Had J.R.R. Tolkien applied his talents to Middle America instead of Middle Earth, the result would have been akin to Satan's Bushel, Garet Garrett's 1923 novel, available as a 212 page pdf. Literally beautiful in its language, yet deadly accurate in its particulars, the work is a mystic's perspective on farming and speculation, on death and eternal love. It is worth reading for both its prose and its surprisingly relevant take on markets.

Adam Robinson adds:

FarmingFor those who want to read an uproariously entertaining book on the economics of becoming a farmer, I can't recommend The Farming Game, by Bryan Jones, highly enough.

Imagine Mark Twain giving advice to a city slicker (Green Acres is the place to be) who dreamed of becoming a farmer, and you'll have an idea of the book's appeal. Acute economic sensibility combined with trenchant wisdom.

There are only two copies of this overlooked classic left in stock at Amazon before they reorder (owing to slow sales, alas). You'll thank me later, and I can promise that if you start reading it over a weekend, you won't stop.

David Lamb interjects:

In the book "Satan's Bushel" is found a snippet on page 123 about
the dreaded financial life of a wheat farmer. Here is the quote:

The farmer was one who paid.The farmer certainly paid.
Everyone who touched him made him pay. What he sold he sold on the
buyer's terms. What he bought he bought on the seller's terms. One in
that situation was bound to be exploited.

In essence, the farmer takes the brunt end of the financial side of
the wheat business. My grandfather farmed wheat. He was always
complaining about everyone taking advantage of him; how he never got a
good enough price; how the prices of equipment are too high, etc. I
grew up thinking two things about this industry: One, I wanted no part
of it and, two that farmers were always poor and there was no way
around that.Then a few years later in life I came across the futures
markets wherein I found out about hedging. I am perplexed why more
farmers don't utilize the futures markets to hedge and, therefore,
protect themselves more. I am very naive and ignorant in this field but
I have included some numbers from the Census of Agriculture data that I
would like to understand. The latest year of available data is 2002.

Number of wheat farms: 169,528 Total number of acres: 45,519,976 Total number of bushels: 1,577,005,140

If one CBOT wheat contract is 5,000 bushels then the total number of
possible short contracts given the number of bushels yielded is
315,401.The average weekly COT data, on the short commercial side, for
the whole of 2002 was 59,996 short contracts. If these were held by
farmers, which I think we can assume so, then the number of bushels
being hedged is roughly 300,000,000, or 19%.If this 19% number is even
remotely close, why aren't more farmers using the futures markets?

Alex Ceresian attempts a reply:

Keep in mind that hedging with futures only protects the farmer from a small portion of the risks the farmer faces.

Futures protect against "price risk", the risk from fluctuations in the market price of wheat.

The farmer also faces "quantity risk", that is uncertainty about the
amount of wheat he will be able to produce. You plant X bushels of corn
but because of umpteen different reasons (mistakes on your part, bad
weather in your local area, pests) you only manage to produce Y<X
bushels. Futures don't help with this risk (and you cannot insure either).

Even worse, the two risks interact and complicate things. If you don't
know how many bushels you are going to produce, how many contracts
should you sell (for price hedging purposes) on the CBOT?



 To paraphrase from an interesting article, the jelly bean in a jar experiment and predictive markets prove that the power of the crowd will beat even the experts, hence the markets generally are efficient. The exception is when the experts are given too much air time biasing the crowds opinion distorting the cancellation of error in divergent opinions.

Two things this teaches:

1. We should value all opinions
2. The more we know the humbler we should be to this

Adam Robinson contends: 

With respect to the esteemed Mr. Sears, guessing stock prices is nothing like guessing jelly beans.

In the first place, there's a risk associated with markets that does not exist with jelly beans. But more important, in markets the "guesses" of participants influence each other, with all sorts of feedback loops that do not exist at state fairs guessing jelly beans.

