SPY        Up Months in Year
2007       3

2006      10
2005       5
2004       9
2003       8
2002       4
2001       6
2000       3
1999       7
1998       9
1997       9
Average    7

High SPY 3/00  155.75
High SPY 4/07  149.80

SPY high is not too far off. What path to get there?



Here's a technical question for experts on the operation of the NYSE and Amex markets.

For listed stocks with large volume, there is a daily "open" and "close" print at which a large number of shares usually trade. Ideally one can trade with a market-on-open and market-on-close order and avoid paying the bid/ask spread.
However, it seems to me that the open and close crosses have much smaller volumes for ETFs.

I'll compare Newmont Mining (NEM) and a gold stock ETF (GLD). Both are listed on NYSE. Both average about 5 or 6 million shares traded per day.

This morning 101,000 shares of NEM traded at the opening print, and 130,000 traded at yesterday's closing print. GLD, however, had a lot of volume this morning, including pre-market, but there was no obvious opening print. The largest single trade between 9:30am and 9:40am was only a few thousand shares, and that was by no means the first trade.

Are there different rules for ETFs in terms of the open and closing crosses? Is there a way to participate in some kind of crossing trade for ETFs?

David Wren-Hardin explains:

The short answer is, yes, there are opening crosses. The issue as to why a lot of them aren't seemingly efficient as stock crosses is that a lot of ETFs are traded as an arb. If there's a large buy imbalance in the QQQQs, the marketmakers and specialist will simply skew the market to where they can get their futures off to offset the trade and lock in their profit.

Unlike a stock, where the open and closing imbalance can be seen as the market's arriving at a conclusion as to the value of the stock, with an ETF, either the market knows what the value is because of an electronically traded future, or it doesn't, because the value is determined by a basket of stocks. In the first case, someone sending resting opening orders knows he will get a fill away from true value almost by definition. In the second case, the marketmakers and specialists can't figure out what something is worth until the basket of stocks is open, which all have their own opening imbalance games going on.

So in the case of something like GLD, which includes illiquid names with all sorts of late opens, the marketmakers would be fools to lay any sort of tight market. Anyone who traded against them would be doing so because he had a much better idea of where the underlying stocks are going to open.

Charles Pennington responds:

I don't understand the argument. The GLD ETF, as you note, would be the second of your two scenarios. That means there is much uncertainty about where it should open. I add that that's also the case for a regular stock. So what's the difference between an ETF and a stock in this regard?

David Wren-Hardin clarifies:

I was thinking of something like OIH. If there are 500,000 shares to go on the open, how are the marketmakers going to get their hedges off? Typically, they will wait until all the stocks are open, so they know what the value is. Of course, by this point, the world knows what the value is, and there's no longer need for price-discovery, and the customer will get arb'ed against. So if a customer is willing to do that, then he is essentially saying he know more about the opening or the post-opening than is obvious, and the trade will only be a loser for the marketmakers. Maybe he is leaning on the open prints in the underlyings in order to pick off the marketmakers.

The difference is who trades stocks, versus ETFs, or the perception of who trades them. ETFs are driven to a large degree by speculation. People trying to get in and out, people trying to capture an arb. They are often seen by marketmakers as smart money. Stocks, on the other hand, can often be driven by a different type of customer, such as a mutual fund. Their opening or closing order is just seen as a block of stock moving at some easy to mark price where the mutual fund is assured of some level of price-discovery giving them a fair price. Therefore, marketmakers, or even other customers, are more willing to step up and offset the balance.

Charles Pennington replies:

OIH is another example of a very liquid ETF which has very little volume on its open and close. Both OIH (the ETF) and SLB (Schlumberger) trade on average about 10 million in volume per day.

This morning, SLB traded 69,000 on the open, and OIH traded only 10,500. Yesterday SLB traded 36,500 on the close. My source of time and sales doesn't show any obvious large closing trade for OIH.

So there seems to be a big systematic difference.

Another Spec asked me what I meant by "closing cross". Here's my understanding:

One type of order that can be entered for NYSE stocks is a "limit on close". (There are also "market on close" orders.) These orders must be entered before 3:40pm EST, 20 minutes before the closing bell.

All such orders are held until the close. Then the specialist determines at what price the maximum number of orders can be crossed. If I have a limit order to buy at 50, and someone else has a limit order to sell at 49, then our orders might be "crossed" at 49.50. The specialist determines the price at which the cross can take place. Ideally there will be a price such that the buys and sells balance each other, and the specialist doesn't have to get involved in buying/selling. If not, then there is an "order imbalance".

However, NASDAQ over the past few years has added a closing and opening cross for its stocks, and they call it the "closing cross". I've been very satisfied when I've used it.

J.T. Holley notes:

From the AMEX webpage,

Rule 131A-AEMI. Market on Close Policy and Expiration Procedures. The following procedures apply to stocks and closed end funds and do not apply to options or to any security the pricing of which is based on another security or an index (e.g., Exchange Traded Funds or Trust Issued Receipts, securities listed under Section 107 of the Exchange Company Guide, warrants and convertible securities).

Looks like ETFs don't have the applicable MOC trade.

And it seems that they trade till 4:15pm in "broad index" cases.

David Wren-Hardin remarks:

That might be the case for products still listed on the AMEX, but doesn't help you if you're worried about things like the iShares.

There's an informal 4:00 closing price in the SPY for brokers/customers who want to mark their SPY against the 4:00 broad market close, then a formal closing rotation at 4:15.

Kevin Depew adds:

From the iShares Web site:

iShares ETFs are traded like stocks on an exchange where investors buy and sell them just as they would any other publicly traded security. And because iShares ETFs trade like a stock, investors can benefit from features like intraday pricing and trading, the ability to place stop and/or limit orders, and the opportunity to sell iShares ETFs short.

Like other exchange-traded securities, iShares ETFs will trade subject to a bid-ask spread. Spreads may fluctuate in response to supply and demand forces, overall market volatility, and other factors ? in other words, the same factors that influence the prices and spreads of stocks. But unlike stocks, the ETF's creation and redemption process not only helps to minimize the bid-ask spreads, but may also reduce the premiums and discounts that can develop between the iShares ETF market price and the Net Asset Value (NAV).

ETFs are very different from closed-end funds. A closed-end fund's shares are fixed, which is why they frequently trade at a premium or discount to NAV. Although they both trade on an exchange, the ETF shares can be created and redeemed throughout the day.

Also, it's important to get a handle on the composition of ETFs. The Biotech HLDR, with fewer than 20 members, is two-thirds weighted in AMGN and DNA. On the other hand, IBB, with more than 150 members, is only about 12% weighted in AMGN, has no exposure to DNA. That's a significant difference for two funds labeled Biotech.

David Wren-Hardin replies:

Kevin makes a great point. HOLDRS were invented by Merrill Lynch, and unlike other ETFs from the Spyder family (SPY, DIA, XLE, et al.), they never rebalance, and their composition does not change unless a company is taken over or goes bankrupt. That's why AMGN and DNA have taken over the BBH, as opposed to IBB, which is rebalanced from time to time.

In addition, it's more costly to create/redeem out of a HOLDR than a SPY, It costs $10.00 per 100 HOLDRS to create or redeem, That works out to a dime a HOLDR share, a pretty hefty premium. SPY, on the other hand, is a flat $3000.00 charge. The minimum creation unit is 50,000 shares, so that's only six cents, 40% cheaper already. But its $3000,00 for 50,000 or 5,000,000, and at that level the fee becomes a much smaller cost.

Also, HOLDRs pay their dividends straight through. If INTC goes ex-dividend, the owner of the SMH gets the dividend the same day as a regular INTC owner, minus a touch since fees are taken out of the dividend stream. Spyder products and their ilk accumulate the dividends over time, and pay it out quarterly. 

Art Cooper remarks:

An excellent resource is Russell Wild's Exchange Traded Funds for Dummies.  



(BN) Tenet Book Says Cheney Pressed to Pick Iraqi Leaders

The CIA has quietly morphed into an independent rogue agency that sets its own arbitrary rules on who can get away with disclosing what. It is one of the biggest untold stories of modern government. The Plame nonsense gave the most recent glimpse into the CIA's contemporary modus operandi. Langley is kind of like the Catholic Church now, with its own agenda, its factional strife, its hidden puppet strings. Given the fat pipe from Langley to Pinch's shop, it's clear which party they favor.



 I just bought a new car. Cars.com gives good referrals to the Internet sales departments of two or more competing local dealers and gives the dealer invoice price and cost of options. The referrals result in what seem to be the best deals. Having the info about manufacturers' rebates that might be in effect is also very helpful. The sales process was no-nonsense. After choosing the car, the salesman knew I had checked with other dealers and had a prior quote, which he beat. I walked out with a price below what I had expected to pay. In all, it was the least painful way to buy a car. I recommend this to new car buyers.



 I see a drum beat of propaganda about inflation and bonds. This is in conjunction with the need for eternal vigilance against the derivatives. The central banks have such a great foundation and deployment for survival and they must always be vehement in their hatred of the rich and productive. The opportunity to make money by fanning inflation fears and derivatives fears, as well as Iraq, reminds me so much of last April. All I will need is to see is the mavens of the chronic pessimists emerge again on Drudge to know that yet one more abortive squall is hoped for, similar to last year.

But the market, it would seem, never gives it to you twice. The impossibility of getting out of a short this last month with dignity is much more to the point. What does this last desperate attempt to override the 6% differential in favor of equities over stock afford as to opportunity for those who have a grand view?

George Zachar replies:

It is quite consistent to believe that inflation is a problem, that debt is mispriced relative to the erosion of money's purchasing power, and to be constructive on stocks.

You correctly point out the earnings/yield differential between the two asset classes. I would add in the contraction of equity supply due to buy-backs and buy-outs, making for a shrinking universe of stocks relative to swelling money supply.

I am of the non-quantifiable opinion that the willful propaganda here is on the side of the "what inflation?" crowd, trying to wrong-foot folks into sticking with fixed income when stocks are the place to be.



 I am reading the collected short stories of Louis L'Amour and enjoying every minute. It is not well known that L'Amour wrote many adventure stories of faraway lands, not just westerns. One story takes place in the jungles of Borneo. The best so far is The Diamond of Jeru. A legendary bandit has a camp deep in the jungle. Many years before he found a large black diamond. Instead of selling it, he took it down to the village, and showed it to diamond hunters, even tourists, with the promise to take them upriver in his boat and show them the diamond fields where this came from.

His modus operandi: Once he gets them up river, he kidnaps them to his camp, kills them, and keeps their shrunken heads and all their belongings. He and his murderous band have lived on this one diamond for many years. I won't spoil the ending, but one wonders how many bandits are in the world of investing? Are there those holding up one sparkling black diamond, luring tourists with tales of untold wealth up the river to steal their savings and enjoy the sight of another head hanging from the ceiling of their thatched longhouse?



If April closes higher than December's close,
in SP points:

to May close-
Avg 1.8
Count 8
Std 38
t .1
%Pos 63

to June close-
Avg 19.4
Count 8
Std 39.8
t 1.4
%Pos 75

to October close-
Avg 44.6
Count 8
Std 59.4
t 2.1
%Pos 88

to December close-
Avg 96
Count 8
Std 53.7
t 5.1
%Pos 100



It is possible if the stocks making new highs have made big gains. To see why, imagine an equally-weighted index with just two stocks, X and Y. Both start at 100, with the index also at 100. Then both rise to 135, as does the index. Then a nasty correction occurs, knocking both their prices and the index back to 100. Then X's sector falls out of favor, and X struggles to rally back to 108. During the same time, Y's price rises to 200. The result is that the index reaches a new high of 154, even though one of its stocks is 20% off its high.

For the record, 15 of the 30 Dow stocks are up at least 10% over the past year and are within 5% of their 52-week highs

One wonders how 22 stocks of the Dow can be well below their highs, 8 at new highs, and yet the Dow Index is at an all time high. How is this possible?

52-week 52-week       % from  52-week
   Year ago   High     Low   Today   high   change
HON    43.13   55.04   35.53   54.89  -0.3%   27.3%
KO     42.05   52.23   41.61   52.06  -0.3%   23.8%
IBM    83.88  101.70   72.73  101.17  -0.5%   20.6%
XOM    62.42   80.86   56.64   80.36  -0.6%   28.7%
JPM    43.95   53.00   39.33   52.55  -0.8%   19.6%
AXP    53.70   62.74   49.73   62.14  -1.0%   15.7%
MRK    34.60   52.63   32.75   51.86  -1.5%   49.9%
MCD    34.62   49.70   31.73   48.95  -1.5%   41.4%
BA     84.10   95.58   72.13   94.02  -1.6%   11.8%



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

Henrik Andersson suggests:

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



 Here are my 3am can't sleep notes from last night. Does anyone else do this?

Small talk: Non-conceptual conversation. Lack of logical structure makes conversation unpredictable. Low information content. Attitude towards defined by: Approval seeker (enjoys) vs. information seeker (avoids). How does the profit seeker avoid the market's small talk? Can it be defined?

Driving: Audio, visual and tactile information combined with drivers' implicit knowledge of space relationships, acceleration, sound, and sensation combine to make the next moment predictable in most circumstances. Unusual/dangerous circumstances typically create wrong response (overcorrection) in all but professionals.

Test anxiety: A feeling experienced by students who never discover that test-taking is a skill that can be mastered independent of the tests' information content. Extensive drilling with practice questions under realistic circumstances is a potent antidote.

Uninformed trader: Experiences anxiety due to lack of meaningful predictive ability.

Trader anxiety: Believed by uninformed trader to be primary cause of failure.

Conceptual umbrella: Fundamental principles that aid in making connections that can be defined, isolated, and predicted.

Surprise party: The setup for the surprise party is not that different from the criminally-minded ambush. The instantaneous reaction to 'surprise' is a negative/fear response. The relief sensation combines (for some) with the positive emotion that follows to create a more extreme positive feeling. Is price behavior at a new high impacted by how recently a low was made?



 Here's what I've learned through personal experience, from a humbling time spent trying to improve my lap times on a motorcycle.

At 150 mph you're traveling 220 ft per second and things happen extremely fast. If you aren't ready for the next move you'll make a mistake and end up sliding across the pavement. At speed things happen rapidly and are constantly changing. Knowing where you are on the track is important because it determines your course of action. If you don't know where you are, you also don't know what you're supposed to be doing. Reference points guide you through your path.

The best reference points are on the track or very close to it: a patch of asphalt, painted line, or curbing — things that do not move. In order to be useable, your points should be in your line of travel and vision. Points outside of that will cost you attention and focus. At speed you simply do not need to have any such distractions.

It is up to you to choose what reference points to use and what to do once you reach them. Which means you must be a good observer of your own actions to be able to improve. Your choices need to work for you, based on your race lines, strengths, weaknesses. Another rider's points may not work for you, even if that rider is faster.

Reference points must also mean something to you. Every time you come upon it, it should communicate an action or message, such as, 'this is where I begin braking' or 'I should be to the left of this to avoid that bumpy section' or 'here's where I drop a gear and start my turn.' These points are reminders of where you are and the upcoming action to be taken.

