Daily Speculations

The Web Site of Victor Niederhoffer and Laurel Kenner

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March 2005: Misc. Posts

Note: Many posts can be found under Contributors' pages. (Click the appropriate button on the left-hand side of the Daily Spec home page.)

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Bring Home the Bacon, by James Sogi, Esq.

Dr Niederhoffer says in Education of a Speculator, "I consider Bacon's Secrets one of the best books I've ever read." He reviews it in Chapter 9. But there are few secrets the good Doctor didn't reveal. So here it is, in plain language, a key to successful speculation.

These professionals win because they know the 'inside' principle of beating the races, the same principle that must be used to beat any speculative game or business from which a legal 'take', house percentage, or brokerage fee is extracted. That principle is "COPPER" THE PUBLIC'S IDEAS AND PLAY AT ALL TIMES! That is not abstract theory -- it is practical percentage.
Robert Bacon, Secrets of Professional Turf Betting, Amerpub, 1975

Quote of the Day, Offered by James Sogi, Esq.

Mr. Rockefeller attributes his success to early training and perseverance. That is, like other men who have stamped their individuality upon the affairs of mankind, he is what is termed a causationist; in other words, he believes that nothing is got for nothing, that effects proceed from causes, and the cause of success he believes to be largely perseverance. He believes that perseverance overcomes almost everything, even nature itself, and in that opinion this ordinary business man is at one with the philosophers of antiquity.
Henry Clews, "Fifty Years in Wall Street"

Hear No Evil, by an Estimable Spec

It's not Tyco, but Enron. This denial reminds me of Ken Lay's defense that he was clueless. That this transaction was too complex for his simple mind to understand.

BRK/B went down at yesterday's open from 2870 to 2805, then after the denial jumped back to 2864. Now trading at 2880.

So for now it appears his reputed "homespun charm" is paying off.

Rather than the simple Lay, Spitzer could equate the Sage to Skilling. I believe there could be a smoking gun, if Spitzer can find the e-mail, or AIG execs cave in, detailing the true mastermind. Besides insurance, manipulating tax laws in his favor seems to be a crux of the Sage's genius.

Quote of the Day, Offered by James Sogi, Esq.

Some sage advice to doctors, lawyers and Indian Chiefs from a Wall Street pro in the 19th century that is still good today:

One of the most common delusions incident to human nature in every walk of life is that of a man who has been successful in one thing imagining that he can succeed in anything and everything he attempts. In general, overweening conceit of this kind can be cured by simple experiments that bring men to a humiliating sense of their mortal condition and limited capacity. When the experiment is tried in Wall Street, however, to these healthy admonitions are frequently added irreparable disaster and overwhelming disgrace.
Henry Clews, "Fifty Years in Wall Street"

Where Are the Customers' Yachts? by Jim Sogi

The dangers of overtrading and grinding were as meaningful 150 years ago as today. A nice Sunday afternoon sailing excursion brought to mind William Travers, a notable and witty 19th-century Wall Street bear operator on holiday in Newport, of whom Clews had a funny anecdote:

Casting his eyes across the glittering water , he beheld a number of beautiful white-winged yachts in the distance, and finding by inquiry that they all belonged to well-known Wall Street brokers, he appeared thereby to be thrown momentarily into a deep reverie and without turning his gaze from the handsome squadron, finally asked his distinguished visitors, 'Wh-wh-where are the cu-cu-customers' yachts?' Comment would be entirely superfluous. 
Henry Clews, "50 Years in Wall Street"

Nobody Asked Me, But... by Jeff Rollert

  1. "Wall Street Week" going off the air. I forget when I stopped watching it.
  2. "Jund al-Sham", the group led by Abu Musaab al-Zarqawi, has been working the Arabic Press. In a Western sense, I wonder why a new "brand" of terrorism is needed vs. al-Qaeda/OBL; does it mean the old group/leader has "outlived" its usefulness? And when does this become literally true? The creature evolves...
  3. Having just come back from vacation in Death Valley and its wildflowers (and recent lake) I can't get over the negative press/email/posting sentiment from the lists/services I read. Perhaps it's from having been away and rested.
  4. Spoke at a number of financial planner group meetings that have me completely convinced there is widespread abuse of Monte Carlo simulation software. I wonder how one "sells into" the misuse here within the asset allocation dynamic.
  5. Have become severely sympathetic to truck and RV drivers after my RV trip to Death Valley. I observe that insurance, medical skill and predatory lawsuits have given drivers of large SUVs the belief that large vehicles stop as fast as small ones and maneuver as well too. Idiocy was positively linked to purchase price of car.
  6. Gas stations max out purchases of gas at about $50. That came out to about 1/2 tank on my RV or about 100 miles. Can't be good for RV sales, as I got frustrated I had to keep stopping for gas (or use up cash) on my 5-hour drive. Wife and I decided one trip was enough at 5 mpg. Gas cost almost equaled RV rental cost for 7-day trip.
  7. RV rental/sales area was deserted on both coming and going day. Clearly sales weren't great.