It would be interesting to see whether this second factor can be tested in the field: run the counting contest but post each of the guesses, in ranked order, along with high guess, low guess, median guess, average guess for easy overview, and see whether that information influences participants' guesses (for comparison, two groups could be tested, one with access to the information and one without).

A prize and a penalty could also be attached to guesses, and for a further dimension, see whether and how much participants would be willing to have access to the "market" information. 

Russell Sears notes: 

The predictive markets (the markets that predict things like election results, winners of Oscars, etc) do run very close to the proposed modification of the jelly bean test, with the added bonus that the "bettor" must be willing to lose and hence think he has an edge, like the stock markets.

One example is of a multiple choice of one out of four listing of the one not being in the old music group The Monkees. If 7% know all, 5% know two, and 5% know one, and rest don’t have a clue. With all votes random, besides the choices eliminated due to knowledge, it takes a fairly small number of players to get it right. This would work even if the "expert" did not have perfect knowledge, such as the Oscars, or the stock market. 



 For those interested in an overview of the process of mastery, I'd recommend The Cambridge Handbook of Expertise and Expert Performance, edited by Ericsson, and also his earlier work, The Road To Excellence: The Acquisition of Expert Performance in the Arts and Sciences, Sports, and Games.

Also worth reading, in summary form, is the overview of Mihaly Csikszentmihalyi's Flow: The Psychology of Optimal Experience. I say summary form because the book contains a handful of ideas that could have been more concisely expounded in an article. A major problem with the book is the lack of showing how to acquire the flow state, so the book is merely descriptive of the state, not a manual on how to achieve it (though still worth musing).

Finally, "mastery" is surely a misnomer since it implies one has reached some final state. To quote Bohr, one has already made "all the mistakes there are to be made" in the field.

In keeping with Vic's continual reminders about humility, I often think of the famous director Akira Kurosawa, one of the giants, who, when accepting an honorary Oscar for lifetime achievement at the age of 80 said that he would not accept the award for lifetime achievement, but rather for future work, because he felt he was only just beginning to master his craft. 

Henry Carstens adds:

Five Principles for Growth is an interesting article on this subject, as is the book by Josh Waitzkin, The Art of Learning.



 I have heard discussion lately about the market shaking out weak positions on a decline, but I think that the whole concept of "shaking out" weak longs is, on its face, silly.

Let's say, for the sake of argument, the DOW is at 1500. That 1500 is made up of the shares outstanding of the Dow, times the prices per share.

So, the Dow falls to, say 1490. What has happened at an underlying basis is that net money has been pulled out of Dow component stocks.

Then, say it quickly bounces up to 1500. What does that represent? Net money flowing into Dow stocks.

The pundits will say that there was a "shakeout of the weak longs" on the drop, which somehow makes the market go up under some sort "a chain is only as strong as its weakest link" theory.

But what really happened? The same amount of money that flowed out flowed back in.

How can we possibly interpret what that means? Was the money that flowed out weak money, with the money that flowed back in "strong"? How is a guy that wouldn't buy at 1501 a "strong" sort of bull if he buys at 1499?

I don't buy it.

Charles Pennington replies: 

The only rigorous thing we can say about a 10-point down move followed by a 10-point recovery is that the magnitudes of the two changes in market capitalization are equal.

That doesn't preclude the idea that the down move might have been from something like forced selling due to margin concerns, or as one might put it, the sellout of the "weak longs". It's not silly to talk about weak longs; their selling could be different. It would be by definition hurried, and not reflecting the sellers' opinion of the market.

One could also speculate that once these margined-up traders have sold, they won't be selling again, and that that's bullish.

That may or not be correct, but it's not a silly idea.

James Sogi comments:

The market can drop like the breathtaking morning and midday airdrops Wednesday when buyers pull bids reducing liquidity. An example is when price skips over a price tick down when all the bids are pulled or the spread becomes .5. Here is a situation where no money is changing hands but price drops not due to selling pressure, but due to lack of a bid and Globex moving the inside market.