I will leave it to the reader to draw his own conclusions and trading analogies.



Can anyone suggest a prime broker for a startup hedge fund with only a few US $m of AUM to start, and a goal of raising US $100m total? It's for an associate of mine who is starting a fund.

They invest in frontier markets such as Cyprus, Mauritius, Romania, Malawi, Nigeria, Uganda, Dubai, Abu Dhabi, Sharjah, Kuwait and Bulgaria. The traditional prime brokers haven't been comfortable with their frontier market focus.

I've heard mention of BoA, UBS, Bear, BNP/Paribas and ING/Furman, and would appreciate readers' advice and suggestions. 



Bernanke has inflation credibility, just not the kind he wants.

One British bank says you can sell a zero-strike floor on US y/y inflation, and buy low yield LIBOR floors at flat or for a small credit. Why do this? "If inflation becomes too low, Fed cuts rates aggressively and increases value of LIBOR floor while raising inflation."

Firmly anchored expectations, with real money on the table.



 I learned something from my dog yesterday. She is a medium-sized dog that looks like a cross between a coyote and a lioness. When I looked out the window in the early morning I saw her sitting and staring down at the ground. She has long ears and they were opened wide toward the ground. I looked at the ground and there was a newly dug hole, two inches in diameter. A gopher had found my luscious backyard grass. I told myself that she'd better do her job and protect her territory or else I'd find a new dog. Of course, I didn't bother her because it seemed rude to interrupt her reverie.

As the hours passed I looked out the same window and saw her in the same exact position with the same intent look. She was completely focused because she didn't even hear me tip-toe outside for a moment and then retreat back indoors.

By lunch I thought for sure she wouldn't still be there, but she was. This time she was lying half-way down on her stomach, but still entirely focused on the activity that was happening underground.

Later in the afternoon I looked out the window and she wasn't there. I walked outside to find a large dead gopher right by her as she was napping. It was her trophy and no one was taking it away from her. I thought for a moment about calling a taxidermist and placing the gopher by her patio bed, but that may have confused her.

This reminded me of reading in EdSpec that Victor would sit and stare at the screen for 72 hours straight and wait for that perfect wave. Then he would attack and go for the jugular. I thought how much I needed to improve my ability to concentrate and focus.



Decades ago I had heard the quote, "There are three kinds of lies: lies, damned lies, and statistics," attributed to Mark Twain. Then a few years ago I read that Twain got it from Benjamin Disraeli. However just the other day I read it attributed to Thomas Carlyle. The three were contemporaries. Does anyone know the true originator?

Philip J. McDonnell replies:

Phrases.org says Twain attributes it to Disraeli in Twain's autobiography. But Phrases.org claims the earliest known written reference is by Lord Leonard H. Courtney. The observation is made that Courtney's quote attributed the phrase to the "Wise Statesman" who may or may not be a specific person. 



This price movement of June bond futures on the morning of Apr. 23 taught me a lesson.

From 7:52 AM to 8:55 AM (slightly over an hour) the market went from 111-10 to 111-01. During this period it traded 19,459 contracts. There were no announcements during this time frame.

Then from 8:56 AM to 9:57 AM the market completely reversed its direction and went from 111-10 to 111-01, exactly where it began two hours previously. The additional contracts traded in that time frame: 20,469. Almost the exact amount as on the way down.

Why would market participants all of a sudden change sentiment, when there were no announcements? What makes participant bias change so abruptly without news?

Robert Ray replies:

A nine tick Lobagola? Take that same move from the perspective of someone that wasn't watching every tick and it would appear that not much at all went on as the price was the same two hours later. There is a meal here in how one perceives things.

Edward Talisse remarks:

This behavior happens all the time, not only in US but in Bunds and JGBs. It's the hedging of new issue deal flow. As corporate bonds are priced, dealers (read: swap desks) trade the order flow but usually end up flat. It has nothing to do with availability of new information.

George Zachar adds:

Deal flow is information, and gaming the hedges and their lifting is a major part of the debt market's micro-process.

Phil McDonnell explains:

A price quote is for a completed transaction. It is always between a buyer and a seller. So the number of buyers always equals the number of sellers — no exceptions. Only the price adjusts. So logically the number of long contracts equals the number of shorts always, all futures markets — no exceptions.

You can infer something about the initiator of the trade. He is often a market order coming from off floor. The market order will cross on the floor (or in a computer) with the current bid or ask. So a down tick usually means an off floor trade crossed with the bid. An uptick often indicates an off floor market order crossed with the current best ask. This is only the commonest case and must be tempered with the realization that limit orders will appear as bid/ask quotes as well and may be confused with market maker activity. Also you cannot know if open interest is increased or decreased by a single trade, but you can track it on a net basis over longer time periods.

Victor told the tale of the elephants always returning by the same path in his book EdSpec. It was a story originally told by Lobagola. The story holds true for markets as well. Markets tend to retrace the same ground — often many times.

Is there statistical evidence for this? One need look no farther than Doc Castaldo's recent post on the Pythagorean scale and markets. His data showed that markets exhibit small changes far too often for it to be chance. This is the salient feature of speculative markets. It happens all the time. Huge amounts of money are made and lost on the very numerous small change days.

Consider the idealized model of a market with a single market maker. He quotes 100 to 101. Someone sells to him at 100. So he drops his quote to 99 to 100. The very act of dropping the quote inspires more selling. He drops his bids to 98, 97, 96 then 95 in succession as more sales come in. His average cost is about 97.50. Now at 95 a funny thing happens. He hits somebody's threshold of pain, whose stop is executed at 95, and our market maker winds up too long. Now he holds the price firm or even raises it.

On the perception of firming or even rising prices speculators start to nibble. Our market maker now slowly raises prices back up to where they were before. Only this time he is supplying at the ask price. So he makes his spread which he tries to maintain at one point. By the end of the day the quote returns to where it was before. Our market maker has sold his inventory at an average of 98.50. The market has done a Lobagola down then up. The news reports the market was unchanged today and everyone yawns. But our intrepid market maker made his spread going down and then back up. He can afford to eat at Delmonico's yet another night.

Sam Marx adds:

As a former market maker on the floor, I can say that this description is a good approximation of what happens. That's why the distribution of prices is higher at the middle than the normal distribution. The market maker is more confident within the existing range.

Also, when there is an large influx of sell orders, the market maker steps aside, buying smaller quantities, a minimum number of lots at each lower price to perform his function, and lets the price really drop. When buy orders start coming in, or when the sell orders stop, he starts buying. That's why the price distribution is lower than the theoretical normal distribution a short distance from the middle of the curve. A leptokurtic distribution.

J.T. Holley extends:

I'm looking at long bonds today. The UK 50 year yields 4.1% and the French Euro 50 year around 4.0% Does this mean that the US long bond is going to 4%? Has anyone with a scientific bent studied/counted the ratios/differences of these instruments' yields?

Faisal Essa responds:

The UK and EUR long bonds are said to trade at those levels because of the local pension and insurance company law changes that have forced pension funds to match their long duration liabilities with long duration, high quality bonds. This has led to reduction in allocation to equities and a shortage of long bond supply relative to demand. To make matters worse, restrictions on currency exposure and derivatives overlays force the funds to stay in their own market rather than buying other countries' long bonds. This legal framework is quite unfortunate for Dimsonian pensioners.

This situation (along with changes in US pension fund law) does have some influence on US long bonds and long TIPS.

Charles Sorkin suggests:

If the media decide to exploit the notion that the American homeowner needs to be bailed out, bonds could fly. An interesting hedge (although extremely difficult to model and get the ratio correct) would be a short bond position hedged with long support-class POs. Difficult for the small investor to find, but some pieces have been floating around lately in the upper $30s to upper $40s on long paper. Such securities could return your principal within two years on a bond rally of 100-200 bps. 



One-year ATM EUR/USD vol given at 5.95% today, an all time low. The extension of carry, plus easy monetary policies.



 An important area of research in many fields is a study over time of repeated measurements of outcome and predictor variables, often with a view to seeing whether the relations between predictor and outcome are different between groups. For example, males and females are measured with respect to blood pressure, weight, cholesterol count, respiratory efficiency at 12 separate times, and their longevity and morbidity are noted and related to their sex, smoking behavior, and changes in baseline predictor variables.

This is a very important area of research in health. The book, "Applied Longitudinal Data Analysis for Epidemiology," by Joseph Twisk, which I have read and find useful and provocative, has many modern techniques for the analysis of such data starting with repeated multivariate analysis, categorical analysis, dichotomous variable analysis, and missing data analysis. Ultimately two sophisticated methods are introduced to take account of all the problems of differentiating the cross sectional effects from the time series effects. These techniques are generalized estimating equations and random coefficient analysis.

The development of epidemiological methods has been a mix of practical and theoretical work in their own fields with many papers developing ad hoc solutions based on these methods in their own field, for example attitude surveys towards condom use, or efficacy of various diet studies.

The old methods of analyzing such data were to look at the final outcome and first outcome and relate the changes to the changes in the predictor variables and take account of various aspects of the clustering and correlation structure for the individuals in the study. The problem is that it threw out all the changes in the variables between the beginning and end points, and applied techniques that didn't differentiate between the time structures of the data.

A similar set of problems comes in market studies. For example, a researcher wishes to know whether value of growth stocks are better and measures the returns over 10 consecutive years. How are the two groups affected by changes in interest rates, and earnings growth during the period, and past market movements?

Every study of a system over time where the effects of individual markets and changes in the backdrop variables is affected by similar factors as the longitudinal studies.

The techniques of generalized estimating equations, based on maximum likelihood methods and random coefficients analysis, based on multivariate repeated regression analysis and comparisons, would seem to serve an important role in most market studies of individual stocks and all other studies where the path of the return structure is important.

There has been little cross fertilization between the fields and the Twisk book, with its references and applications of software, is highly recommended to get some tangible and useful work done in the fields without throwing out intermediate data or fitting the results into a glorified series of cross sectional analyses.

This book discussed methods of generalized randomized estimation equations for coefficient analysis. Two articles that I have found [1 ,2] give good introductions to the same methods. Both articles are technical but a pencil and paper and some simple numerical examples might open up good lines of thought and analysis. 

Andrew West replies:

 As far as I can tell, longitudinal data analysis is far underused in the world of finance, considering so many data are available in this form.

A few years ago I taught myself R and bought the Pinheiro & Bates book Mixed-Effects Models in S and S-PLUS to learn how to use the NLME package. This was so that I could try to model valuation ratios of all companies within an industry. Most relative valuation analysis is done using either a recent industry cross section, or one company's historical ratios. Using NLME, I could take 15 years of annual data for 10 companies within an industry, and model how the next year's price/sales ratios were associated with current price/sales, next years' operating profit margins, debt to assets, and the yield curve. Much better to use 150 observations than either 15 or 10. So if I forecast that a company would see higher sales, margins, and lower debt, I had a tangible idea of how much the market might reward that, based on how the market responded to changes in that company and nine other similar companies over the prior 15 years. For some reason, I've seen zero studies of this sort published in finance.

The models certainly didn't predict most variation, but seemed to work better than alternative naive models available. I later applied the same longitudinal data technique to calculate Fama-French three-factor models for multiple stocks within an industry. The goal was to allow some warranted individual variation for companies, but to educate the guess by considering the experience of peers (e.g. reduce some of the random non-stationarity of a company's beta).



 A popular phrase now in business is the fox and the hedgehog. A fox is good at many things but the hedgehog is great at one thing.

GE always wanted to be number one or number two in every business it competed in. Jack Welch said one of the biggest blunders he made as CEO of GE was when he bought Kidder Peabody back in the 1980s. Kidder was a carriage-trade brokerage and investment banking firm. Very blue blood. GE's goal was to merge Kidder into GE Capital. Unfortunately, GE could never make it a good fit. Welch commented that the reason for the failure to properly incorporate the business into the GE family was that nobody in GE understood the Wall Street mentality. There was no esprit de corps among the troops. GE ultimately jettisoned the investment banking business altogether, selling it to UBS in 1994.

Morgan Stanley and Dean Witter merged in the mid 1990s and John Mack and Phil Purcell became co-CEOs. This was a marriage destined for failure. Morgan's institutional brokers did not appreciate being associated with Witter's retail brokers, and their M&A and investment bankers did not care to slice up the pie with Witter's sales force. And Mack and Purcell just did not mesh. Morgan's top executives and always felt that they were superior to Witter's and Morgan's analysts looked down on Witter's. They did not play well together. Ultimately something had to give. This led to a string of departures and a brain drain and a huge talent drain.

John Mack found it increasingly difficult to work at the combined company, and resigned and took on several other roles on Wall Street in a chief executive capacity. Phil Purcell stayed on to run the company until the board demanded his resignation. Mack was reinstated at Morgan Stanley Dean Witter and now it is just Morgan Stanley. In 10 years the company has gone full circle and the stock, which had been dormant during Purcell's reign has run very well under Mack's tenure.

In baseball, all truly great pitchers have a go-to pitch. This is the one pitch that they know they can count on. At a critical moment this is the one that the catcher is going to call for and the pitcher is going to deliver.

Bullet Bob Feller's go-to pitch was a fastball. There was a reason he was called Bullet Bob. There are very few in history who had such a ferocious fastball.

Hank Greenberg was a great baseball hitter. He was asked one time how to hit Bob Feller. He said, "Hope he throws you a curve and try to hit it." The reporter asked him why would Bob Feller throw anything but fastballs and Greenberg's reply was "I don't know — maybe he gets bored."

Dean Parisian remarks:

As a former Kidder Peabody salesman, Kidder Peabody shareholders took 2.5 times book value for a company that Ralph DeNunzio couldn't float upright at high tide. No question that Kidder had some of the luckiest guys in the 1980s on Wall Street, outside the boys in the inner sanctum of the X-shaped trading desk in Beverly Hills. 



My poetry reading went well, according to the moderator, who said I was a big hit. They asked me to represent the Poetry Forum at the annual meeting in Oklahoma in June. I performed with different accents, a slew of styles and media, and many different topics and subject matters.

The Brodsky lecture was outstanding, as were the men playing the Mozart violin/piano duet.

There was a full hall even without friends.



Results for Darlings of the Dow selections from Oct. 2006:

Stock             10/30/06      Last       Gain

Alcoa              28.3           35.1     24.0%
Home Depot    36.8           38.0     3.2%
Caterpillar        61.1           67.0     9.6%
Wal-Mart         49.2           47.6    -3.2%
Exxon             71.1           77.6     9.1%

Average:                                       8.5%

DJIA:              12049        12611    4.6%



 Paul Buchheit , creator and lead developer of Gmail, writes in his blog:

The secret to making things easy is to avoid hard problems.

That may seem obvious, but in my experience most engineers prefer to focus on the hard problems. Working on hard problems is impressive to other engineers, but it's not a great way to build successful products. In fact, this is one of several reasons why YouTube beat Google Video: Google spent a lot of time solving technically challenging problems, while YouTube built a product that people actually used. For me, the most effective method of getting things done quickly is to cheat (technically), take a lot of shortcuts, and find an easier way around the problem.