Trend Following: A Reader Writes In

Dear Dr. Niederhoffer,

I have always enjoyed your insights and witticisms regarding the markets, as well as your application of logical positivism to the often murky subject of speculation. To this end, I humbly offer a few unsolicited comments regarding your analysis of trend-following.

First, I do not believe that it is easy to divorce the success of trend-following from the employment of those underlying algorithms which allow for the systematic application of decision rules to the strategic and tactical problems of the trading environment.

I would posit that trend-following is first and foremost a method of trading which can be systematized in the form of quantifiable rules. As befits a scientific method of inquiry, the rules are then backtested on past market data using basic safeguards to mitigate (hopefully) the effects of overfitting. I believe that TF is often associated with the more arcane forms of technical analysis (as I believe was the case in "Practical Speculation", and thus it is commonly assumed that TF violates Popperian rules for falsifiability. I believe this is not an appropriate criticism.

The systematic nature of successful TF implies that TF is actually rooted in a process of reducing objectivity and avoiding behavioral biases (overconfidence in economic forecasting methods, martingale betting, etc.). Perhaps this alone is a major reason for the success that TF has enjoyed in some circles.

Second, I would posit that the source of returns for TF trading systems lies in the amplified tails of the distribution of market returns, but that the relationship is a complex one. If it were a direct and obvious relationship, TF would not work. The first order of any analysis of trend-following potential should, in my opinion, be a series of tests to determine if the standard deviation of market price changes (daily, five-day intervals, weekly intervals, and so on) scales forward at a rate confined to the square root of time. If it does not, then one should consider how egregious the violations are. As another matter, one could begin to try to determine whether the "correct" specification for this distribution must invoke the mysterious and unwieldy stable Paretian family, or perhaps a more tractable and pleasant "Gaussian distribution with Poisson jumps." Last, one could begin to consider why these violations occur---clearly there would have to be a reliable trait within human behavior at work (Reflexivity?).

Is trend-following a perfect approach? No, and the shrill marketing claims of trend-following enthusiasts who have never faced the grim realities of the markets has served only to irritate experienced and skilled speculators. Trend-following systems generally do not fare well in comparative testing until the higher moments of the distributions of returns are brought into consideration.

The large drawdowns associated with trend-following are essentially unavoidable: trends commonly retrace by 30-40% and systems that naively assume that all trends must contain an unbroken, extended period of successive higher highs do not survive long because they cannot, in the words of Dr. Dunn, "ride the bucking bronco." Attempts to impose tight stops on trend-following will gut the performance of these systems (and this is revealed in backtesting) and the shortening of time horizons leads to reduced profit potential competing with fixed execution costs.

Trend-following does not seem to work well with equities. Currencies and fixed-income are much better.

I cherish no illusions about my expertise in this area---I write you this long, rambling e-mail more as a fan of your work than in a pretentious attempt to serve as a coherent ambassador for systematic trend-following. Thanks again for your books and your many wonderful book recommendations and thank you for the elegance, intellectual firepower, and dignified composure that you bring to the profession.

Warmest regards, Sebastian Pritchard

Trendfollowing, by Tim Rudderow

Trendfollowing - using a systematic signal generation method to determine directional trades. Differs from technical analysis (as engineering to art). Important characteristic - all trades are taken.

What does "works" mean - Produces returns that on a risk adjusted basis are roughly competitive with other capital market returns in the absence of skill. Corollary - has some really lousy periods.

Trendfollowing as defined above does not work in stocks because it is providing no economic benefit. In futures markets hedgers need protection and pay for it on both sides of the market.

The Senator responds:

Trendfollowing can be made to work, but it requires something a little better than a close +/- a moving average. It also needs stops and above all management of the trade. It's a long story, but when applied to every trendfollowing system I have seen, the drawdowns are reduced by about 80%.

That is not to say it's the only way to make money. It is a bet that one or so markets will bail out the others. But its knowing what trades to take, with a mechanical filter, that can redeem trendfollowing and whack the drawdows to an acceptable level.

The answer is there.

THIS JUST IN: The President of the Old Speculators Club turns (Momentarily) Bullish!!

I'm prepared to admit that I've allowed last week's events to push me to a slightly bullish position (on a limited selection of sectors and equities - all of which fall below the threshold of hedge fund involvement). The reasons are several.

Early last week I posted a news story indicating that a poll indicated the French would reject the proposed EU constitution and queried whether this, too, doomed the Euro. (Two additional polls have confirmed the initial results.) Shortly thereafter, Mr. Tar posted his reasons for distrusting the Euro as a viable currency. I wholeheartedly agree and point out that just last Sunday the EU, in special session, agreed to judge transgressions of the Stability and Growth Pact on an individual basis. In other words, any EU country is now free to go over budget and, as long as they have a legitimate reason, the sanctions originally envisioned will not be imposed.