There is no "money flow", rather there is drying up of liquidity. This can be quantified rigorously in microstructure. This is the third and fourth dimensions behind most screens. The afternoon runs back up were even more violent and sudden than the drops, which had a measured quality to them except as it culminated.

It is ironic and a consummation of recent moves that after all the fireworks today we are just above where we were last night. 

Adam Robinson writes:

I understand the point Prof. Pennington is making about weak and strong longs, and while it may be useful as an explanatory or thinking construct for interpreting market action — I use it myself to distinguish the "strength" of conviction" (largely a function of capitalization, of course), I don't see how this notion has any predictive value.

More fundamentally, on reflection, the entire notion of weak vs. strong (as well as the notion of "smart money") seems suspect even as a construct.

Let's agree, arguendo, that a weak long is a trader less able or less willing (than a strong long) to tolerate adverse movements or adverse "noise" (i.e., random fluctuations against his position). (By the way, the notion of "noise" itself in trading is problematic since the analog, carried over from information theory, assumes the existence of a "true signal". That is to say, you can't have noise without having communication, just as you can't have dirt without having an underlying system in which the matter is considered dirt.) To return, let's say that the market moves against our "weak long" and he sells. He is forehead-slapping "weak" only if the market moves up shortly after he sells.

But if the market continues down, our bull was lucky he was weak. Had he been stronger and the market decline more protracted or precipitous, he'd have endured more pain before ultimately abandoning his position.

But even more fundamentally, these distinctions also confound process and outcome by ignoring the impact of random fluctuations (i.e., luck).

A speculator can analyze the market as "correctly" as his insights and statistics allow, put on a position, and yet the trade can be a loss.

More simply put, a "correct process" does not always guarantee a favorable outcome, owing to the intervention of luck — at least in the short run. In the long run, the correct process should prevail (although even that may be tautology).

As Damon Runyon said, "The race is not always to the swift, nor battle to the strong — but that's the way to bet." 

Ronald Weber adds:

Why don't we just call them margin-long and cash-long instead of weak/strong long, then everyone would be happy!

The fact that many names ended well off their lows could indicate that the shorts are "weak" (or "timid") and eager to close their positions, or that the margin-longs have been taken on a ride! We'll see…



About two years ago, Vic and Laurel discussed control charts. I use a similar concept by tracking the drawdowns of various trading strategies. If a strategy is working well, there will be drawdowns, but the drawdown amount will repeatedly return to zero as profits exceed losses. Conversely, if a strategy is losing, the drawdowns will get further and further away from zero. Thus, a drawdown that exceeds a preset threshold or fails to return to zero for an extended number of trades might indicate that the cycle has changed.

Andrew Moe adds:

Improvements to control charts can be made by upgrading the fixed window look-backs to exponential or DSP style windows (see Ehlers, Jurik, et al). Information theorists will find additional gain via the use of fast-responding windows on the entropy. These methods are used to turn various strategies, traders, and funds on and off. I particularly like Mr. Ellison's idea of return to even from the max vis-à-vis survival statistics as traders tend to get paid on making all-time highs, and the distance and journey between tell much about the method.

Vincent Andres writes:

Cycle changes are not directly viewable. Hence we're often trapped.

I believe cycle changes are only viewable in some slightly more indirect universe of parameters. Don't look at prices or first differences of prices.

Cycle changes are of course written in them, but a bit too deeply to be seen just on the surface (price). We must go one (or more) levels downstairs. We have to search/compute indirect/deep parameters from the prices.

Plotting those deeper parameters will of course show deeper things. Just as using a microscope or X-Rays. Some parameters we may consider:

1. Correlations (in many ways)
2. Regression coefficients
3. Lags
4. Price distribution parameters

Scatter-plots may also be of interest. Points clusters may correspond to regimes.