Like most aphorisms of this sort there is a grain of truth and also some fallacy. We have found that there definitely is value to having a few slower-moving deep thinkers in the group as well as a few very detail-oriented stick-to-the-process types. Obviously you must have people who are results-oriented and who can get the job done and the work out the door and the profits in the door. But I can tell you from experience that organizations that are purely results-oriented, always taking the shortest path to the dollar and which are entirely focused on efficiency don't last long term.

For example, we have two particular people who have a knack for finding all of the bugs and minefields in the programs we write. It's just uncanny; if there is a path to a program blowup they will find it. I believe it has to do with an ability to think in terms of what-if. The purely results-oriented work-smarter types never find these problems because they can't be bothered with what-if. So we need the creative what-if people in order to improve things long term.

Art Cooper remarks:

Work smarter, not harder. Taking shortcuts whenever possible, doing what's practicable instead of more intellectually satisfying, is to work smarter, not lazier.

Russell Sears replies:

It occurs to me that often when people say work lazier, what they are really saying is work relaxed. Go for a run at the height of a frustrating math problem, and often you'll find the answer immediately on returning. Likewise when suffering from writer's block, or when debugging computer code. Perhaps this is why military training helps in trading. After you learn to relax as someone shoots at you, trading is a piece of cake. 



This is in honor of the widely agreed upon birthday of William Shakespeare — baptized 26 April 1564, died 23 April 1616. Nobody really is positive when Shakespeare was born, however, tradition held that babies back then were baptized three days following their birth. If this is true, then it also follows that he died on the same day as he was born, 52 years apart.

Every year I read a Shakespeare play, see one performed, or view one on DVD. I have a few favorites, but the magnitude, variety, and volume of his works is magnificent and astounding.

J. P. Highland adds:

It is a curious coincidence that Miguel de Cervantes, the most celebrated figure in Spanish literature, also died on April 23, 1616. Though he was not as prolific as Shakespeare, Don Quixote might be the best book ever written.

David Lamb recalls:

When I was in one of my darkest days of trading last year, I went to my old friend William Shakespeare, and felt this quote was really written for me:

Wise men ne'er sit and wail their woes, But presently prevent the ways to wail. To fear the foe, since fear oppresseth strength, Gives, in your weakness, strength unto your foe, And so your follies fight against yourself. Fear, and be slain; no worse can come to fight; And fight and die is death destroying death; Where fearing dying pays death servile breath. (King Richard II, Act 3: Scene 2) 



 Germany | 20.05.2005 The Year of the Locust

The insect metaphor is finding plenty of resonance in German media.

A senior politician sparked the current debate on capitalism in Germany by comparing foreign investors to a plague of locusts. But some say the use of such populist rhetoric masks a deep-seated aversion to capitalism.

The hum started in April, when SPD party secretary Franz Muntefering unleashed a stream of rhetoric likening foreign investors to a swarm of insects.

I must admit to being quite shocked at the similarity between the language and images used to describe private equity, and propaganda about Jews from the 1930s. What's going on here? Seems like a thinly veiled form of an ancient hatred.

Gordon Haave explains:

In Europe, at least relative to the US, there are a lot more stakeholders in public companies. First are the politicians, who get cash subsidies from the large corporations. See Societe Generale.

Then there are the workers who through various workers' committees try to influence corporate policy. Add to that journalists, Greens, and other sorts who, in essence, shake down the large public companies.

Companies run with ruthless efficiency by owners in London and NY threaten all of that.



 Last September I began lending on Prosper.com. It has been nine months. The average interest rate on my loans has been 18%. All are current; none have defaulted.

There is a problem, though. It is very hard to stay fully invested. The Dutch auction method of offering to lend means that you never ultimately know if you will actually lend to any specific borrower. Plus, many of the loans repay early. Even when I was paying close attention, I was never more than 80% invested. Lately I have not been paying as much attention so I am only 60% invested.

This leads to a second problem. They don't pay interest on the cash. This is of course totally outrageous, and I will never fund my account with more dollars until they do.

Otherwise, I have been pleasantly surprised that I have not had any defaults yet.



 Many thanks to Chris Cooper for hosting a wonderful Korean barbecue dinner in Oakland, CA. Attending were Easan Katir, Tom Larsen, Henry Carstens, Chris Cooper, and the Sogi family. After the initial toast to Victor and Laurel for bringing us all together, we heard tales of adventure in the options pits, debated systems and discretionary systems, heard insights from decades in the institutional brokerage business, discussed lookback periods and changing cycles, practical hedgefund back-office tips, programming, mathematical algorithms, trade execution, and pros and cons of having a separate office outside the home for trading.

To add excitement to the evening we even heard trading signals and alarms at work in the background from Chris's trading room. To my delight, my daughter, a PhD candidate at Berkeley, held forth at length from her perspective as a scientist studying molecular biochemistry and application of the scientific method. Each of us had a completely different approach to quantitative analysis, making for interesting debate. It was a pleasure to meet many in person whom I hold in high regard. It was a fun and educational dinner.



 It's that time of year again, when we have the privilege of watching the game's best (arguably ever) clay court player battle the all-time best overall player, on the one surface where victory, until now, eluded him.

For me, you do not have to be the best on all four surfaces to be the best of all time. It is kind of like the markets. I do not think any of the hedge fund greats of all time are making money from every market and asset class better than all competitors at the same time.

In Sunday's match in Monte Carlo , Federer played badly while Nadal played consistently. This is why Nadal again beat the all-time best. What should be encouraging for Federer's fans is that despite his being without his forehand he competed better mentally than he had in any of their previous clay matches.

This is an important markets lesson. By staying mentally competitive in losing situations, we increase our chances for positive outcomes.



 As a hunter, I know first-hand what animals are capable of.

On any piece of land, there is a carrying capacity. That is the number of animals (let's say white-tailed deer) that the land can support before they start to hurt the land.

The optimal number of deer on a piece of property is half the carrying capacity, because if the land is at or near carrying capacity, and there's a drought or some other calamity, then the land has less food, cover, and water, and the animals have to "eat the seed corn."

For instance, if you go into a patch of woods and notice that all the vegetation from five feet down is gone, then that land is almost certainly holding more deer than it should.

What then occurs is similar to what happens when a retiree is drawing income from a portfolio: he has to go into their principal (seed corn). Once you start tapping into principal (the food supply of the land) to draw income (the food source of the land), it becomes more and more likely that you will have a die off (or kill off).

Once the animals start tapping into their seed corn/principal the land/portfolio can't recover. There is now less food/principal and then it becomes harder to access, too. In the wild the deer eat all the low-hanging fruit, off the ground, up to eye level, until they have to stand on their hind legs to access the food higher up.

And the higher up food is less nutritious, desirable and palatable –like a portfolio's tanking and a retiree's having to sell off stock from the portion of his portfolio he had viewed as his longer term holds.

This is why it is so important for deer, and humans, to follow the simple axiom, "live below your means."

Many retirees had to go back to work because they "stressed" their portfolios too much during the downturn of 2000-2002. And yes, the market has recovered since then, but they haven't and likely won't. They ate their seed corn, hoping that we would return to the glory days of the 1990s.

John de Regt adds:

This makes great sense. That's the problem I have with annuities to fund retirement. To the degree that an annuity payment draws on principal, a person is getting older, poorer, and less capable of generating income, all at the same time. Not good.

I have as a savings and investment principle that in retirement I will live on a portion of the income from my capital, and will set my standard of living to whatever that income permits. I won't eat my seed corn, and to the extent that a portion of the income is reinvested, will be hedged from inflation.



                        Mar.   Feb.
                        2007   2007

NEW ORDERS               3.4%   2.4%
 Ex-transportation      1.5%  -0.4%<<<
 Ex-defense             4.5%   2.6%
Capital goods            8.2%   8.8%
 Non-defense           11.7%   9.8%
  ex-aircraft           4.7%  -2.3%<<<
After reading the papers this morning about how free-falling housing and a punk consumer would tip us into recession, we're confronted with today's durables data showing in Monty Python-esque manner we're "not dead yet".
Bonus doomster whack: Feb. data revised up!



 This is a gig I wouldn't miss for the world. Rory Stuart is a great guitar player I worked with back in the day. He's also a handball champ and authored a book on artificial intelligence. Music is a popular theme on DailySpec, and this is a chance to hear the real deal.

Friday, April 27, sets at 9:00 and 10:30pm: RORY STUART QUARTET with Mark Shim - tenor saxophone, Chris Tordini - bass, and Ari Hoenig - drums, will be performing at: CORNELIA STREET CAFE 29 Cornelia St. (just off 4th St., between 6th and 7th Aves.) (in Greenwich Village, NYC). Admission is $12 ($9 for students with ID). Reservations: 212-989-9319.

Rory Stuart is one of the freshest new guitarists in jazz. He has a full sound with a long lean style of playing. His quartet has the energetic flow of the Coltrane quartet. Rory Stuart knows the tradition even while pushing most broadly out from that tradition. -Coda



The Singing Grandmasters!



If you agree with a contrarian, are you then both conformists? — Bill Bradle



 The musical scale that Pythagoras invented and that forms the foundation for all Western music is based on relationships between small integers. Both the frequencies of musical notes and the intervals between them are ratios of certain integers, as follows:

Scale of Just Intonation

Note            C    D    E    F    G    A     B    C'

Frequency  1/1  9/8  5/4  4/3  3/2  5/3  15/8  2/1

Interval      9/8 10/9 16/15 9/8 10/9  9/8  16/15

How could similar relationships be uncovered for the S&P? As a first step we might force all S&P daily moves into bins one point wide, that is we could call all moves of 1.0 to 1.9 points "one point moves," and so forth.

We calculated the number of occurrences of each integer move, and also the number that would be expected if we assumed a normal distribution having the same mean and standard deviation. The result may be familiar to some readers but new to others, so we show it here:

S&P Daily moves in increments of 1 point

1999 to 2007/2/28

 LO HI Cases ExpCases  
-500 -40.1 10 2.46
-40 -39.1 1 0.63
-39 -38.1 0 0.79
-38 -37.1 1 0.98
-37 -36.1 2 1.21
-36 -35.1 3 1.49
-35 -34.1 3 1.83
-34 -33.1 1 2.22
-33 -32.1 4 2.68
-32 -31.1 7 3.22
-31 -30.1 3 3.85
-30 -29.1 9 4.58
-29 -28.1 2 5.41
-28 -27.1 9 6.35
-27 -26.1 8 7.42
-26 -25.1 6 8.62
-25 -24.1 5 9.95
-24 -23.1 13 11.42
-23 -22.1 13 13.03
-22 -21.1 20 14.79
-21 -20.1 16 16.69
-20 -19.1 13 18.73
-19 -18.1 15 20.89
-18 -17.1 16 23.17
-17 -16.1 17 25.55
-16 -15.1 19 28.01
-15 -14.1 24 30.54
-14 -13.1 28 33.10
-13 -12.1 29 35.67
-12 -11.1 39 38.23
-11 -10.1 43 40.73
-10 -9.1 53 43.15
-9 -8.1 46 45.45
-8 -7.1 55 47.59
-7 -6.1 52 49.56
-6 -5.1 52 51.31
-5 -4.1 54 52.82
-4 -3.1 60 54.06
-3 -2.1 70 55.01
-2 -1.1 79 55.66
-1 -0.1 76 56.00
0 0.9 94 56.02
1 1.9 85 55.71
2 2.9 91 55.09
3 3.9 89 54.17
4 4.9 74 52.95
5 5.9 69 51.47
6 6.9 54 49.74
7 7.9 52 47.80
8 8.9 59 45.67
9 9.9 53 43.38
10 10.9 35 40.98
11 11.9 43 38.48
12 12.9 38 35.93
13 13.9 28 33.36
14 14.9 26 30.79
15 15.9 25 28.26
16 16.9 17 25.79
17 17.9 18 23.40
18 18.9 14 21.11
19 19.9 14 18.94
20 20.9 10 16.89
21 21.9 7 14.98
22 22.9 6 13.20
23 23.9 5 11.57
24 24.9 6 10.09
25 25.9 15 8.74
26 26.9 4 7.53
27 27.9 8 6.45
28 28.9 7 5.50
29 29.9 2 4.66
30 30.9 2 3.92
31 31.9 3 3.28
32 32.9 2 2.73
33 33.9 2 2.26
34 34.9 1 1.86
35 35.9 2 1.52
36 36.9 3 1.24
37 37.9 0 1.00
38 38.9 2 0.81
39 39.9 4 0.65
40 500 16 2.52

The main features of the distribution as compared to the normal are: an excess of small changes (say from -6 to +6 points), a deficit of medium sized moves (of about +-16 points) and a modest excess of very large moves (+-35 points or more). A description in terms of these three features is a better one, in my opinion, than simply focusing on the size of the negative tail (as too many people do). 

From Laurel Kenner:

In mathematics, Dr. Castaldo is on Parnassus and I am on the "Gradus ad." I do know a little about music and writing, and so I will nevertheless venture to observe that Pythagoras did not actually invent the musical scale. As Stuart Isacoff puts it in his masterful book "Temperament":

"Pythagoras's discovery was that the most 'agreeable' harmonies [e.g., the octave, fifth and fourth] are formed by the simplest kind of mathematical relationships. If the vibrations of one tone are twice as fast as the vibrations of another's, for example, the two will blend so smoothly the result will sound almost like a single entity [he is referring to an octave]. The separate constituents of this musical marriage are oscillating in the proportion 2:1."

Closer to our day, Helmholz wrote that consonant tonal relationships are embedded in the essential physical structure of notes — the sound waves. Look at a graph, and you'll see greater spikes in intensity around the octave, fifth, fourth, etc. These spikes are known as harmonics. Their intensity levels depend on the shape of the instrument that produces the sound, and the resulting mixture contributes to the distinctive sound of each instrument.

(Hold a bass note on the piano down and strike the same note, stacatto, a few octaves higher and listen closely — you'll hear sonorities of tones still higher. Or experiment with harmonics on a vibrating guitar string.)

The market's ever-changing significant levels might be viewed (heard) as harmonics of past turning points. The Chair's insights on the continuing psychological impact of catastrophic events would seem to be in this genre.

The mathematical relations found in music are tempting to apply to the physical structure of the universe, and people have done that at least since Pythagoras. But I will leave that to the physicists.

Todd Tracy adds: 

We might be socialized to market intervals in much the same way as to musical intervals. I found this interesting.

Evolutionary Effects by Robert Fink, 2004

General human evolution has provided us with voices that are acoustically musical, and with ear receptors that are appreciative of, or attracted to, acoustically-musical sounds (i.e., not noisy). Why this evolution?

Without these physiological capacities, then:

* Mothers would not coo to their babies; nor would the babies love the sound of it;

* Nor would evolution of language and the socializing sounds of the voice have been as possible;

* Nor would the noisy (i.e., not-acoustically musical) sounds from any nearby destructive event or attack, or of the sounds of breakage, screams or cries of pain, have served as a noisy warning [unattractive or repelling] to alarm or alert us — Some sounds make us come, others make us run….