A big to-do was made this past week about the Japanese voicing faith in the dollar and its ultimate strength. Well if I had to do my annual mark-to-market one week from now and had as much bum treasury paper on my hands as the Japanese, I'd sure talk it up, too. The yen as a possible stand-in for the world's reserve currency looks only slightly better than the euro. Fifteen years of on-again, off-again recession, plus a population older than ours, plus a manufacturing base that stands to lose far more in relative terms than we, are hardly the hallmarks of a country destined to become the next king of the currency hill.

So, by default and in spite of (not because of) Greenspan, the dollar remains on top. This augurs poorly for some of my cherished positions though it could bode very well for the market. Let's face it, the dollar is still dreck and prevails only by comparison. So what do you do with the prettiest girl in an Ugly Contest? Trade her in for something of worth, something with some intrinsic value. Equities qualify. And though I believe some are more qualified than others, there are enough ugly dollars in foreign hands to generate an wide-spread, indiscriminate asset grab. (Who's going to be the next schmuck to buy Pebble Beach or pay $80+ million for a Van Gogh?)

 Sentiment figures no longer hunt. I wasn't aware of the swing from super bullish to super bearish. No matter, the small investor IMO has little or no influence at the margins. Block trades now dominate trading and small guys are either being sucked along or rolled over. The six-month high in bullishness is not surprising. Despite frequent List comments regarding an abundance of bearish commentary last year, the AAII numbers achieved 52 consecutive weeks of a majority in the bull camp. This has only occurred on seven prior occasions, and the markets were down the following year five times...not enough date points for a bear case.

Last week's results in the commodities markets must be viewed in context and not necessarily embraced as the predictable conclusion of all bubbles. Once upon a time, when the commodity markets were facilitators for farmers, miners, manufacturers and producers who had a legitimate reason to hedge their costs/prices, speculators were few and, as the Chair has pointed out repeatedly, served to limit the imbalances that occasionally cropped up. But we live in the day of the hedge fund - a conglomeration of gamblers masked as speculators.

In the past few months more than a few commodity traders have voiced concern over their increased presence. And well they should. Although the commodity markets may be thought to be large, they are, in comparison to the bond and currency markets, minuscule. The reason should be apparent. In any given year we market just so many carloads of beef, bushels of wheat, tons of copper, and pounds of cocoa. When it comes to currencies and bonds, though, why Greenspan and his counterparts can print those with impunity. So when the hedge funds start big-footing it in the commodity markets, imbalances aren't just a possibility, they're a sure thing.

I believe that's why Jim Rogers has been predicting a sharp pullback in prices. I also think that once the hedgies discover how small and treacherous these markets are, they'll withdraw and return to currencies and bonds (which were, long ago, the sleepiest markets in existence - and then we went off the gold standard and the game was afoot). They're withdrawal, though, will not ameliorate the supply problems that currently exist and I expect prices will once again move up. In line with that I'm appreciative of the Chair's solicitation of Mr. Redel's hypothesis: "'Noting the 7% decline in silver on Monday, I said it looked like silver knew what the fathers at the Fed were going to do. "No," he said. "Silver is always the weakest metal. so it goes down first when there is something bad in the air, and then it follows very slowly when something good is in the air. Also, silver is a by-product of copper so with copper prices up so high, and thus, much supply (as high prices do elicit supply in economics and real life), there is much additional silver waiting for a home at the earliest opportunity."

"This must be tested," the Chair concluded. Indeed it must. I'm not much for getting into economic debates with anyone, much less a Wall Street legend. However, I must point out that Mr. Redel has been consulted before. From Jan. 29, 2003 (on gold): "He's quite bearish. Says that at $400 there would be massive selling by banks. And that this rise been fueled by short covering from miners. Feels that decline in oil could create massive liquidation in gold." "The question is, punk, do you feel lucky? Do you fade a legend twice?" In the meantime, go out and buy some stuff (good stuff)...I'll be doing some shopping, too.

Your momentarily bullish bear,


P.S.: I'm not cemented against any number that's historically accurate as long as it remains relevant. I have two reservations. First, is that number nominal or has it been adjusted for inflation? Second, what kind of record do we have if we start with '71 (closing of the gold window) and/or '82 (the introduction of options, aka derivatives, aka "the tail wagging the dog.")

The Chairman of the Old Speculators' Association.: "We've Hit Bottom"

I'm going out on a limb: We've hit bottom!!

Back in 2000, I called the bottom many, many times. As I said then, I pinched a lot of bottoms, but all I got was my face slapped.

But this time I'm right. For evidence, I cite Lanoptics (LNOP), as a microcosm of the Telecosm. On December 27, it reached a high of 15.17. Yesterday it fell to 6.62. But today it closed at 7.90. What clearer bottom could we have?