Vic and Laurel recently had an interesting post about ordering/ranking. In a general sense, rank measures can be used in many ways — what's the cluster of the leading horses, and is it changing?

A great part of physics is simply building measurement tools. Then using them. Is market physics so different from other physics?

Adam Robinson explains:

Vincent's insights answer his own query, for the difference is fundamental and ineradicable.

In the physical world, phenomena consist of relations among unvarying "observables", and even at the quantum level, observing those phenomena offer us at worst a position vs. momentum tradeoff. Light quanta might shift a subatomic particle we have in our sights, but they don't usually change the particle.

With markets, once one or more traders observes a phenomenon (e.g., equity markets are rising as the yen falls, whatever — even spurious correlations) they begin to trade/arbitrage away the phenomenon so that it diminishes or even disappears entirely.

Hence ever-changing cycles that vex and humble us.



 Muir Woods is 500 acres of coastal redwood forest, twelve miles north of San Francisco, and is a setting that is relatively unchanged over the last 50 million years. The trees in Muir Woods are the oldest living things on earth, and having visited the woods recently I have been thinking of what lessons they might hold for markets and for life. My thoughts on the subject have been helped by reading the following books: Muir Woods by James Morley, Life in an Old Growth Forest by Valerie Rapp, Trees by Roland Ennos.

Lesson One: While from a distance, all the trees look very similar, up close they are each different, showing the effects of fires, exposure to light, roots damaged or spared by floods, wind, storms, landslides, disease, and predation from insects. Many of the current trees have lived since the times of the Vikings. If only the trees could tell their story of what they have seen and witnessed, and what adaptations they have had to make to prosper, we could learn so much about the past present and future.

Looking at an individual stock or a market at a point in time, without regard to the major events that have shaped it leaves much information out of the mix that could be used to project the future.

Lesson Two: The forest thrives and benefits after many seemingly disastrous events. Fires clear the underbrush. Dead trees still standing provide cover for much flora and fauna. Trees contain so much water that there is still much biomass left when they die, and they contain the nutrients and moisture that other plants or fungi need for survival. This situation is called a biological legacy by the scientists, but is just known as a gift by the laymen.

The number of, the amount of time in between, and the extent of watershed declines that the market has witnessed in the last year, as well as the resilience of the market to these declines, is a good measure of the health of a system. It is often good for future growth, to see decimated parts of the market landscape, such as the US real estate sector which has currently taken it on the chin, or the Saudi Arabian market that is down 75%.

Lesson Three: A strong root structure is key. The roots of the redwood trees often stretch horizontally 30 yards from the center of the tree, and they can be as much as one foot in diameter. They mix with the roots of neighboring trees which provides greater strength to all. Seedlings also sprout from the roots, so the same sources are used for multiple outputs. If the tree is unfortunate enough to die, the roots can produce more trees of the same genetic material. The roots of the redwood tree are remarkable in that they are not deep, but they stretch so far horizontally, allowing the tree to grow in different conditions.

The importance of roots to the coastal redwoods leads me to consider the functions of the roots of a company — the sources of capital necessary to build its infrastructure. The money reaches the various divisions of the company and is turned into profits which are then circulated back to the trunk.

Lesson Four: Being tall keeps out competition and gets more light. The choice that a tree makes to invest its energy in upwards growth, and raise its canopy above that of its competitors, is apparently a very successful one in nature, because the different genera of trees, cones,cycloids, hardwoods, have all come to it independently. The redwood trees are able to reach the sun above any competition, and they are able to shade out and prevent any other trees that need sun for growth.

The big companies, those that say have a share price above $100, or a market value above 25 billion, have an advantage over the smaller ones. They are not as subject to dying, yet they have the ability to shed many older divisions to help their earnings statements along. They also do not have to worry as much about random shocks from the environment that might level smaller companies.

I hypothesize that the returns of companies that have a price above $100 is higher than the returns from average companies, and that their volatility is less. Also, that markets at higher levels are less volatile than those at lower levels.