And, as a result, our collectivized survival might not have been as efficient, and we could have gone the way of the extinct Dodo.

All those same capacities [regarding being able to distinguish noise from "musical" sound] also served to allow the development of musical systems to arise and evolve wherever there were curious people with time to play or experiment with the stimuli around them.

Tom Ryan extends:

I find this Pythagorean scale discussion fascinating and have thought about various applications of musical scales and notes to market prices often over the years. Pythagoras believed the universe was an immense monochord and many of the Pythagorean teachings at Crotona are remarkable insights, especially with respect to what we now call string theory.

Pythagoras believed that by studying music mathematically, one could develop an understanding of structures in nature. One of the more interesting aspects that I have found in this is the lambdoma table, which is a 16×16 dimensional matrix of ratios starting with 1/1 and ending with 16/16,

1/1 1/2 1/3 1/4 1/5 1/6 1/7…….1/16
2/1 2/2 2/3 2/4 2/5 2/6 2/7…….2/16
3/1 3/2 ………..
16/1 16/2 16/3……………….16/16

The lambdoma is composed of two series. The first represents the divisions of a string which represent frequencies or tones. The second level represents harmonics. For example the first 16 harmonics of C are 256 hz (C), 512 hz (C), 768 hz(G) 1024 hz(C) 1280 (E) 1536 (G) 1792(B-) 2048(C) 2304(D) 2560(E) 2816(F#) 3072(G) 3328(A-) 3584(Bb-) 3840(B) and finally 4096 hz (C again since 4096/256 =16/1). This series represents the overtones or partial and whole harmonics of C and are represented by ratios in the table

Through the ratios one can study other types of natural structures as well. Botanists in particular have studied geometrical structure and many plant structures (leaves, flowers) have been noted to be geometrically developed in consistent ways where the key geometric ratios fall into a contiguous grouping or overtones of a fundamental, i.e. a pattern of squares within the lambdoma matrix. Leaves for instance often have simultaneous ratios of thirds (5:4) and fifths (3:2). The Renaissance studies including Da Vinci's notebooks note that the human body develops along particular lines as well, namely an abundance of major sixths (3:5) and minor sixths (5:8).

These whole number ratios or pattern of harmonics, as Laurel noted, form the basis for musical scales,

Octave 1:2
Fifth  2:3
Fourth  3:4
Major sixth     3:5
Major third     4:5
Minor sixth     5:8
Minor seventh   5:9
Major second    8:9
Major seventh   8:15
Minor second    15:16
Tritone 32:45

The question is whether specific harmonic patterns occur at times in the market and whether these can be quantified in some way. Victor discusses market prices as music in his book EdSpec.

One way would be to classify movements as ratios, and see the patterns of ratios as they unfold, classifying movements in price as patterns on a scale or within the lambdoma. From that one might be able to find a few meager predictable patterns. But there is a problem with this: to calculate ratios in a contiguous strip of real time prices one must arbitrarily choose reference points in order to calculate the ratios.

This means that there is a substantial level of subjectivity in developing the ratios from which the patterns can be studied. But one could arbitrarily divide the day into segments and look at ranges or deltas within those segments (say 30 minutes) and then calculate ratios of adjacent periods. There are probably an infinite variety of ways to segment and calculate ratios and therein lies the dilemma.




Predicting random chaos from hindsight — Niall Ferguson [With reference to The Black Swan, by Nassim Taleb]

Why do we insist on drawing causal chains to exceedingly rare calamities after the fact?

IT IS Taleb's assault on traditional historiography that is most relevant here. Since Thucydides, it is true, historians have encouraged us to explain low-probability calamities (like wars) after the fact. Such storytelling helps us to make sense of a random disaster. It also enables us to apportion blame. Generations of historians have toiled in this way to explain the origins of such great calamities as, say, World War I, constructing elegant narrative chains of causes and effects, heaping opprobrium on this or that statesman.

There is something deeply suspect about this procedure, however. It results in what Taleb calls the "retrospective distortion." These causal chains were quite invisible to contemporaries, to whom the outbreak of war came as a bolt from the blue. The point is that there were umpteen Balkan crises before 1914 that didn't lead to Armageddon. Like Cho, the Sarajevo assassin Gavrilo Princip was a black swan –only vastly bigger.

The light of the public really does darken everything. Niall Ferguson, when he was an obscure (i.e. not on TV) historian, wrote a brilliant history of the Rothschild Bank . It is one of the Top 10 histories written since WWII. Now that Ferguson has become a name worthy of the editorial pages of our "important" newspapers, he has become as inadvertently hilarious as the rest of the commentariat. Gavrilo Princip was not a Black Swan but he was a member of the Black Hand (No, not the Mafia, but the Sinn Fein of the Serbs under Austrian rule). "Sarajevo" was immediately preceded by two Balkan Wars in 1912 and 1913, and the Austrian's use of it as a causus belli was hardly an unanticipated event, given their occupation of Bosnia a few years earlier. The Austrians were deeply disappointed when the Serbs agreed to nine of the 10 demands in their ultimatum; the mulishness of my paternal grandfather's countrymen in refusing to allow the Austrian equivalent of the carabinieri to be garrisoned in Belgrade as part of the investigation of Princip's criminal conspiracy was the only sticking point. That was enough to save the Austrians from having to find another excuse to go to war.



New York Times Shareholders Withhold 42% of Votes (Update1)

April 24 (Bloomberg) — New York Times Co. shareholders, led by Morgan Stanley, withheld 42 percent of their votes from directors to protest the Sulzberger family's control over the company.

The family's willingness to let Pinch destroy their franchise says a lot about their priorities. The end game is already taking shape, as Pinch's brain, (Steven Rattner) has hinted at government protection/support for newspapers . there's precedent in anti-trust law already for favoring them thus.

And the analogy to the Ford family is imperfect. The Times "news" pages make no pretense at being anything but daily Democrat Party talking points and fodder for the international hate-America crowd. It is willful and purposeful: a choice to "spend" their credibility for a political cause. Whereas in the case of Ford, it's just stupidity.



The markets remind me of "Rock, Paper, Scissors," thinking one-ahead, and then one-ahead of those thinking one-ahead. World of RPS is a good site at which to brush up on the concept.

If the market breaks out the last hour for a few days, then the next day will break out half an hour sooner, then the next day sooner still…

Janice Dorn remarks:

I often get mail from people telling me they never change their systems, that the machines do it all for them while they are on the golf course. Dr. Katir's post tells the true tale, I believe.



 If you're going to enjoy great hunting, great fishing, great food, hockey playoffs, the beginning of the baseball season, and the beauty of Mother Earth's renewing herself in all her glory, you need a good soundtrack!

Here are some of my favorite songs. They bring a smile a to my face and cause a flood of happy memories!

  1. You are the Sunshine of My Life (Stevie Wonder)
  2. Center Field (John Fogerty)
  3. Rock and Roll Girls (John Fogerty)
  4. Let it Roll Down the Highway (BTO)
  5. The Boys are Back in Town (Thin Lizzy)
  6. Rock and Roll all Night (KISS)
  7. Slow Ride (Foghat)
  8. La Grange (ZZ Top)
  9. Margaritaville (Jimmy Buffett)
  10. Boys of Summer (Don Henley)
  11. What a Wonderful World (Louis Armstrong)



I would like to compute the present value of a client to a financial services firm. The question is, "How much is this relationship worth to the firm?"

Here is the situation: The business has high fixed costs but low variable or service costs. About $5m in fees the past year. The client has been at the firm for 30 years and is one of the top five individual revenue generators. The client is "at risk" and threatening to find a better service provider.

What I am unsure of is how to determine the cash flow to discount. Would it be the $5m revenue, would it be revenue minus service cost, or would it be revenue minus service cost minus percentage allocation of the fixed costs?

It reminds me of the statement, "Each student costs $20k a year to educate," yet if you look at the marginal cost of a student, it is practically nothing, which leaves me unsure how to think about the issue I presented.

I am wondering, would it be best to present this as "keeping this client for X years would be worth Y to the firm," or would some other method be more insightful?

Gordon Haave replies:

You need to be more specific about the fixed costs. That is, will the fixed costs travel with him to the new firm? If yes, then you value it at revenue minus the various costs. If not, then revenue minus service costs. Although it is conceivable that the competitor can lower the service costs somehow, so you should take that into consideration. 

Nat Stewart responds:

The fixed cost is that this is a large financial services firm with hundreds of pension fund clients, with all the infrastructure that that implies.

The low variable or service cost is that no single customer creates a large additional marginal cost to service. Which perspective (or a hybrid?) would create greater insight when valuing cash flows? This situation is not as extreme as the "educating a child" example, but the same idea.

Once this was determined, I had a notion of projecting the value for finite periods (value of retaining an additional 5, 10, 15 years) and also doing a simulation using an estimate of the probability of leaving each year. Still not sure what gives the greatest insights in terms of "This client is worth Y to the firm."



DJIA checked for first-ever breaks of 1000s from below. Then compared next 20-day (1 month) and 120-day (6 month) returns to all 20-day and 120-day returns (non-overlapping).

Here are the dates and subsequent returns:

Date        20d      120d    Millenium
10/19/06  0.024  0.059     12000
05/03/99 -0.038 -0.065     11000
03/29/99  0.082  0.080     10000
04/06/98  0.013 -0.111      9000
07/16/97 -0.014 -0.016      8000
02/13/97 -0.012  0.176      7000
10/14/96  0.041  0.091      6000
11/21/95  0.007  0.120      5000
02/23/95  0.021  0.159      4000
07/16/90 -0.084 -0.145      3000
01/08/87  0.100  0.208      2000
11/14/72  0.027 -0.064      1000

mean        0.014  0.041
all other   0.006   0.036
t-score     0.630   0.160

Though returns following new milleneal highs are higher than comparable periods, the difference is not significant. 



 There are so many things to love about turkey hunting. Lessons learned. Good times had. Market analogies galore. And only one thing to not like: 4:00 am alarms. You've got to roll out of bed early to turkey hunt.

There is a real process to hunting those elusive birds. If anyone thinks they're dumb, he hasn't given chase to one the wiliest game birds in North America.

Turkeys sleep on a roost, up in a tree. A lot of guys like to go out right before dark the night before and watch them fly up in the roost so they know where to come to in the morning. I prefer a different method: owl-hooting!

In the early hours turkeys are starting to wake. And this time of year the gobblers are a bit randy. So it doesn't take much to make them gobble. A cupped hand over my mouth, a deep breath, and I let loose with the worst-sounding owl hoot you've ever heard. It booms across the hills and valleys. The sound shocks the toms into gobbling (heck, a clap of thunder, or a slamming car door will do the same thing).

This first morning, David and I were hunting a 500-acre property that I lease. It's got some sweet bottomland, great strutting ground (open areas), and lots of cover. As my owl hoot echoed across the valley, turkeys gobbled all around us, and best of all, one gobbled directly across the bottom from us slightly to our right, a mere 150 yards away. So I grabbed the decoys, set them up where the hill road runs into bottom and then moved down to the right, closer to the gobbler. My plan was to call him down from the roost and call him toward the decoys, with us between the gobbler and the decoys!

As we set up about five yards back into the woods (so as to not reveal ourselves), I situated David. Then I set up right behind him. As real owls hooted around us, the bird across from us gobbled away. I started to make soft clucking sounds with my box call and mouth call. My box call is adjustable so I can sound like more than one turkey. Couple that with the different ways I could work my mouth call, and I probably sounded like half a dozen or more lonely hens all calling softly as the dawn broke behind the gobbler (we were facing east, toward the gobbler). As the sky began to light up, I noticed a round blob in a big tree across from us. I grabbed my Swarovski binoculars and glassed the "blob". It was the gobbler. I searched slowly through the tree, looking for hens with the tom. I saw none! This was a good sign.

If a gobbler is "henned up" he is very difficult, if not impossible, to call within range. This is the origin of the old saying, "a bird in the hand is better than two in the bush". In addition, I've found hens to be quite catty about their men. If there are other hens around, the gobbler's harem will actually lead him away from the other hens (or my decoys, in this case). But I saw no hens, so I was feeling pretty good about the situation.

As it got lighter, I began to tease the gobbler. My calls got more and more seductive — and he gobbled more and more aggressively. I then took my hat off, carefully leaned backwards and toward the decoys that I had set up in the darkness 30 minutes earlier. I let out a cluck, cluck, cluck, and then began to beat my hat on my arm, then repeated that sequence, imitating two birds flying down off the roost. I grabbed my binoculars and glassed the tom. He was still sitting on the limb facing towards the two decoys, and he was in full strut, all puffed up, his tail feathers fanned out.

I knew the decoys had his attention. And I'm sure he did not like what he saw at the decoys.

You see, I hadn't just set up any two decoys. I had set up a hen in a submissive breeding position with a jake right on her tail. What's a jake, you ask? It's a juvenile bird, the equivalent of a 13-year-old boy barely into puberty.

There is no way a full-grown tom is going to allow a jake to breed a receptive hen if he can help it. He flew down into the field. He went into full strut and began to make his way over to the decoy set. He was about 100 yards away and was slowly, ever so slowly, working his way in. I could tell this was a very mature bird. He was quite large and had a beard that nearly dragged on the ground. A real trophy bird. Needless to say, David was quite excited!

The bird got closer and closer.

Then I heard hens, real hens coming in from our right. Sure enough, they came into view and were working their way over toward our gobbler. The gobbler became distracted. He strutted toward the hens, then back towards us, then back the hens, then back towards us. So I went into high gear and started sounding like as many loved-crazed hens as I could!

It worked, he came closer and closer and closer, and then he hit that magical 40-45 yard mark. I told David to shoot!

The bird turned and strutted in a circle. As a result, his head was now behind his tail feathers (he was facing away from us). When he turned towards us, I let out a soft "alarm putt". This causes them to stop, put their heads up at full attention and look around for the danger, thus exposing their heads (side note: you shoot turkeys in the head).

He looked around for 1-2 seconds, while I waited for David to shoot. Nothing. No shot.

The bird turned and walked slowly away, out of range, and kept going. Between the two hens he could see and my alarm call, he'd had enough.

I asked David why he didn't shoot. He said that he was aiming when the bird moved away. I asked him why it took so long to aim. He said that he waited for the bird to get into position and then started to aim, but the bird didn't give him enough time to get off a shot.

We then had a long talk about preparation. Being prepared is of paramount importance in hunting. I've written many times on DailySpec about the processes I go through so that I can be completely ready at the moment of truth.

David learned today that you don't wait for the bird to get into position before you begin the aiming process. Once you've identified your target and know the shot is safe (everything is clear beyond the target), you are aiming that gun at the target from then on, so when the bird is in position to take a shot; you are completely ready to go.

The market analogies are quite obvious. How do we prepare every day to be ready to act when opportunity presents itself? More importantly, do we learn from our mistakes so that we don't repeat them? David took the lesson of preparation in that morning. And it paid off for him a few days later.