Here's to a good rest of the year, as well as a good Friday. -- Dick Sears

Quotes of the Weekend

"One cannot but pity the man with a sallow face and sluggish gait so suggestive of the blue pill, who, when everybody else is feeling the happy impulse of a common prosperity persists in believing that the country is going to the dogs. and steadily sell stocks while everyone else is buying them." -- Henry Clews, Fifty Years on Wall Street

"We live in dread of things that do not happen and keep bemoaning losses that never will occur." -- Goethe, Faust

The Impact of Commodity Index Funds on the Energy Market, by Tony Corso

I am reminded of a time not so long ago, when a firm that made a wonderful living boring six only microns, purposefully, out of round holes, in a straight line in a block of iron, decided they needed to trade oil.

Every month they would roll over a huge position, and every month the second and third nearby contracts would, for no fundamental reason at all, magically go into a steeper contango.

That was then and this is now, but the landscape seems similar. How much money has come into commodity indexing in the last year? To use just one example, how big has a certain fund led by a "talking your pessimistic position up" kind of manager's commodity index fund grown? I want to say something like: this firm grew from zero to $3.5 billion in 10 months. And even if the firm's growth is the most exceptional growth of indexed funds that pre-announce to the market their intention to make money via backwardation and thus pre-announce their intention to roll, aren't the trend followers also following a strategy that requires massive amounts of rolling? With the memories of some sweetly sung ballads drifting through my brain, I'm hard pressed to remember exact figures this early in the morning, but I recall a hazy memory from the FT of commodity funds' growing from $5 billion to $40 billion in in the past three years.

Sure, in the past, the contango might magically appear 'twixt the second and third nearby, and now, for the past few weeks, the first four or five contracts have maintained a slight contango. If, over time, market participants aren't getting older and wiser, they are just getting older. Still, history may not repeat itself, but it sure does rhyme a lot.

Down on the Farm in Metairie, LA: Visiting Market Historian Gibbons Burke

Quote of the Day, Offered by James Sogi, Esq.

Speculation is not to be judged by its occasional excesses, but by the general effect which the foregoing considerations show to be beneficial. It regulates production by instantaneously advancing prices when there is a scarcity, thereby stimulating production, and by depressing prices when there is over-production. It thus becomes one of the most beneficial agents in the business world for the prevention of panics.
Henry Clews, "Fifty Years in Wall Street"

Allen Gillespie on the Altman Z-Score

One cannot help but notice that GM's Altman Z-Score (1.08) is, and has been for quite awhile, among the worst in the market, and that is before throwing out the firms for which the measure does not work like Biotechs. It is certainly has the highest market cap of the poor Z-Score firms.

Victor Niederhoffer on Volitions and Positions

A story on Bloomberg, Wall Street Analysts Flunk on Predicting Own Profits, is consistent with my belief that most markets move in accord with the volitions and positions of the higher-level feeders in the chain, i.e., the big boys, regardless of the fundamentals. And it shows why such luminaries as E and the Sage and Druckenmiller and other biggies and I are often on the opposite sides of trades, much to my detriment and woe. It provides a explanation and the necessity for Bacon's never too often-quoted remark, "The public has no right to lose this much." 


Vic was seen below Canal Street, hobbling on his cane down to Wall Street.

Department of Reader Complaints: Comments prompted by the above sighting.

Russell Sears on Optimism and Pessimism

Any coach worth his students time knows that the trick is to be both at different times. For when it comes to being a student of the game, he convinces his players that nobody needs to work harder and more practice than them. But when it comes time to meet a challenge, he also convinces them not to flinch no matter what the odds.

Allen Gillespie on a Visit to the International Spy Museum

A visit to the Spy Museum is a worthwhile way to spend 2 hours before a game, particularly for a speculator. Among the topics covered were

1) Observation - you were given a picture and told to recognize unusually objects or behavior. Learn to recognize the odd news items.

2) Value of information - section on the WWII code breakers covered the use of the Navejo language by the US. Sometimes what is old is no longer understood which can make it highly valuable information. Keep old systems.

3) Disguises (which are primarily used as a last resort to escape danger) - you need a way to escape for those bad trades.

4) Monetary incentives - section on the recent cases of double agents in the CIA and FBI. Money is a great motivator.

The Grandmaster on Positional Assessments

I recently got a copy of this old book Point Count Chess, by Horowitz and Mott-Smith because of the interesting way it deals with positional assessments. The term is borrowed from bridge, basically you count up plus or minus points for different types of positional advantage or disadvantage (weak pawns, control of the center, two bishops etc) in order to reach an assessment as to who is better.