Lesson Five: Trees depend on other flora and fauna.The diversity of the flora that help the basic functions of the tree provides resilience in case of disaster. The ground of Muir Woods is covered by sorrel which retains the moisture and nutrients necessary for the redwoods to grow during the dry summers. The roots of the tree are dependent on lichens that help them get water and nitrogen. Mites helps to recycle a fallen tree by eating the rotting wood, and chewing the litter that falls on the forest floor, and voles living in the canopy spread the fungi that the trees need for survival.

The health of a individual market or stock component, like GE, is dependent on the health of its environment. The healthiest market environments are those that have witnessed many varieties of stress and strain, and exposures to good and bad news.

Conclusion: There are many other lessons that I have learned from Muir Woods, like building a strong bark resistant to insects rather than growing leaves immediately, shading out your competitors, thinking long term, sending your leaves out on strong branches, and changing with the seasons. I can think of no better place in the world than Muir Woods to visit with a view to improving the quality of one's trading or living.

Charles Sorkin writes:

The slopes of White Mountain Peak are home to the ancient bristlecone pine forest, which contains the oldest living things on earth. Such trees are perhaps the reductio ad absurdum of adaptation, making do with diminished oxygen, extremely harsh weather, few nutrients, and highly alkaline rock/soil matrix in which to sink modest roots. The Methuselah of this grove is in excess of 4000 years old, and I'm sure they offer their own lessons. 

Bill Rafter adds: 

Redwoods need an exceptional amount of water to prosper. The rainfall in northern California is not always up to that requirement. However the height of the redwood comes to the rescue. Moisture in the atmosphere collects on the high leaves and the tree creates its own rainfall. 

Steve Ellison notes: 

Cook, Sillett, Jennings, and Davis, writing in Nature in 2004, estimated the maximum feasible height of a tree at about 130 meters (the tallest redwood is about 112 meters). "As trees grow taller, increasing leaf water stress due to gravity and path length resistance may ultimately limit leaf expansion and photosynthesis".

Adam Robinson adds: 

Those interested in the seminal work on Chair's musings might want to pursue Thompson's On Growth and Form, written nearly a century ago, I believe the first attempt to analyze biological phenomena quantitatively.

Also, re: Chair's Lesson 2 on resilience of a system, one of the ironies forest rangers learned was that their attempts to put out any and all forest fires resulted in a huge buildup of flammable undergrowth, so that the inevitable fires, when they finally occurred, were uncontrollable conflagrations. A sobering thought for the Fed and other market interventionists.

Which thought reminds me, apropos of Chair's point on the cataclysmic decline in the Saudi market, the Saudi market, perhaps for religious reasons, lacks mechanisms for short selling (I believe), so that market lacks the ability to "incorporate" divergent opinion, so the inevitable buildup of selling pressures, when finally vented, is massive and uncontrollable. 

Steve Ellison remarks:

Adam makes an excellent point that one should keep in mind the next time the Challenger, Gray, and Christmas layoff report is in the news. The process of decomposition, the breaking apart of complex organisms into simple components that can be used by other organisms, is very important in biology. Similarly, business failures and layoffs move people from performing work that customers or employers do not want to activities that add more value. 

James Sogi writes: 

Today's quiet market at recent highs are like the lofty tree tops of the forest. The tree tops seem to know where the top levels are and it takes some extra energy and exposure to extra risk to break above the tree tops. The boughs and branches are slender and sway up there.

Sept CME SP Futures

The quiet growth pushed upwards to make new incremental highs and an incremental daily gain. As with trees and plants, the upward growth of markets is always incremental, but steady. The rate of growth varies with the climate, the weather and season. The transactions approaching the top are always a good study of dynamics. There are many buys at the very top, hopeful buyers either hoping for the breakout, or seeing the new high as a sign of further gains.