For now, I have to run down the road to check on the hunters from the National Wild Turkey Federation. We donated two hunts to them last year and the first group is here right now. I've got to go make sure that they're having a quality time and invite them up to the house for fresh turkey breast!



 Tonight I happened by the parking lot of the Goodwill store when returning from celebration of a birthday with great friends. The parking lot was empty. What caught my attention was the black color of the pavement in the parking spaces. Motor oil. Lots of it, having dripped out of engines in need of some TLC.

The relationship between the amount of motor oil dripped on the pavement and the net worth of the customer base must be in direct correlation. That said, I know plenty of millionaires who shop there as well and drive some very nice rigs. I know. I manage their money.



I finally read Gatheral's book, The Volatility Surface, and I would recommend it to professionals who deal with complex/esoteric options structures. He derives, explains, and sets-in-context some pretty arcane stuff, with lots and lots of equations "showing the work". It's not for newbies or folks put off by the math.

The book's bright tone, no doubt due to his excellent editor, isn't marred by the Expert's oleaginous preface.

David Wren-Hardin adds:

I agree with George's review, but I wouldn't say that the book is only for people dealing with complex/esoteric options. It describes the state-of-the-art for how equity/index options are being described now by most groups. If you trade more than simple strategies such as buy-writes or spreads where you have only one or two position per product, the ideas are something you need to know.

Reading rigorous books and papers is a great way to find my mathematical blind spots, although I also have the luxury of being able to wander over to our quants and ask, "What the heck does this mean?!"



 We are all accustomed to that unholy feeling of vertigo that happens when we are squeezed and squeezed on a position going against us. But usually it's in a currency or commodity market where prices seem to go against you until you are forced to cave just when the turning point occurs. This is not truly a random effect or a hateful aspect of market misogyny. Rather it is usually the knowledge that your brokers have as to how far it can go against before they can force you out and take the opposite side of your positions.

What we are much more unaccustomed to is a continuous rise and setting of new highs in stocks. We haven't seen such a thing since the 90s and the trillions of opportunity cost losses by delta neutral and long short people have about been used up by those who follow the views of optimists such as Gavekal.

But now there is a new modality, the consistent, persistent unalloyed new high after new high. Certainly if the market is going to go up 20% a year as it does in such times as these, when the earnings yields so much higher than the bond yields, there will be many such periods of continuous horrible shorts rises. The question is, how can they learn to survive? How can they cut their losses before the last short fund is closed down again as it was in 1999?

The book The Science Of Disasters, by Bunde, is a series of papers by chronic pessimists of the garage that the Expert was stored in for 15 years. And it consists mainly of non-predictive studies of impending disasters that somehow fractal analysis provides an interesting graphical backdrop for. It is mixed with a smattering of mathematics from the particular authors' home base, be it physics, pure math, or geology, and it's completely useless for helping the shorts in this dilemma.

One overriding question is how have the extraordinarily liberal and extraordinarily conservative anti groups and funds have been able to react to such unequaling rises. They don't believe in the grand sweep of entrepreneurial activity of the function of markets in providing a mechanism for the masses to participate in human creativity and free trade. And presumably they are long shorted in grinded to death positions that have no hope of ever making more than the risk-free returns.

I think of the University I attended whose main contribution to the structure of ideas on investments is acceptance of the liberally mystical idea of Buffet, Soros and the Expert, that risk is so cheap that the grand thing to do is to buy forests and hedge against the Grossian-predicted Dow 5000, and wonder how long they and their ilk can bamboozle the assembled ever-skeptical public.

From Kim Zussman: 

One way to frame this is in relation to worries of participants driving price. The transcendence of the 2/27 decline has been quick and sure, seemingly surprising bulls and bears. Current worry drivers:

"The higher it goes, the more likely a future decline"

This worry keeps out reversalist longs waiting for a decline entry, which they grow to regret as gains continue. Little by little reversalists join the fray out of fear of missing the party.

"The higher it goes, the less shorts can survive"

How many shorts have closed worried about further losses, and how many still hold but worry there won't be another 2/27? More and more are forced to buy out their positions, contributing to the rise.

A possible turning point could be the inverse of the massive intraday bull-move of 3/14 (a many week low from which we are up now about 8%). This week, China sell-off was met with a short decline then rally, and Friday's big up-move ended at day's high, suggesting they are eager to hold the weekend.

"This week and Friday seem worrisome."

Up we go next week? 



 Tonight I took my mother to a live production of the Broadway play "The Civil War" at historic Smoot Theater. It was professionally done by local talent. The production is based upon letters, diaries, and correspondence of Civil War soldiers and their families, as well as words and writings of Abraham Lincoln, Frederick Douglass, and Walt Whitman.

I have always had an interest in the Civil War as my Great-Great Grandfather was in Co. D of the 11th. W.Va. Infantry. He was a private and was a POW for a time, captured at High Bridge, Va.

When I was 12 my mother's dad gave me his grandfather's medals and Civil War discharge paper, things I will always treasure as part of my family history. Not until some years back did I get interested in family history. I have been looking as to where he is buried and a little more about his life. Maybe others on the list have relatives who served in the Civil War. Looking back I could have asked many question of my mother's father and his father, as both were living when I was younger. I just never asked any questions.



At the end of each month, checked the DOW high daily closes back to 1980. If this month's high was a new all-time high (not including dividends), noted the following calendar month's return (actually 21 days). This next month return was compared to calendar months following those which were not new all-time highs:

Two-sample T for mo aft vs non month

                  N     Mean    StDev    SE Mean
mo aft        111  0.0109  0.0391   0.0037  t=1.0
non month  216  0.0059  0.0433   0.0029

This is somwhat bullish, and one notes the Dow is making a new all time high again this month. 



 When I read “Megatrends” in the 1980s, I found John Naisbitt a very astute observer of current events and the major themes that tied them together, so when I saw his new book “Mind Set!” in the local library recently, I quickly borrowed it. I was eager for an update on Mr. Naisbitt’s views on the key trends of our time.

The book exceeded my expectations. Mr. Naisbitt devotes much of the book to explaining the methods he uses to put news into the proper perspective for understanding the most significant trends and divining clues to what the future will hold. The sharing of this knowledge makes “Mind Set!” a meal for a lifetime.

One of Mr. Naisbitt’s methods that Specs should immediately grasp is “Focus on the score of the game”. Pay more attention to verifiable facts than to what people say or to sensational cases. For example, Mr. Naisbitt asks when the reader last saw a news item or major motion picture about killer coconuts. Yet a University of Florida study found that falling coconuts kill 15 times as many people per year as shark attacks.

Mr. Naisbitt’s identification of five key current trends, my original motivation for reading the book, did not disappoint. One trend is the continuing growth of China, which Mr. Naisbitt points out is quite decentralized: “Beijing pretends to rule, and the provinces pretend to be ruled”.

While some fear that American culture is obliterating local cultures, Mr. Naisbitt asserts that the world is changing America more than America is changing the world, as more than 1 million legal immigrants per year enter the United States. “For the most part, they are talented, ambitious, smart people who want to realize their dreams in a place where they have the freedom to do so. One million a year added to America’s talent pool. Because brains and talent are randomly distributed, think what the domestic birth rate would have to be to get the same result”.

In an intriguing tidbit, Mr. Naisbitt quotes Alan Greenspan as expecting private currencies to return by the end of the 21st century. “Mind Set!” is a meal for a lifetime, and I highly recommend it.



 Last night I attended the launch party for Nassim Taleb's new book, The Black Swan — The Impact of the Highly Improbable. The event was well attended with approximately 120 people. The audience included several heavyweight quantitative people such as Dr. Emanuel Derman. It was well-orchestrated compared to the madhouse of George Soros's signing event, which I attended earlier in the year. Little touches like serving Black Swan wines as a marketing tie-in added to the friendly, collegial ambiance. The jovial crowd appeared to consist of academics, young suits, and book types.

An animated and vocal Nassim took the stage, first stressing that his new book was not about finance, then admitting that he does not like the subject and finds it exceedingly boring. In true Nassim fashion he began by ripping on history books, saying most historians are full of beans and not to take any history book seriously. He added that historians and stock analysts are similar. During his speech, he raised the following question, "How many traders are in the room?" Sitting near the back of the room, we counted perhaps eight hands — I was expecting a much larger representation of the trading community.

Nassim then jumped into the issue of retrospective distortion — using the recent Virginia Tech shootings as fodder for his idea. By retrospective distortion he meant the way humans tend to evaluate and make sense of matters after the fact, constructing an orderly event in hindsight. The more significant things he talked about included his belief that experts do not exist in complex domains, that using cumulative advantage loops and preferential advantage concepts is not a proper way to conceptualize black swans and, perhaps his most interesting statement, that all design has its genesis in randomness — the implications of this idea are profound. He elaborated a little on several topics, then opened the floor up for questions.

Not surprisingly, the first question focused on Malcolm Gladwell's New Yorker article . He was visibly annoyed and without delay stated that the article was an example of a "false narrative" — another concept he talks about in the book. He said that the article worked wonders for selling his book, but for the wrong reasons. However, he made it clear that the right reason for buying his book was boring. Nassim then quickly moved on to the next question.

He fielded questions about the central aspect of his new book, claiming that the Normal and Gaussian distributions are frauds, primarily because probabilities drop when moving away from the mean, while with Mandelbrot's variations this does not occur. He then was asked several specific financial questions, which he politely dodged and commented that he does not know what the next Black Swan is or how to predict it. Time was up and the book signing began — several of the audience members carried a dozen or more books for his autograph. Not sure if they were for resale on eBay, but I'll monitor for a bit to see if they end up there.

Nassim was very energetic and his occasional irritation was short-lived. He dropped the F bomb on several occasions, quickly changing to proper words with a chuckle — not sure if this was done purely for effect or if it is his natural vocabulary. His lively delivery and friendly demeanor made it an entertaining and unique evening. My initial impressions of the book, after a cursory read, are that it appears interesting, well documented and entertaining. I'm looking forward to further reading this week.



 I'm a bit puzzled as to what is going on in the US economy today. The stock market goes higher almost every day, but yet the dollar falls by an equal amount every day. Everyone on TV is saying what a great market environment this is, but what good is it making money if that money isn't worth anything?

I don't reside in the US, and since the beginning of 2006, my long-term investment accounts have returned 0% when you factor in the dollar's fall. Why does no one talk about this? Can it really be considered market growth if your dollar is falling by equal amounts? Feels like we're going nowhere, spinning our wheels…

Do your readers know of any books or historical situations where this has occurred? Some kind of reference point I can study and from which I can get some insight here? I am fed up of trading the US markets after so much time of $ devaluation.



 At:  4/20  9:59:33

 Europe has gone crazy :

 Societe Generale + 9.3 pct
 Bnp                    +5.03 pct
 Credit Agricole     +3.01 pct
 Carige                 +4 pct
 Ubs                     +3.3 pct ( Ex divid 19/4 3 pct)
 Credit Suisse        +3.63 pct

I'm sure I'm missing some, but ask your indulgence. The process of concentration is underway, although I have a feeling we are close to an extreme. Rumors are hitting the wires; takeovers and mergers are fuelling hot money to the financial sector. I just hope we will not wake up with too much of a headache after the party is finished. 



 When we do a study based on historical data and find a statistically significant result at the 5% level, we really are saying that there is less than a 5% chance that this study is completely attributable to chance. But if we observe some pattern in recent market action and then study it, that can be a problem: the multiple hypotheses problem.

One might think that if only one test is done that only one hypothesis was tested. Sometimes this is true. Other times traders will be intense students of the markets and notice a recurrent pattern. The trader then forms a hypothesis based on this pattern. It is properly tested on the most recent data and shows itself to be statistically significant.

There are two problems with this approach. First, if "the most recent data" include the same patterns that were observed and used to form the hypothesis then we are subject to the multiple hypothesis issue. This is true because that exquisite pattern-matching machine called the human mind continually looks for non-randomness and meaning in everything it sees. The mind tries out incredibly many hypotheses all the time. Most of us cannot even guess how many hypotheses our mind tries out before we identify one as interesting. So including the data, which formed the hypothesis, implicitly includes an element of multiple hypothesis testing.

The other problem is that we already know that the data will validate our study because it was used to help form the hypothesis. So it is not independent data but inherently biased. Thus our significance tests will be biased toward acceptance.

The best way to do these kinds of studies is to form the hypothesis on one data set and to test it on another completely different data set from another period.

Bruno Ombreux adds:

Or consider the same period but another market. For instance, if some phenomenon shows up in US stocks, test it on French and German stocks, too. There must be a reason for the putative phenomenon, either microstructural, behavioral, or economic. If so, it should show up in several markets. This extends the amount of testable data. One must be cautious with microstructure however, because it can differ. 

Philip J. McDonnell responds:

I do not agree with the idea of testing on data from different markets during the same time period, because many markets are highly correlated on a coterminal basis, sometimes as much as 90%. So it is really not an independent test on independent data.

But when one uses different time periods the correlations drop to near zero. So we can conclude that the data are truly out of sample.

Bruno Ombreux replies:

Dr. McDonnell is 100% right, but I still think it is not completely worthless to extend the sample to other markets. If you test a hypothesis on the US market, you'll be interested in the cases when you reject the null. Now, you test the German market and you still reject the null. You're right — not very useful. But if you fail to reject it on the German market, you need to come up with a very good explanation why it would work in the USA and not in Germany.

This is not nearly as good as different time periods, but it can be useful and increase understanding. 

Yishen Kuik adds:

I like to take an idea that has demonstrated its worthiness in actual trading in the US, then port it to other countries to see whether it works or not. If one has a group of countries for which the idea works and another for which it does not, it becomes interesting to try to figure out what members of each group have in common.

Nigel Davies remarks:

Presumably you're also taking account of time zones here. I've noticed that other markets tend to be led by the US during the day session (and even a couple of hours before its open) and have their measure of independence at other times. China is probably leading the overnight action now and Europe dominates during its morning. So perhaps it's not so much cultural as different time snapshots showing a certain similarity.

Martin Lindkvist extends:

Like the human flus that originate in Asia, many market ones seem to come from there too. Now, last night's Chinese flu seems to be of the same strain as that of late February. And as such, the market's immune system should be better prepared now. Perhaps a bit of coughing, and some sneezing for a little while, but not much of a fever this time? 

Henry Carstens adduces:

From a book recently recommended to me: "Routine design involves solving familiar problems, reusing large portions of prior solutions. Innovative design, on the other hand, involves finding novel solutions to unfamiliar problems." To borrow a quote from a friend, "Better necessarily means different." 



 Ostensibly Japanese traders swear by their candlestick charts. There is an entire genre of single day and multi day patterns that supposedly will light the trader's way in the market.

A recent paper by Marshall, Young and Rose of Massey University looked at these candlestick patterns and found them wanting. For the most part, they do not work as expected.

A scant three patterns do show some promise, but given the multiple hypotheses this is probably just be a spurious result.