"We have observed a player actually parting with a piece - a whole piece, mind you - merely for the purpose of avoiding doubled pawns! He had been warned against the horrendous evils of weak pawn structure but forgot (or never fully realized) the absurdity of giving up nine or ten points represented by the piece in order to avoid incurring the one minus point of the doubled pawns. Similary we have seen players sacrifice scads of material for the purpose of maintaining the center, or refuse to move an attacked piece for fear of losing a tempo. These unprofitable trades, in a game where successful trading is of the essence, can be put in proper focus by a more accurate idea of what you are giving up for what you are getting. Distorted ideas such as those illuminated above are more widespread than is generally supposed and pinpoint the need for a systematic Point Count."

The authors readily acknowledge that this is not a 'solution' to chess, just a means of navigation and 'assimilation by the learner of the varying ideas which form the strategic base of the chess game'.

James Tar on Optimism

I have always had a bullish bias on everything that I have ever tried to tackle. My optimism, whether in tennis, academics, skiing or career, has at times put me into some rather difficult, dangerous or even destructive situations. However, it was unquestionably my  natural optimism that saved my life and got me walking again when some thought I would be in a wheelchair.

For my entire life, people have said that I see things "through rose tinted glasses." Even today, I expect to make money on every trade I put on, and I rarely want to go short for more than a few days. I know the odds that I will have losers, but I accept them and move on. They are a joy to take because I know what my winning percentages are, and every loser I have, I stand a better chance of winning on my next move.

Where does my optimism come from? After reading Victor's books, it is clear to me that his optimism might be rooted in many of those wonderful stories of his childhood on the Brighton Beach boardwalk, his internal strength to work hard and, of course, the encouragement and strong guidance from his father and all the others he wrote about in his books. I also was encouraged from an early age, and I think my optimism surely comes from my upbringing. It must have been hard on my father to be as supportive as he was, as he never knew his own father, never had a father figure of any sorts to teach him how to raise a boy. It was hard on him at times, and it was hard on me too, but he was always there with incredible support and a helping hand. He is an amazing guy. My mother is probably where the "rose-tinted glasses" came from, but enough is enough on them for now.

What I am leading to ask you all is, What is it that Makes a bear a bear? The perception coin has two sides. The optimism side has a bull, and the pessimism side has a bear. If my bullish bias is rooted in my optimistic mental architecture, are the bears built on pessimistic mental architectural plans? I would think so.

If I am correct in assessing Victor's optimism and my own as rooted in our childhood, then what do we make of the childhood of the bear? All I can say is that bears have my deepest sympathies.

Larry Williams on Oscar Awards and Stocks

I'm not nearly as much a fan of movies and the Oscar awards as I am of the art of forecasting. A TV Guide prior to the recent Oscar presentation had three "predictors" going out on a limb forecasting who would bag the coveted trophy.

In the 6 major categories the Psychic, Judy Henenly, got three of the six right for a 50% hit. World famous Bally's oddsmakers in Las Vegas did better, picking four winners out of the six for close to 70% winners while Rolling Stones critic Peter Travers scored six for six. Think there's a lesson here for traders?

Yishen Kuik on the Hidden Link Between the New York Condo Market and Chinese Garment Factories

A conversation with a NYC Chinatown property developer this weekend underscored the unexpected ways in which markets are interconnected.

The repeal of US tariffs on Chinese textiles is expected to increase the supply of condos in NYC.

Apparently, many of the Chinese sweatshop operators in NYC are considering repatriating their production lines back to China in light of reduced economic advantage in being on this side of the tariff fence.

They are vacating entire floors in old Manhattan brick buildings, much valued by loft conversion developers who seek genuine brick and timber detailing.

Undoubtedly on a larger scale, the rising tide of housing prices is drawing out supply from all corners of Manhattan, but this seemed an interesting revelation into the ways different markets are secretly linked to each other!

The Death of the Environmental Movement, by Robert Bidinotto

A New York Times columnist blames the environmentalist movement's declining credibility and influence on its "extremism" and scaremongering.

He's wrong. The reason is much worse. Read on

Bacon on Racing: Quotes from the Master Turf Bettor, Forwarded by Peter Gardiner

"But there is no use kidding: The professionals keep out of switches by waiting for the sound overlay spots. They don't play the bad races at both ends of the daily programs. They don't play bad races -- period! When they feel the least bit of doubt, they walk away from the mutuel windows and step into the bar for a leisurely drink that will last until a better spot comes along."

Robert Bacon, Secrets of Professional Turf Betting, Amerpub, 1975, pg 27

" I don't want to be like Pittsburgh Phil and win a million dollars at the races. I'd just like to grind out $25 a day for myself without any risk!"

How many times have you heard something like that from turf fans who were trying to be "convservative" at racing?...Oh Brother! You can add this 'grind' idea to the long list of other unsound notions held by the public play....One sure thing that a smart player engraves deeply into his skull, is the fact that you MUST speculate at the races. You CAN'T grind! ...

The player at the races can't grind or chisel because [that girl] is taken. The racetrack has all grind and chisel privileges! The mutuel take and the breakage add up to a percentage that continually grinds and chisels the betting money...The grind privileges are spoken for and taken, so the professional bettor must speculate. The mutuel grinding only goes one way - against the bettor. But any percentage can be overcome by enough winners at fat enough prices!

