Ben and his posse.
Monthly Archives: January 2008
Economist Willem Buiter has a dream about the wording of the Fed statement:
Oops! We goofed last week. Clearly, being alone in the office on an official holiday is not conducive to producing the right mind set for rational decision making. Also, that man Noyer at the Banque de France failed to inform us on Monday that SocSec was unloading the massive long equity position built up by that other perfidious Frenchman, Kerviel.
We now have had time to sleep on it. It is obvious that we overreacted. The economy is slowing down but not collapsing. The 75 basis points cut does more damage through the up-side risk to inflation it creates than it does good by reducing the risk of a prolonged, deep recession. “Risk management” therefore requires that we minimize the risk of getting stuck with persistently higher underlying inflation. Consequently we have decided to raise the target for the Federal Funds rate by 50 basis points with immediate effect. We have also decided to raise the primary discount rate by 100 basis points, to restore the normal 100 basis points penalty associated with discount window borrowing, although we will apply a wider definition of eligible collateral.
We all make mistakes. Better to recognise them and correct them immediately, than to sit tight and hope a low-probability scenario with low inflationary pressure and a collapsing real economy materialises that will appear to justify ex-post a decision that clearly made no sense ex-ante.
During future official holidays, the Fed will be closed, except for security personnel and guard dogs.
Because we are shaped by our environment, it is important to remember that the longer we spend in the company of the market, so our perception of the market (eg: as an ecosystem, a battlefield, an unequal competition between players, a fight, etc) becomes important in defining us around the edges.
Sarah Miller: You know you never told us your name.
John Rambo: John.
Sarah Miller: Lived here a long time?
John Rambo: Long Time.
He who would fight monsters must take care not to become one. – Nieztsche
Wyatt Earp: …I’m going to Tombstone.
Crawley Dake: Ah, I see. To strike it rich. Well, all right, that’s fine. Tell you one thing, though… I never saw a rich man who didn’t wind up with a guilty conscience.
Wyatt Earp: Already got a guilty conscience. Might as well have the money, too.
Doc Holliday: What do you want Wyatt?
Wyatt Earp: Just to live a normal life.
Doc Holliday: There is no normal life, Wyatt, there’s just life, ya live it.
Wyatt Earp: I don’t know how.
Doc Holliday: Sure ya do, say goodbye to me, go grab that spirited actress and make her your own. Take that spirit from her and don’t look back. Live every second, live right on through to the end. Live Wyatt, live for me. Wyatt, if you were ever my friend… if ya ever had even the slightest of feelin’ for me, leave now, leave now… please.
Wyatt Earp: What makes a man like Ringo, Doc? What makes him do the things he does?
Doc Holliday: A man like Ringo has got a great big hole, right in the middle of him. He can never kill enough, or steal enough, or inflict enough pain to ever fill it.
Wyatt Earp: What does he want?
Doc Holliday: Revenge.
Wyatt Earp: For what?
Doc Holliday: Bein’ born.
Wyatt Earp: You gonna do somethin’? Or are you just gonna stand there and bleed?
I wonder how Jerome Kerviel was feeling when he was checking his positions. Can’t have been good.
When he hear the term ‘survival of the fittest’ bandied about, people are usually referring to contests of absolute strength and think of the Darwinian struggle for life. Trading is often thought of in a similar light.
It’s interesting to note that while Darwin came up the idea of natural selection, the term ‘survival of the fittest’ was coined by economist philosopher Herbert Spencer. What is more, both Darwin and Spencer were not referring to competitions of brute strength, but of best fit. That is, the survivors were those who best fit in to the environment around them. Brute strength is an aspect of this, but it is only half the story. Adaptation to the environment is also required.
Chance and randomness plays a big role in natural selection, as it does with trading success, but we can be sure that regardless of how strong we are with respect to risk management, discipline etc, if we don’t have an edge then we will likely die out. Likewise, an edge and no strength could prove equally fatal. Because the environment of the active investor is dynamic and forever changing, it may be useful to think of the circles below as constantly moving around about other, only rarely intersecting.
Financial markets are forward looking, giving guidance on the future state of the economy. However, if the Fed lowers interest rates purely because the markets are tanking, we are left to wonder whether the Fed is targeting the true economic problem or whether they are just recalibrating the economic barometer (equity market), and what purpose this will serve. There are endless issues of real effects, feedback loops, confidence etc that make the situation far more complex than this, but I do wonder about the extent to which recent Fed action is a simple deceptive signal, blurring the underlying equity market signal.
It brings to mind another thought about dieting and deception:
It is widely accepted that a slim, toned body is attractive to the opposite sex because it signals that individual are living a healthy lifestyle. The problem is that there is a kind of deception at work. Many people lose weight by not exercising but simply by eating less, and sometimes what little they are eating is not healthy. However, these people still manage to achieve their goal of generating the same signal as people who eat healthy food, exercise etc. They are not necessarily living a healthy lifestyle but have instead focussed on the end goal, the change in body shape.