These buyers have been rewarded in the past few years of benign climate, good weather, and rich soils. As with slender reeds, rapid growth is not sturdy and might suffer damage, breakage, wind, insects. Sometimes the boughs break, but with a strong organism, the branches grow back. The gains seem stronger and more protected when supported by steady and sold growth rather than thin shoots shooting upward.

Study of the rings in old trees can give much information about weather patterns in past years and relate to tree growth. It is a worthwhile study. The strongest moves in the market seem to be the steady marches upward, grinding, growing slowly but steadily upward. Even bamboo can crack through the strongest concrete. It’s hard to believe how tall the redwoods can grow. My friend has tree climbers, and we go up trees on these ropes. It feels pretty high up there, but is actually safe. We usually don't go out on limbs.

In the markets, as in the wild, it is always good to see the forest, not just the trees.

Russell Sears writes: 

The giant trees are made of mostly dead wood in the center. The incredible heavy lifting of water is even more amazing when you consider, it is just the outer layer, just under the bark. The efficiency and simplicity is reminiscent of the invisible hand of the market. The part that is growing or expanding sustains the whole tree while the dead wood just lends support. 



One interesting result that may mess up a lot of thinking about the relationship between bias and stake is that whereas many relatively small horse betting markets display a favorite-longshot bias, the biggest of them all in terms of pool sizes, Hong Kong, does not — and it once had a reverse bias (favorites were over-backed relative to longshots), but this disappeared in around 1990.

I suspect, and hope to demonstrate sooner rather than later, that this bias is due not to psychology, but to information asymmetry. I have already found (with Barbara Luppi) that Hong Kong bettors do display loss aversion. Now since there is no favorite-longshot bias, the latter can't be due to prospect theory or other such behavioral mess-ups.

Adam Robinson remarks:

Size of stake is relative. It is "in the eyes of the investor." A wealthy individual may view a $1m stake as small, whereas a middle-class investor might view the same stake as enormous.

As described in Fortune's Formula, large, "scientific" gambling syndicates migrated to Hong Kong because of the larger pool of money available, which may at least partially account for persistent anomalies being rigorously exploited away.

Adi Schnytzer replies:

The syndicates have removed the reverse favorite-longshot bias, but are even more loss averse than the regular outsiders!



"Clearly the weight gain did not come from the exercise variable, but a 'missing' one (missing from the fridge)."

The reduction in calories from the fridge was the major variable causing the weight loss but for statistical purposes would there not be more correlation with the exercise variable if the number of calories burned during the time exercised were known? And might the correlations vary at each date in the time series?

And how would you account for the physiological changes due to exercise that caused you to become a more efficient calorie burning machine in your off-exercise time?

The statistics involved in weight loss in a complex, ever-changing organism seem quite daunting. Here for example is a recent study considering why lower caloric diets don't always have as strong an effect on overweight patients. 

Adam Robinson adds: 

Pitt raises an interesting point on systems thinking and caloric restriction.

It's well known that reducing calories induces your body to lower metabolism, counteracting the efficacy of the caloric restriction. An interesting variant is the observation many years ago that low intensity (aerobic) exercise burns more fat than does high intensity (anaerobic) exercise. Hence the "first order" (i.e., mistaken) conclusion that to lose body fat, high intensity exercise is better than low intensity exercise.

However, second order thinking (i.e., looking beyond the obvious) realized that this conclusion ignores, as Pitt points out, what happens the other 23-odd hours of the day and there the advantage goes to high-intensity exercise, which raises the body's metabolism longer throughout the day.

And it also ignores, ironically if you think about elusive mother nature, that because low intensity training burns more fat than does high intensity exercise, low-intensity devotees are quite possibly training their body to store fat to be used during future exercise periods! Again: advantage high-intensity exercise.

No direct applications to trading, but a reminder of the dangers in failing to look beyond one's immediate area of concern and failing to consider feedback loops. 


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