...fortune favors the speculator over the grinder becuase of the plain old arithmetical percentages. The speculator has a percentage chance to win. The grinder has no chance...

...To beat the percentage of the mutuels, the player must ALWAYS have an overlay. He must always have an extra percentage in his favor, to counteract the "take" percentage. Forget about this idea of 'grinding out a days pay.' If you want to make a day's pay at the races, get a job watering horses, or pitching manure into trucks. But never try to grind it out of the mutuels. op cit, p. 83-89, "You Must Speculate -- You CAN'T GRIND!"

Fed Chairman Alan GreenSwan, by George Zachar

In the opening sentence of his latest MacroEconomics 101 lecture, the Fed Chair hints that even he has been expecting the appearance of a dreaded Black Swan:

"The U.S. economy appears to have been pressing a number of historic limits in recent years without experiencing the types of financial disruption that almost surely would have arisen in decades past."

He then waxes poetic (for him, anyway) about how globalization and de-regulation have altered the economic playing field, allowing for the current prosperity/capital flow situation.

One disturbing passage directly addressed the vaunted housing bubble:

"...a destabilizing contraction in nationwide house prices does not seem the most probable outcome....nominal house prices in the aggregate have rarely fallen and certainly not by very much. And even should more-than-average price weakness occur, the increase in home equity as a consequence of the recent sharp rise in prices should buffer the vast majority of homeowners."

 We now have a textbook entry for the phrase "self-referential moral hazard."

Anatomy of an Operation, by Victor Niederhoffer

Things couldn't have looked more bearish this week if the Boy Wonder had orchestrated it himself. It started with Texas Instruments announcing that sales were not going to hit the upper end of their forecast. Then the next body blow was crude's rising above $55 a barrel in conjunction with an all time high for copper at $1.50 a pound and corresponding inflationary numbers for gold at $444. Then the dollar got killed a fast 3% to show that the Sage's $2 billion profit in calendar 2004 was no fluke and that his prediction we would become a Third World economy, in contrast to those he finds more favorable, such as Japan and the great economies in Western Europe like France, would come true. Big articles all over planet Wednesday night about how analysts expect Intel to lower their previous high sales guidance. And of course, bonds down a fast 5% in the last week receding to below the year-end level was the final and lethal body blow. It all was so pat. No wonder the S&P index receded to 1200 this morning as all settled in for another afternoon massacre. The only thing missing was the perp's DNA at the scene.

But then, in one fell swoop on Thursday, oil down 8% from the Wednesday high, bonds up a nice full point, stocks up a fast 1% from the low, and to maintain perfect symmetry the signature of the crime ends with Intel reporting sales guidance above the previous forecasts.

I have been reading the excellent book Forensic Science: An Introduction to Scientific Investigative Techniques edited by Stuart James and Jon Nordby. I paid particular attention to methods of finding the signature of the crime and criminal investigative analysis, the template for criminal profiling. I consider the modus operandi of the foregoing a great case study for my own contributions to this field.

So Where's my Börsmoppe? by Martin Lindkvist

Inspired by a recent discussion of ethnographic sterotypes, and down over a week with the mother of all flus, I leafed through some books and did some Googling on how Swedes are looked upon and found the usual remarks such as: "Swedes do not say anything unless they are asked" and "Swedes are so slow to come to a decision that even Japanese people wonder what is going on", mixed with an interesting statement: "Many Swedes are very interested in the stock market which for example shows in the fact that more than a third of their savings are in the stock market".

It made me think about the triumphant trio who have documented stock markets all over the world, showing they have given on average a return of about 6% per year after inflation. Surprisingly, at least for me, since I feel the tax pressure every day, Sweden comes out on top with 7.5% annualized growth. This might be a fluke and a reversion to the mean might be in the cards, but I am still surprised since the figures are for the last 100 years, and Sweden has for the most part had a socialistic government that has taxed the citizens very hard.

According to data from the OECD Revenue Statistics, the total tax pressure as a percentage of GDP was 50.2% in Sweden in 2002 compared to the US 26.4%. The figure is still over 50%

Any thoughts on this, or in general on the differences between stock market returns internationally, over the last 100 years as shown by the trio?

Art Cooper responds:

Obviously, a major factor is the base period against which the compound accumulation is measured. My recollection is that Sweden in the 1800's was one of the poorest countries in Europe, and is now among the most prosperous. This would be reflected in stock market performance, and could easily outweigh the less onerous tax burden in the US, which was comparatively a very prosperous country 100 years ago.

Kim Zussman suggests:

Nobel laureate Edward Prescott might counter that international differences in productivity and markets might have more to do with effects of taxation than breeding.

I read years ago that doctors in Sweden quit working late each year to do home projects rather than pay usury taxes. Can't be good for divorce rate, though.