Big-Box Watch tracks the growth of large retail stores. Unsurprisingly, the Southwest, Southeast, and Dallas areas figure prominently. What is surprising is the growth in the Great Lakes area. Is this a sign that the Rust Belt has turned, or is turning, the corner?



Here's a theory about how the Mistress might deceive us with randomness:

We think we see a relationship, where event B follows event A, or rather, A causes B. Then we see this AB sequence again, and the again, until we have a data set that convinces us to bet on B whenever we see A. However, if we could see into both the past and the future of recurring event A, we might see sequences of events like this:


It turns out that the series of events pairs AB is just random. But when we see AB start to repeat, our brains imply causation. The more instances of AB we observe, the more certain our brains become that the causal relationship exists. The irony and the trap is that in this case, where the series of AB pairs is random, the further along we are in the series, the closer we are to its end. So the more certain we are of the causal relationship, the closer we are to being stuck holding the bag. 



 Current World and 2-time Olympic champion in rowing, Drew Ginn of Australia, maintains a personal blog that's full of useful material.

Drew writes on a broad variety of topics, but all have the constant theme of how he will retain his World and Olympic titles over the next two years. Drew writes viscerally, often discussing how he deals with nerves, boredom and flatspots in training, his competitors and his performance strategies. In today's preference for the manufactured athlete, Drew's blog is refreshingly real and authentic. Drew is also no stranger to writing about his psychology and the mental processes of "intention" behind his training and racing. His observations are of much value.

The posts provide a great deal of insight into the mind of a consistent top-level performer and the take-aways for market practitioners are obvious. I highlight a few insights from his recent posts:

1. Little changes, no matter how insignificant, can add up to big performance improvements - especially if you're already at an elite level

a. "As we are now coming into a period of racing I reflected recently on one of my favourite routines. The pre-race cleaning of my oar handle is something that I actually look forward to. About 60min before race time I enjoy taking a walk down to the boat pontoon with wire brush and oar. Feeling the energy of the event is intense and to be able to take some time to absorb the buzz while doing an almost therapeutic process of clean the handle.

Next week we go into competition again and I know that there will be a number of occasions when I am standing out on the pontoon, taking it all in and enjoying one of the subtle pleasures of preparation to perform."

2. After you have done all you can to prepare, enjoy the experience of performance

a. "It's the night before we start to race our National trials…. I will keep this short, but will say this; over the last two days since arriving in Sydney we have enjoyed the final stages of preparation. It is all fine tuning now and being able to play the waiting game is critical for success.

We have focused on how we step the blades out of the water during the last few session and what's interesting is to have those moments when the light bulb goes off. It's not anything earth shattering, simple things really that seem to bring it all together. The stability and match up through the drive and the flow around the turns has improved. So tonight we are spending our time kicking back watching some television. We're pretty relaxed about the racing that's coming up; at least right now we're relaxed. I am sure in the morning there will be a few moments of those building nervous"

3. Control your controllables

a. Drew has written much about how he and his pair partner have been striving to find the right boat, the right oars, the right training regimen so that they can go ahead and focus on getting the job done with minimum distraction. The correlations here are obvious. Know your style, know what equipment complements it, have your backups and test, test, test. Leave as little to chance as possible.

b. "Some thing I will mention now about some conversation we have had about testing and it revolves around the need to find equipment that suits the athletes rowing style. Our subjective view so far and probably of the years is that different styles of rowing would suit different boats. In saying that then this testing is more about find the equipment that best suits the style of rowing that we use and plan on improving.

In brief our style that we focus on is length and rhythm. I know many coaches and athlete also have this as their aim, but we all interpret thing differently and more important is what actually happens at speed. So to ensure we are translating our intent into action we have also been gathering video footage to compare and analyse also and currently we are happy with our consistent length and as for the rhythm we are working on how to improve it further. This is really about drive and recovery ratio and the flow and acceleration. The turns become so important in creating rhythm and are for us key areas that need improving I think."

c. "Everything in our training is designed to enable us to find ways to improve and the spark gained from finding new ways to improve is energising. Our abilities, our attitudes, our motivation, our team, our families, our work, our methods, our measures, our connection, our equipment and our belief have to expand and continue to develop. These things are essential and none can be ignored."

4. Know that you have a Mistress and embrace her every now and then.

a. In reference to the Olympics - "When I think of the situation I am in training every day and preparing for the moment in the future, I do it because I love the challenge. The blistered hands, sore back, the fatigue, aching muscles, the concentration, focus, passion, fear, frustration, love, gratitude and the connection are all part of the full experience and maybe, just maybe from the outside it could at times be considered crazy. Well then that is part of it to. In fact it's probably a great indicator that I am heading in the right direction because so many don't seem to want to step from within the crowd. To make a difference, to be better, to stand out does require resilience and persistence. The funny thing is at a very early age we all have these qualities. What changes as we grow from the 2-3 year old child into adulthood?"

5. Nerves are good, and no matter how good you get, you'll always have them.

a. I highly recommend the whole post.

These are just a few quick observations. Time spent reading Drew's blog will provide a wealth of material for improvement in markets and life. It's not every day you can learn directly from an Olympic Champion. 



 Almost Totally Right So Far - and Happy To Let The Market Be My Judge:

Let us look at what has happened in the markets since the FTSE overshot my 6480 target by about 35 points on Monday. But it peaked that day and it has not managed to hold above 6480 for more than two successive closes. It closed at 6449.4 on April 18, 2007. Such missed targets are common. The locals in a market will want to make the wise speculator not quite correct if he is foolish enough to make his stops too tight. That's why it happens. It might be called, I suppose, the bulls' last revenge! Figuratively, the animal is mortally wounded but still has enough energy left to kill the successful hunter who comes too near too soon.

A similar phenomenon characterized the last hour of trading on the Dow Jones today. Again, to put it figuratively, the blow to the heart delivered on February 27th mortally wounded the old bull. Yet it crawled back to its old high and then, tonight, in one final act of revenge, unexpectedly leapt up above where everyone expected. It killed off all the foolish gloating bears who'd come too near too soon. In other words it had put their stops too close to the market.

These figurative ways of thinking about the market may seem simplistic but they have enormous predictive power if used correctly.

So where do we go from here? In a word, down. The next three days, April 19th, 20th, and 23rd, will all see lower closing prices than the day before, on both the Dow Jones and the FTSE. This is the start of a major bear market which will last about three years and be the greatest one since 1929-32.

I, like many others and your esteemed self, am weary beyond words by perpetual bears that cry "wolf." Or should it be bear every other week? If I am wrong about this week, I am a fool and should never be taken seriously again. I am happy to let the market be my judge - and, figuratively, my executioner!

Janice Dorn writes:

My research (possibly incomplete and inaccurate) indicates that William Hutton is a pseudonym for a British geologist who bases much of his work on the prophecies of Edgar Cayce. He also calls on esoteric writings from Gurdjieff and Ouspensky, among others.

He is far from alone is this type of fear mongering. There are plenty of people who live and breathe this stuff as they prepare for apocalypse. The Association for Research and Enlightenment (with which he has been associated for 40 years and most likely founded) is based in Virginia Beach, Virginia. His mailing address also appears to be Virginia Beach. His webmaster, Jonathan Eagle, is the co-author of his book entitled: Earth's Catastrophic Past and Future. I should be so lucky to have a webmaster who can co-author books with me! 

Steve Leslie adds: 

I do not know who William Hutton is. I have no idea what his credentials are nor whom he represents if anyone or anything. He may very well be a very respected person in the financial world therefore I will withhold judgment. I wonder aloud where he did surface from and what his qualifications are. I suspect this is some sort of an incipient joke perpetuated by someone who is using the name of a former investment house in his name. I can see the subtle joke in that when E.F. Hutton talks people listen.

That said, I wish to express my view on his posting. I find his inflammatory comments entirely counterproductive and destructive. In fact, I warned this type of writing would spew forth directly around Feb 27th when the market took a very big hit. If one would like to read my column, you can find it on dailyspeculations.com titled Cowboy Up. I cautioned against listening to "nattering nabobs of negativism" who will try to rubber stamp themselves and their careers by predictions of cataclysm in financial markets.

I wonder what good possibly comes out of such grandiose and garish predictions. This reminds me of Joe Granville who built a career out of one grand call in the market, and spent the rest of his career losing money for people, or Elaine Garzarelli who in 1987 suggested there would be a major collapse in the market. She has since become less prevalent yet she still lurks in the background. There have been many comments over the years attributed to Alan Abelson and his constant harping about an overvalued market. This quintessential uber-bear who can brighten up a room just by leaving it specializes in schadenfreude. Ad an editor, who as far as I can tell has never managed money nor had any track record, he is a very flowery and entertaining writer and an interesting character but a crusty curmudgeon nonetheless.

I must say that I cannot recall whether he has ever made any money by owning stocks or if he was ever ebullient about the stock market or the United States economy or commerce in general.

Even Robert Prechter who when properly motivated can be quite a trader, and in the early 1980s won several trading championships on a national level, has been warning about a super bear cycle predicted by his work with Elliott Wave since the 1980s.

Of course, the most sanctimonious prig of them all is Warren Buffet. The Oracle of Omaha seems to have made so much money and has decided to give so much of it away that he sees no need for anyone else on the planet to make any more money that they should therefore acknowledge their pathetic lots in life and submit to a cold and heartless destiny of insignificance. I am hard pressed to recall a time when he proclaimed that it is a great time to own equities. He reminds me of the great college football coach Lou Holtz who could never find a reason why his Notre Dame football team could possibly win a football game, yet consistently stood atop the polls at the end of the football season.

Then there was the time, I went to a national conference in 1995 and attended a lecture by a very respected financial newsletter writer at the time from Montana. He was riding a crest of stardom. His views were that inventories were rising at unsustainable rates and the markets were extremely risky here and going forward. In his view, we were to enter a period of unstained growth and his predictions were that we were about to embark on a very bearish and cruel time in the market. Any casual student of the financial markets will remember that this was the beginning of the greatest stock market advance in history.

Now we fast forward to William Hutton. Here is an excerpt from his post here:

"So where do we go from here? In a word, down. The next three days, April 19th, 20th, and 23rd, will all see lower closing prices than the day before, on both the Dow Jones and the FTSE. This is the start of a major bear market which will last about three years and be the greatest one since 1929-32.

"I, like many others and your esteemed self, am weary beyond words by perpetual bears that cry "wolf." Or should it be bear every other week? If I am wrong about this week, I am a fool and should never be taken seriously again. I am happy to let the market be my judge - and, figuratively, my executioner!"

Now, I mentioned on Tuesday that historically the market tends to rally directly after tax deadline and the 5 days following the drop date are quite positive. This was based on historical numbers reaching back 13 years. I also espoused that technology tends to do well for the quarter following April 15th.

I do not know what the future will hold. It may very well be the stock market falls dramatically; we enter a phase where equity prices erode to levels approaching that of the great depression. It is possible. It is also entirely possible that a butterfly flutters its wings in China and this causes a hurricane and an ensuing tidal wave that wreaks mass destruction in California. I am sure that there are even numbers people who can tell us what the likelihood of such an event is. It is possible but not very likely.

At the end of the day, for the week and for the year it really does not matter what Mr. Hutton has to say. Nor does it matter much what I have to say or what anyone else has to say.

What matters is how one maximize the chance to make money in the markets, how we as investors can actually deploy our hard-earned capital with a positive expectation and yield, and how we utilize information profitably so our standard of living for ourselves and our family can grow substantially on a yearly basis. This is the greater good and the greatest goal.

Theories and anecdotal comments and worthless and useless. The proof is in the financial pudding.

So finally, I say to Mr. Hutton assuming he exists, in the words of Arnold Schwarzenegger, "You have been erased."



 At lunch today, the semiologists in our office were puzzling over this photo, the centerpiece of a multi-page Obama hagiography in the current issue of New York Magazine (a glossy lifestyle-porn publication for affluent suburbanites).

The obvious religious tonality — "Obama Transfigured Before His Disciples" — must be intentional. The triptych format; the halo of light above him; his elevated position; his posture; his disciples gazing upward, hands clasped prayerfully.

Note the disciple seated on the right (yes, the Palindrome) — Judas, are we to think? Or Doubting Thomas? Poised to de-fund unless he sees "proof" in the early primaries?

Victor Niederhoffer comments:

The Palindrome looks like he's thinking about a chess problem.

Clive Burlin adds:

When I saw the picture, my first thought was: "Ha! That's what being uber-rich gets you, a chair to sit on while the riffraff have to stand!"



 The local natural gas company installed a new pipeline in the street I live on. All driveways off the street were destroyed and replaced with asphalt after the pipe was laid.

Today a crew is out there on the street removing the asphalt and preparing to lay concrete where the former concrete had been in place.

The crew knows what its doing. They have a Plan. Obviously they have done this many times and have every phase down perfectly; execution of the details goes without a hitch. When they finish a segment of the Plan one sees the product as a work of art, a work of perfection. Skilled workmen with a Plan.

From watching the crew work I return to my computer to see what markets are doing. I am struck by what I see, realizing there is no Plan visible on my screen.

The crew working outside arrives early in the morning and begins executing the Plan knowing every detail of the Plan from step to step. They complete one step, which logically leads into the next step. The Plan is laid out in their minds as step one, step two, step three, and so on. They are never at a loss as to what to do next.

When I look at the possible trades appearing on my screen all that's visible is step one. The subsequent steps are known, but in contrast to what the crew is doing in the street out front, these steps are variable. The crew laying the new cement does not have variables.

At the end of the day the cement crew will have a paycheck. At the end of the day I will have probabilities.



 My wife and I visited Chernobyl on Sunday. It was amazing. We took a small bus from Kiev and got to drive past many dachas, the weekend and summer homes for the wealthy. I think we should start calling our cabins in McGregor IA 'dachas' because it sounds cooler, and that's essentially what they are.

To get to Chernobyl you have to get past several layers of security and the guide that we paid took care of most of that for us. After getting past three sets of guards we finally met our local host. He had a Geiger counter, a device that clicks whenever it detects radiation. Initially it read between 1 and 5 ppm, and clicked once a minute, then when we got to the Chernobyl area it registered 20, then 30, then up to 100 and was clicking very frequently. As we pulled up close to the plant it got to 300 near hot spots such as vehicles that had been used to clean up the mess.

At the spot where you can take the best pictures, it was over 500, and we thought we'd better move along quickly. Then our host told us that inside, where people still work, it's 45,000 and workers can take only 20-minute shifts each day while wearing full protective gear. They assured us that our trip was safe and that we were actually exposed to more radioactivity on the trans-Atlantic flight than today. The workers are not at all concerned about the radiation, and the signs warning you about hotspots are ridiculously small and deliberately inconspicuous. I saw a six-inch yellow triangle and asked the host what it was. He walked over and his counter went crazy — over 1,000. He shrugged, "Hotspot".