Martin Lindkvist replies:

His findings fit with what any Swede taxed at a marginal tax rate of 55% could tell you. My better half actually told me today that she plans to go down in work time if she creeps up over the 30% tax bracket to 50% marginal tax. Then there is the VAT at 25% and on and on it goes...

Glad to hear that Europeans have just as high a work ethic as Americans given equal taxation, but I still do not understand that given such high taxation, the Swedish stock market was the best over the last 100 years.

Yes, both I and my better half are home tonight by the way, but we are on different floors of the house so no risk of divorce.

Art Cooper Responds:

It made me think about the triumphant trio who has documented stock markets all over the world , showing that they have given in average a return of about 6% per year after inflation. Surprisingly, at least for me since I feel the tax pressure every day, Sweden comes out on top with 7,5% annualized growth. Any thoughts on this, or in general on the differences between stock market returns internationally the last 100 years as shown by the trio? Martin

Obviously, a major factor is the base period against which the compound accumulation is measured. My recollection is that Sweden in the 1800's was one of the poorest countries in Europe, and is now among the most prosperous. This would be reflected in stock market performance, and could easily outweigh the less onerous tax burden in the US (which was a comparatively very prosperous country 100 years ago). Art

Merton John, by Kim Zussman

Goodbye normal mean
Thought I knew you too well
You had to have the perfect tail
Not big or too small

They crawled out of the hedgework
Positioned very lame
We set you on a pedestal
Normal was to blame

And it seems to me you caused us strife
Cup and handle in the wind
Never knowing who will buy it
When the pain sets in

And I would have liked to own you
But I was just a kid
My mojo burned out long before
Your volatility did

With Apologies to Emmylou Harris, a reply by a Prosperous Spec

Does everybody here see my old friend Merton,
Can you tell me why he's back?
He lost a lotta money, but it seems no one recalls
Modesty's just something that he lacks.

Has anybody here seen my old friend Myron,
Can you tell me why he's here?
He set up that big tax scam, but it seems no one recalls
Guess he's got nothing left to fear.

Has anybody here seen my old friend John,
Can you tell me where he's gone?
He lost 4 billion, and he plays under the radar
He's still got money left to run.

Didn't you love the fund that they'd set up?
Didn't they set the all-time hubristic record?
And we'll be free
Someday soon it's gonna be one day

Has anybody here seen my old friend the Expert?
Can you tell me where he's gone?
I thought I saw him walkin' up over the hill
With Merton and Myron and John.

March Madness, by Tim Melvin

Be advised that in ten minutes the ref will walk to center court at the MCI Center and toss the old rounder up, and Maryland and Clemson will clash in the first round of the ACC tournament, and the Mid-Atlantic region will shut down for the balance of the week. In Maryland, around Charlottesville, Blacksburg, Miami, it's tourney time and they take this seriously. The state of North Carolina is closed for the next two weeks with first the ACC and then the NCAA big dance. With Duke, Wake and Professor McNabb's beloved Tar Heels all capable of winning the whole thing it will be impossible to have a conversation without hearing of Blue Devils, Tarheels, blocking fouls, hacking, three-pointers, slam dunks and why in the heck did they switch to a zone? Beer sales will soar, marriages will sour (can you imagine being a Dukie married to a Tar Heel this week?), pizza deliverymen will have to be imported from northern states to meet demand and electronics salesman will be blowing their huge commissions on plasma TVs, betting on the team of their choice. So if you need to talk to an adult male between Baltimore and Miami you have ten minutes to complete your business. After that we're off on religious holiday...

Alas my beloved Terps seem to have little or no chance again this year. Of course, no one gave us a chance last year and we won it for the first time in 15 years...

Justification of the Crowd, by Bonnie Lo

I am often asked, 'When are you getting married?' or 'When are you buying a condo/a car/[whatever it is]'. These questions came even more as Valentine's Day approached and passed, with colleagues and friends puzzled when I not only did not have a ring after the 14th, but did not celebrate the particular day (every day should be Valentine's Day, gentlemen and ladies). As I discussed my disgust with the questions, my other half helped me come to some insight: It's because Everyone is doing it. It's Expected.

As with the purchase of a condo I completed months ago. Even my attorney asked why I was buying at that time. But prices have not gone down as they appear to. The undesired suites are beginning to be discounted or come with special deals, but if you want a good floor or a good location, the price is still pretty much the same as before. The data do not appear to match the appearance, although my counting of ads, prices and offers among condo guides is not particularly scientific. And so, many fail to understand my response and timing to issues in which Everyone else differs. I would like to explain my decision as a price versus value theory with a market segmentation bit, but that perhaps is a bit too much.

The insight is that Everyone expects me to act just like Everyone else for the justification of his own decision. The covered pit, I see it now. Traffic, market, fashion, ethics, walking patterns -- it's all the same. To question others or make others doubt when acting independent of popular opinion, and the polite disagreement, the venerable head-shaking when dancing alone.