The Chernobyl story is interesting. It was planned to be the electrical power generating station for 60% of the eastern USSR, with 12 reactors operating when fully developed. The accident happened in reactor 4 and they immediately stopped construction with reactors 5 and 6 nearly complete. You can see the half-built cooling towers with rebar still sticking out. Right now reactor 4 is covered with a 'sarcophagus', meaning they dumped concrete and absorbent material directly on the mess, and then welded metal structures around it. They are building a tremendous structure that will eventually be covered in more cement to lock in the radiation. It's an unbelievably huge project.

The complex housed over 50,000 people, with all the schools, banks, post offices, etc. needed for a small city. Now they have been totally vacant for over 20 years and it's eerily quiet with absolutely no insects or wildlife. The accident happened on April 26, 1986, and people weren't evacuated until the end of the May 1st parade, about a week later. There was a famous Ferris wheel that was unveiled at the parade, but people knew something was wrong and no one rode it, instead going to their homes to clear out what they could. The Ferris wheel stands to this day, never used. Officially 130,000 people died, but locals think the actual number is five to 10 times higher.

The contaminated zone, where no one is permitted to live, is 2,300 square kilometers. Some elderly folks returned after the accident because they had nowhere else to live and wanted to die where they had grown up. The site was designed to be a self-sustaining town and they encouraged young couples to live and work there. There are many parks and play areas for children, all abandoned. This fact was also somewhat responsible for the accident, because the plants hired mostly new engineers, fresh out of college, to work at Chernobyl.

Now about 3,500 people work at the site every day, mostly welders, forestry experts, and security people who ride the train in to work every day, about 200 kilometers away. The welders work to cover reactor 4 with metal to contain the radiation, which is still blazing hot 20 years later. The forestry people work every day planting trees to absorb radiation from the air and ground. There is also a special moss that absorbs radiation that we were warned not to step on.

The first workers on the scene were 31 firefighters, who fought the disaster for half a day before they were too weak. They all died six days later. The next batch worked for a couple of days and died three months later. Nearly everyone else who worked directly at the site after the initial disaster died soon after. Even journalists, who flew over the site in helicopters a month later, eventually died from exposure.

The site is laid out unusually because of the later modifications they had to make. There is a nearby village that was totally buried in concrete, which was then covered by sand a yard deep. Then they deposited soil and planted trees, so the whole area looks like a new forest that is just 15 feet higher than anywhere else on the site. Steam from the plants heated the entire area (about 400 square kilometers), so there are huge pipes everywhere. These are all rusty and leaking, obviously no longer usable.

There is a new power plant built by the US across the river from the site. It now provides power for the entire site, rather than reactors 1-3. They had to keep the old reactors running because they needed power for all the reclamation work, but the US was so concerned that there would be another disaster that it gave them a new power plant for free. There are massive electrical lines leading out from the plant, more and bigger than I've ever seen, and most now hang limp in the wind because they don't need to be maintained.

It was an amazing visit that made me question whether all the electricity we use is necessary, given the cost that this area is paying. It's even more incentive to work on biofuels, in my mind.



 Since I try to make money by taking advantage of the stupidity of large groups, I nearly made the mistake of disregarding Michael Mauboussin's recent essay Explaining the Wisdom of Crowds: Applying the Logic of Diversity. But I did read it, if only to delight in proving it wrong in my own mind. And, to my surprise, I found it valuable.

Mauboussin correctly assumes three conditions are required for crowds to make superior judgments: diversity, incentive and aggregation.

The diversity assumption keys on the expectation that the ignorant will cancel out and the knowing will prevail. This reminds me of the old saying that a committee could have come up with the theory of relativity, but Einstein would have had to be on the committee.

The incentive assumption keys on the expectation that the smarter guessers will be drawn off the sidelines. This has me wondering about the electoral process.

The aggregation assumption keys on the expectation that there is an efficient means for combining the opinions of the crowd, in a fair and balanced manner. That seems obvious enough, but unlikely. I am reminded of Keynes characterization of the market as traders attempting to guess what others will guess that others will guess.

So, it seems I should keep an eye out for investments priced by a narrowly focused group, where there is little incentive for broad based participation and where the method of combining the opinions is broken or subject to substantial distortion. An example would be an inactive investment (no incentive) priced according to a commonly held (mis)belief (group think) in a poorly communicated market (little aggregation of opinions). That works for me.



 I will be reading/performing my poetry next Saturday, 21 April, at the Soldiers' and Sailors' Club at 37th & Lexington Avenue, for the NY Poetry Forum, from 2 pm to 5:30 pm.

There will be a lecture before the reading, "What is Behind the Brodsky Nobel Prize?" by Professor George Katznelson, and then four featured poets. (Among them, me.)

Afterwards, there will be a Mozart duet: Sonata for Violin and Piano, performed by Mark Fiedler, pianist, and David Grunberg, violinist.

Cost for the event, $4. All are cordially invited.

Steve Leslie adds:

Prof. Dreyfus is a most excellent contributor to Daily Spec, with wonderful and worldly insight into affairs and a remarkable and refreshing writing style. An opportunity to partake of an event with her should not be missed. 



 I'm just back from a quick visit to a technology trade show in Boston. My informal market index is the quantity and quality of freebies, known in the industry as "swag," that is given out at such events. At the height of the dot-com bubble, we were awash in swag. I almost had to get a restraining order to stop Compaq from sending me a t-shirt every few weeks. When the bubble burst, the swag went with it.

Well, I'm happy to say that swag is back, but nothing like at a market top. T-shirt quality could be better and companies could be more creative (Microsoft gives out dorky office pens), but the most exciting new item is the 4-in-1–laser pointer, LED light, PDA stylus, and pen. Now I can destroy the retinas of my more unresponsive students. Companies that give out candy as swag are an automatic short.

While I continue to favor value over growth and have no use for tech companies, the state of swag tells me that we are at least a year away from a general market top.



 It's interesting that the UK's high CPI numbers require a letter of explanation from the Bank of England to Gordon Brown as to what will be done. Evidently this can't have much to do with matters under the future Prime Minister's control, such as taxes etc. As the Bank is obliged to provide the 'explanation' it seems that inflation must have a one-dimensional relationship with interest rates.

This just goes to show how much more difficult and subtle the game of chess is as opposed to managing an economy. As every chess player knows even a small pawn move on the side of the board can have serious implications for the position as a whole, even if it doesn't seem relevant immediately.

So given the simplicity of their task the bank better get its act together and start playing those interest rate moves with far more subtlety. And I'm not sure how they've managed to make such a mess of it so far, with US CPI signaling lower inflation than the UK even though interest rates are lower.

From the FT website today:

Consumer price inflation in March hit its highest level since comparable records began, sending sterling through the $2 barrier and resulting in Mervyn King, governor of the Bank of England, having to write a letter of explanation to Gordon Brown…..Any reading that is more than 1 percentage point above or below the 2 per cent target requires the Bank governor to write a letter saying why the target is being missed and explaining what will be done to bring inflation in line. 



 As an actual listener to Don Imus, I must object to those who condemn him without any experience of him or his program.

He was a satirist, and decidedly not a bag of hot air. He had intense reactions to the leading pols of the day, read extensively, and was exceedingly charismatic, in a dour and flinty sort of way, giving of himself and his means to an extraordinary extent. If you never heard his rather unsunny but hilarious show, a show full of brilliant satire, parody and comedy (and amazingly candid interviews) done by the very best parodists and comics in the business, bar none, you have no idea what you missed.

Beyond that, he gave unstintingly to the many causes he espoused: He built and financed, and personally attended and worked on, his amazing ranch in the southwest for children with cancer. Among these children were many of color, from inner city and other provenances. He and his wife Dierdre created the ranch out of nothing, and now it is a flourishing place where those with dire diagnoses at a tender age can learn to feel whole again, learn to be cowboys, ride and rope and care for animals, laugh and love and eat and enjoy, far from the depressing circumstances that often made them helpless and despairing homebounds.

He inveighed at the ramshackle medical care oftimes afforded our stupendous soldiers, once gone from the theatre of action in the Mideast. He got a great deal of necessary attention, and potfuls of money, for the upgrading of Walter Reed. He took on the sad increase of autism in this country, now, one child in every 163 born, a calamitous upsurge no one quite understands, "but something," as Willy (and Linda) Loman said, "needs to be done." He was a massive supporter of the "green enviro change" in hospitals and homes — products that he and his wife produced that eliminated the abrasive and toxic results of commercial "cleansers," often causing the very ills in hospital that they are designed to quell. The Imuses spearheaded a changeover from damaging harsh products to clean and safe products.

He raised millions and millions for his charities, and gave multi-millions on his own. He talked about the economy, inflation, wars in the world, environmental concerns, media, bozo pols, celebrities we all love to dislike (I did agree occasionally with him on his summary capsules of weasels and boneheads emphatically meriting negative reviews), responsibility of the government, and all manner of hot-button issues treated at length, unlike the morning shows that win the plaudits. I was a writer, in the past, for Good Morning America, so I know whereof I speak.) Imus was a must-see, at least for news junkies exhausted by the sameness and regurgitation of the all-news channels that suck off each other rather than present workmanlike news.

His querulousness was a comforting aspect of the show: No fake bonhomie for him or his guys. It was warts and all, but it was splendid, even diverging greatly from my pet betes. And he was not particularly kind to Jews, mind you. So I speak for freedom of speech, and the partisanship for excellence of the media.

So if we look at the defamers and the charlatans who called for his ouster because of a few uncharitable and off-color remarks — I do not share his philosophy, by the way, important to know, so he is not singing my tune in his disparaging remarks, funny, miss-the-mark or otherwise — the one who gave real help, hope and improved care to perhaps myriads, if not more, was Imus. Not the charlatans and huckster exploiters and extortionists who are well known for the vicious harm they have caused over the years.



 Aubrey Niederhoffer (11 months) with the Primer on Statistical Distributions.



 It has long seemed to me that the key foundation for growth and prosperity, other than the usual things like respect for property rights, limited government, low taxes, free trade, a communication, and transportation infrastructure (that is to say the usual things adduced by people like William Bernstein, author of The Birth of Plenty; David Warsh, author of Knowledge and the Wealth of Nations: A Story of Economic Discovery; John Steele Gordon, author of The Empire of Wealth; David S. Landes, author of The Wealth and Poverty of Nations; Douglas North and Robert Thomas, authors of The Rise Of The Western World; and Kenneth Pomeranz and Steven Topik, authors of The World That Trade Created: Society, Culture, And the World Economy, 1400 to the Present ), is migration and immigration.

To this end I have been reading the book Cities in Civilization, by Peter Hall, and Steven Castles', The Age of Migration. These books suggest to me many hypotheses about factors that differentiate return, such as whether companies headquartered in cities perform better than those in rural areas. They also suggest the usual tests of whether companies in low service jurisdictions perform better than those in high ones, or simply does the high rate paid to government itself affect performance, or the performance of countries' stock markets as a function of the extent and ease of immigration or tariff rates as a predictor of that country's performance.

It seems to me that eventually the power of compound interest and division of labor should dwarf all the specialized political and international relation and natural resource factors that affect companies and countries. And to this end, the highly recommended Hall book (which is described as one of the most learned books ever written by a single hand) is highly recommended. Moreover, tests similar to those mentioned are encouraged.



This article (April 16, 2007), by Blake de Pastino in Seahorse Key, Florida National Geographic News discusses an interesting ecological phenomenon with potential market implications.



There is a sharp intraday (High 113.90) corrective move from a contract low of the bund which has reached 113.36, just as the stock market is moon-bound at an all time contract and index high of 7411.5 (June 2007 contract). We have seen a similar move before 2/27. The doomsters keep their monotone "aria", suggesting the big correction in stock markets is just ahead. Short sellers fear for their life. Maybe the Mistress will give bears just one chance to bail out before it's too late.



Core CPI unrounded was +0.061: not even a full tenth of a percent. I didn't see anything weird in the data.

The print came in below the range forecast by the economics derivatives auction. The housing prints, though stronger and expected, were not strong in any real world sense. A quick eyeballing of the unadjusted single-family data shows these levels to be the weakest for March in a decade.

So, the econ bears will breath easier until the next data.

James Tar adds:

Wow, what a great CPI number. To me, it conjures all sorts of fantastic emotions about letting free markets be exactly that, free.

Markets eventually know better when they have gone too far. And by letting them do the work for us, they make necessary adjustments so that normalcy and the rising tides of capitalism can restore order and growth for the long-term benefit of humanity.



17 April 2007

Editor, The Atlantic

To the Editor:

The usually astute Clive Crook misunderstands the U.S. trade deficit ("When the Buck Stops," May). First, it is untrue that the trade deficit "has to be financed by borrowing." If, for example, Toyota sells a Camry to an American and uses the sales proceeds to buy more land for expansion of its factory in Kentucky, America's trade deficit rises without any American borrowing a cent. The trade deficit is not synonymous with debt.

Second, much of what we offer to foreigners in exchange for their goods and services is our combination of relatively low taxes, secure property rights, skilled workers, culture of entrepreneurship, and - as economist John Makin points out - our "sometimes bewildering yet attractive array of wealth-storage facilities." America enjoys a comparative advantage as a haven for investment.

Sincerely, Donald J. Boudreaux



"The market is never content until it fills in all the areas of potential trade that can induce the public to do the wrong thing, including the final euphoric day where for once bonds go up while stocks go up." Victor Niederhoffer

The last open gap filled on ER2 and both stocks and bonds are up today; check.

"The upward sloping yield curve, the cornerstone of bullish ambience" Victor Niederhoffer

—The one that inverted again today?

I think I'm going to count the number of days after an OEX putcall ratio spike on a daily chart until a big correction usually hits.

Ahhh, euphoria, and a weak yen (until it isn't): what more do bulls need?! Whistling… I'm forever blowing bubbles.



no one we knowChimps Are Champs of Genetic Changes, By Virginia Morell ScienceNOW Daily News 16 April 2007

Whose genome has evolved more, chimpanzee or human? You might answer "human." After all, with our nearly hairless skin and larger brains, it would surely seem that genetically we've outpaced our closest relatives since parting company 7 million years ago. But that anthropocentric view is mistaken, according to a new study by researchers from the University of Michigan, Ann Arbor.

The team was searching for genetic evidence of adaptive changes. These mutations are positively selected; that is, they confer a benefit that makes survival and reproduction more likely and have spread throughout a population via natural selection. Jianzhi Zhang, a population geneticist, and his colleagues compared nearly 14,000 protein-coding genes in humans and chimpanzees, which have about the same size genome. Using a statistical analysis, they identified 154 human genes that have been positively selected. In contrast, they found 233 such genes in chimpanzees, a 51% increase, they report online this week in the Proceedings of the National Academy of Sciences.

I recall in high school a good female friend of mine thought dolphins were the most evolved. Yet, she could never answer the question: If they are smarter than we, why can't they avoid getting caught in our tuna nets? And if chimps are so evolved, why were they our sidekicks in 70s and early 80s TV shows and movies, and not vice-versa?

Marion Dreyfus replies:

Prof. Haave's questions are not probative of anything, least of all our putative superior intelligence.

If humans are so smart, why are we continually destroying ourselves personally, tribally, and globally? Everyone on the planet knows smoking is deleterious, stupid, and expensive, guaranteed to produce horrendous medical consequences — yet, um, how many people are still smoking? Unbelted seatbelt, Mr Governor, on the way to a Rutgers confab? Another nightcap, Mr Putin? And what group of 15 chimps would have let themselves be hornswoggled by Iranian dingdongs?

Why does the evolutionary success on land of humankind vitiate the superior adaptation of dolphins to their own environment (eschewing the unfair advantages conferred by nasty weaponry and general mayhem indulged in by human predators lacking the kindness of a clear playing field)?

Again, those anecdotal, highly colored, situational responses or non-escapes by animals prove nothing about whether our animal companions are less clever or adaptively sharp than we.



 Discussion here has previously focused on whether or not there's any basis to 'manmade climate change'. Well actually it doesn't matter. The idea is well established and they're going to start legislating for it anyway. The UK's draft climate change bill is proof that its manmade causes are being presented as a fait accompli.

It's difficult to assess the economic implications of where the greens are leading us but I suspect they're being underplayed just as much as the catastrophic effects of not doing something are being overplayed. In my mind it's not inconceivable that after the local witch hunt for co2 emissions there will be an even greater commitment to planet saving (normal psychological reaction). My guess is that we're going to have issues with free international trade. After imposing expensive regulation on your own industry who's going to want to take cheap imports from planet destroyers?

From a January 31st Financial Times column:

Climate change is no longer a fringe issue; even investment bankers are worried about it. Lehman Brothers and UBS both published bumper reports on the subject on Wednesday. This sudden burst of activity illustrates a central point of the Lehman report: the progress of climate change may be slow and hard to quantify but the impact on business can be sharp and sudden. Already, some houses on low-lying land have become uninsurable and unsellable owing to the increased risk of flooding.

Even if skeptics aren't convinced by the science, carbon dioxide is already having a big effect on the political climate. In the short term, the greatest impact on business is likely to come from more stringent regulation…. 



It's hard to objectively describe a place were you spent your formative years. We each have our Eden, were we learned to live and love. The campus and hills and hollers around Blacksburgs was mine.

The rough limestone architecture of the campus is meant to mirror it environment. While the ruggedness of the mountains terrain is spectacular, the details of the area made my average 100-mile per weeks on foot there not enough. I was always wanting to do more miles, springing out of bed to get in that first glimpse of the sun.

The rugged woods, the myriad trails and streams and the architecture spring forth many professors and students strong in the sciences and strong individuals on and off campus. I can hardly imagine a place more conducive for a student of life than this. The tragedy yesterday makes no sense, except as a great evil, brought about by a mind that accepts revenge as the answer. When revenge is the motive, often massive unbelievable events can transpire, yet sense and justice fail the avenger and the burden falls on the innocent with the most promise. Tonight, I pray for those innocent put through hell.



 When will US markets begin to fall long-term? My answer is simple. This week - 16th to 20th of April 2007.

Why? Two reasons.

(1) Because the panic spasm of Tuesday, 27th February 2007 led to nothing and markets have recovered. This is the moment of maximum complacency!

(2) The UK FTSE index is acting as a giant signpost!

The intra-day all-time high on the FTSE was 6950.6 on the morning of 30th December, 1999. From there it fell to a low point-again intraday-of 3287 on 12th March 2003. Calculate the difference between those two figures, multiply it by 0.876, a well-known Fibonacci ratio, and add it to 3287. The result is almost exactly 6480. Last Friday, 13th April 2007, the FTSE closed at 6462.7, a 6-year high point. There will be some opening buying tomorrow. I'm writing this at 9 in the evening, British Summer Time on Sunday, 15th April. Based on a good Wall Street close on Friday it should push that index up even higher, to about 6480.

So why won't FTSE rise above 6480? Both because of the important Fibonacci ratio point and because something in the real world (and the statistically most likely reason is the US market falling!), it will cause FTSE to move back down from 6480.

Technical analysis and fundamental analysis are both true, but there is something very deep philosophically which follows from this. Simply this, cycles and technical analysis patterns and Fibonacci ratios "know" future history! In other words, the technical analysis/cycle patterns point to a future market high or low point at some future date. Then an event in the real world (fundamental analysis) comes along to give this high or low point a reason/excuse to happen.

At first sight that sounds crazy. But I can remember, some time in July 1990, putting a very large number of FTSE prices into a cycle analysis program. The program accurately forecast a low point for mid-January 1991, and that low point did indeed happen as a result of market fears just before the start of the Gulf War, which happened as a result of Saddam Hussein's invasion of Kuwait on 2nd August 1990, some weeks after the mid-January 1991 low forecast.

The debate about whether technical analysis or fundamental analysis is true is not just like the debate between theologians about whether pre-destination or free will is true. It is directly related to it. In other words, in cycles (technical analysis) we have the patterns of predestination. In the real world of spontaneous events (fundamental analysis) we have the events which give those mathematically predictable cycles the "excuse" which they need to become true.

In fact, free will and predestination only appear incompatible because I am looking at the problem as a creature inside space-time. To the Creator looking at the so-called "problem" from outside space-time, there is no problem. His creatures, although their free will is utterly real, must bring about His unchangeable predestination. That, to me, appears incompatible, irreconcilable nonsense. But that's only because I am a limited creature in space-time and not God!!

I hope your readers find both my market forecast and my link between market analysis philosophies and theology of some interest.

Victor Niederhoffer replies:

The philosophies in this submission, which rely heavily on the persistence and predictability of untested seasonal patterns, are examples of the bearish stick-to-itiveness and durability exemplified by the writing of the duo of the Keech cult.

Much more to the point would be a numerical workout of the movement of prices in the April 15th period forward, beginning April 15th as liquidity returns to the system. Also useful would be the tested tendencies of the market in the period's subsequent period to extraordinarily momentous rises of a magnitude similar to that witnessed in the last two weeks.



 The Collaborator and I recently had dinner with Louis Gave, one of the three principals of GaveKal, and found ourselves in agreement about almost everything in the world of markets, even though we had reached our conclusions by completely different means. The amazing thing was to find Louis talking about the weaknesses of such things as the Shiller predictive work on returns based upon 10 year averages, the importance of the February 27th decline as the key to a bullish future, the differential between bond yields and earnings price ratios as an upward driver, and the coming under performance in commodity prices.

After we left the meeting, Louis and I crossed emails, with me telling him that the Collab. and I agreed that the smartest thing that kids could do was wait for a big decline in the market and then buy a distant futures contract, or spider, and roll and hold forever. Louis wrote that he planned to buy some long term calls on the Hang Seng next time there was a big decline and invest the billions of ultimate profits in land for the kids.

I wish to say up front that it is embarrassing in a sense to trumpet the agreement of someone widely respected like Louis, who runs a big and important business that has put clients with many hundreds of billions under management with the weather gauge, and myself who is a poster boy for how to take undue risks. And yet, because I like to fan that image I thought I'd take a crack at memorializing some of the things that I know something about, on which our consilience was based. I immediately point out however, that there is no reason to believe that anything I say about macroeconomic policy or Asian markets or the dollar has any positive or predictive information content, and I am truly embarrassed to find myself in agreement with Louis based on my views on those specific matters (as opposed to the one or two things I do know about) since as far as I can tell Louis and his team have done about as much good as the weekly financial columnist has done harm.

Gavekal produced an ad hoc comment dated April 4th named 'Why we remain bullish', in which Louis points to five trends as the cornerstone of his belief. In a previous back and forth on this site with Louis he kindly offered limited availability to our readers for his reports, but I will summarize this particular one here. The backdrop is that he finds that the wisest people he knows agree that they should all have been more bullish during the last 5 years, but now they are worried that prices are too high. He believes however that the trends in the world economy are better than ever now because of globalization, emerging markets finally emerging, a financial revolution becoming established, and montetary policy is now on the right track. As for gloablization he has some nice quantitative work showing that volatility of output in the US has decreased markedly in the past 25 years,and as a consequence corporate profit margins have gone from the lower left to the top right of the chart. He elicits a host of factors ranging from increased trade with Asia, to the movement towards a knowledge based economy.

While I am not knowledgeable enough to appreciate fully the implications of his platform company model, or monetary base adjusted for volatility, we found ourselves toasting each other on the idea that rational expectations is such that there is no reason to believe that bankers and consumers always do the wrong thing. Quite the contrary, they are behaving very rationally considering the enormous increase in wealth that has been generated from increases in asset prices like bonds, stocks, and real estate.Louis has an infinite amount of what seem to me insightful ideas about how interest payments and corporate taxes are much less, and therefore profits have much more mojo in the future. However, as he puts it "most importantly our economy has evolved to a knowledge based economy where one only needs ideas and good people, and from these the returns can be enormous."

Next they cover the emergence of emerging markets with many beautiful charts about industry, agriculture, education, investments, expressways, and productivity in China. For obvious reasons I am not competent to comment on the predictive accuracy of such charts.

Next, the financial revolution. He has a startling chart showing that mortgages as a % of real estate values are very low all over the world except in the U.S. and the Netherlands, and he points out that if the trends to increased mortgage in various countries continues, unfathomable spending and better deployment of assets will be released. It is in the area of the financial revolution that Louis comes up with the shocking statement that the February 27th decline is a key to his bullishness. He believes that when huge declines like this are quickly reversed it shows the resilience of the financial system. My contribution to this is the tested assertion that after startling declines, anything that looks like it has the slightest similarity to the preconditions of the past decline is a high expectation relative to risk buy.

I believe that in one day, the February 27th decline duplicated the whole pusillanimity of the spring of 2006, the summer of 2002, and yes, the aftermath of October 19th, 1987 after which all big Friday declines led to to so much more gain on the subsequent Monday than the decline of the terrible day itself.

Louis has a nice table of the kinds of things that chronic bears have predicted during the last five years, and shows that they have happened and the market has withstood them with aplomb. I would point out what we have shown in our bear corner often that what has happened negatively in the past 10 years, has happened in the previous 100, in each of the years, and that conditions are not any more negative now than during the Dimson 10,000 fold return century.

Amazingly Louis had come to his conclusions about the resilience of returns and the case for long term bullishness without reading the Dimson work, which probably is a plus since the great triumvirate in my opinion suffers from a certain belief system all too common in France as opposed to the entrepreneurial ethos in Siliconia.

Another plank in the Louis case for bullishness is that we are going to have lower inflation in the future. He has many simple facts and tables about the trade balance and the hypotenuse of, to me a G and S, nature that support his point. I always find it amazing that with all the brain power devoted to fixed income  anyone could believe that they could come up with a better forecast of where inflation could be than the long term bond rate, which gives a 3% or so expected real return and at 4.7 % is consistent with 2% a year inflation.

A final trend that follows from this in the Gavekal analysis is that because bond yields are so much lower than earnings yield, that all sorts of liquidity will come in to buy stocks from such sorts as private equity funds, and pension funds. Our own work on the differential which is posted in our quantification of the Fed model with actual prospective forecasts of e/p as the basis, shows that during times like these when the forecasted earnings yield (without regard to its accuracy) is a few % over the bond yield, the expected rate of return on stocks is some 20% a year, with an incredibly high accuracy. Amazingly again, Louis had come to the same conclusion based on qualitative analysis of such things as the actual level of savings in the US ("Why do we have all the big mutual funds, the Fidelities, the Alliance capitals, and the Vanguards in the US if the US isn't saving").

I cannot begin to do justice to the Gavekal case for bullishness except to say that I would consider his book "The End is not nigh" one of the 6 most important and helpful books for the investor to own, and that in the course of a rather encompassing career of over 50 years on Wall Street, and in the groves of academia, I have not come across any individual, (except for my friend from Mount Lucas), with sounder insights into the forces that shape investment returns.

Allen Gillespie adds:

Long bonds are not the only markets with implicit inflation forecast. The currency markets clearly have a relative inflation expectation as do the gold market. I would posit that gold, which has risen $140 since helicopter Ben became chair (that would be up at a 13% annual rate), or the dollar index which has fallen at a 7% rate, are telling us something about long term inflation expectations that are in opposition to long bonds.

This is not to say that higher inflation rates are clearly bearish, or that bonds are necessarily wrong, but to point out that the long bond's 2% expectation, which is consistent with the Fed's expectation, may be standing in opposition to other forecasts which may prove more accurate. In fact gold at $680 up from $20.67 in 1900 computes to a 3.3% compounded inflation rate. At the peak in 1980, gold implied a compounded rate closer to 5%. Gold has been rising at a 13% rate since the new chair, and I do not believe this should be ignored. I posit that a new high in gold would complicate the Fed's calculations.

In addition, momentum screens currently are being dominated by inflationary and recessionary sectors, and arbs (which tend to rise during market stress, because of their fixed income, like return profiles).

George Zachar remarks:

The Dallas Fed agrees with the Specs and GaveKal,

As knowledge spreads in our globalizing economy, it unleashes powerful forces that redefine fundamental economic relationships.

In one industry after another, lower transportation and communication costs have knit together far-flung companies and workers, expanding local markets into worldwide ones.

A more integrated global economy generates new competition, identified since the days of Adam Smith as a key to delivering more output at lower prices.

Larger markets bolster incentives for innovation, the wellspring of economic progress. They open new possibilities for specialization, which channels factors of production to their most efficient uses.

Globalization boosts foreign investment by freeing scarce capital to seek its highest return anywhere in the world. Companies can find and manage a broader range of inputs, the raw materials for more efficient production methods.

Where fixed costs are high and marginal costs low, globalization extends economies of scale to output levels beyond the scope of national markets. The connection of competitors and capital from all parts of the world reduces entry barriers in high fixed-cost industries, eroding the monopoly power that keeps prices high.

Knowledge and technology spread more readily, loosening the restraints that shackle progress. Production becomes more efficient…

From Russell Sears:

This may be blasphemous for the gold bugs, but:

Gold is a physical commodity, which historically has implied wealth. When my maternal forefathers fled Russia, invading northern Finland, with as much gold as they could carry, it was due to inflation expectations of currency. Now when gold is hoarded, it is more likely due to the bling factor, not that US currency can't be trusted due to the inflation expectations.

In fact I would argue the opposite. The last 25 years have trained most to think the feds will always be pushing inflation down on the whole. But this causes pockets of inflation and deflation to spring up. Gold, like most items purchased to advertise your wealth, is experiencing high inflation, as the pool of wealth has spread. Gold is still a hedge for the wealthiest against inflation expectations, but not the economy as a whole.

Rather than a sign of coming Armageddon, it's a sign of spreading capitalism.

Nigel Davies adds:

One minor point after a mere six weeks cogitation, is that it seems like quite a contradiction to believe that consumers act rationally here but that the public always acts wrong where stock purchases and sales are concerned. Especially when one considers that stock buyers are likely to be relatively sophisticated individuals compared to the man on the street with a credit card.

I suggest that they will act more or less like sheep in both cases. Perhaps the difference with stocks is that someone may try to deliberately mislead them rather than participate in the shared risk of them overspending. 

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