Now I wonder, acting differently, if someone can add doubt to the actions of others, how to pick up on the reaction to profit?

Counting the stars and wondering of the myriad probabilities.

Sightings: Vic was sighted hobbling on his cane below 15th Street, perambulating towards Trinity Church to scratch the back of a member. 10:15 AM Wed Mar 9

Why Did Bonds Crash? by George Zachar

Away from the previously cited supply issues and the fact, clear with perfect hindsight, that folks were leaning long, there is the ever-present issue of mortgage backed securities' negative convexity.

That is, they extend in duration as rates rise.

Look at a duration chart of the largest single cohort of mortgages, FNMA 5.5% coupon 30 year maturity. Your eyes do not deceive you. Their duration/risk profile TRIPLED in the last four weeks.

The bad news for debt longs is that this means hedging needs have mushroomed, and pain thresholds are uncertain. The good news is that the last three times FNMA 5.5's duration hit four years, rates peaked.

What's potentially different about this cycle? With the GSEs on a mission to shrink their portfolio risk, this pattern of rate rises and duration extension is a gale force headwind. They may have to puke, er, sell paper, rather than passively let it prepay/rolloff their books.

Another "difference" is that the resteepening of the curve means the Fed can tighten that much more without risking a potentially scary "inverted" yield curve.

In other non-headline, non-obvious news, the December bond options whose sub 8% vol I've mentioned before are history. Those implieds are "where they belong" around 8.5%.

See our Buyback Study Update

Death of a Meme, by George Zachar

Parenthetically, global weakness at yield curves' long ends concurrent with a rush to sell long paper by less-than-stellar entities, marks the end of the "buy long bonds til your hands bleed because there ain't enough to satisfy the pension dynamic bid" meme.

We'll Whup 'Er, by Andrew Moe

In the age of inbred entitlement, it is refreshing to look back upon the "can do" spirit that led so many of our predecessors to great fortune. In Ken Kesey's Sometimes a Great Notion the Stamper family never gives an inch, breaking strikes, the rising river and insurmountable odds alone on the frontier to establish a foothold in the new America.

It is story of what makes America great. Here is an excerpt:

"And the only thing father asks, " the boy said after the term of generosity was up, "is that you become a member of the Wakonda Co-op." He handed a sharpened pencil and a paper to mother. She took glasses from a black coin purse and studied the document for a long time.

"But ... doesn't this mean our feed store?"

"Just a formality."

"Sign it, Mama."

"But ..."

"Sign it."

It was Henry, the eldest. He stepped forward and took the paper from his mother and put it on a plank. He put the pencil in her hand.

"Just sign it."

The thin boy smiled, watching the paper warily. "Thank you Henry. You're very wise. Now, as shareholding members this entitles you folks to certain deductions and privileges-"

Henry laughed, an odd, tight laugh he had recently developed, able to cut conversation like a knife. "Oh I reckon we'll whup'er without certain privileges." He picked up the signed paper and held it just out of the other boy's reach. "Probably without being members of anything, too."

"Henry ... old man-" The other boy blinked solemnly, following the paper's teasing movements, then began reciting in unconscious parody of his father, "We are founders of a new frontier, workers in a new world; we must all strive together. A unified effort will-"

Henry laughed and pushed the paper into the boy's hand; then stooped to select some choice rocks from the river bank. He skipped one out across the wide gray-green water, flashing. "Oh, I reckon' we'll whup 'er."

Dot Plot of S&P, by Victor Niederhoffer

A very useful way to plot market data is a ordered dot plot. To make a dot plot, place the values on the x axis (not the y axis.) but plot them consecutively 1 at a time on the y axis. Instead of moving in time horizontally,1 box at a time and plotting the values on the y axis, you move 1 at a time vertically and plot the value on the x axis. For examples, click here:

Risk Aversion, by Peter Gardiner

It strikes me that there is another possible explanation - aside from oncoming catastrophe - for less than 4% cap rates, historically low junk/treasury spreads, low ten-year rates and a huge risk premium demanded by stockholders: Risk Aversion. In a mistaken belief that all "fixed" income instruments or "market-neutral" strategies can deliver return without risk, the price of the risky asset has been driven down to the point where it is now yielding 300-400 bips more than a "riskless" asset whose coupon will never grow. It may well be that the catastrophe is visited upon the risk allergic, rather than the risk tolerant - i.e. in bond/real estate/market-neutral land, not stocks.

A Draughts Lesson, from Alan Millhone

The below is an extract from the English Draughts Association Journal Issue 166 featuring Alan Millhone, President of American Checker Federation.

Is Gold a Better Investment than Oil? by Professor Bud Conrad, reviewed by Jeff Sasmor

I'm unclear how overlaying the charts should convince me that we are headed for $800 gold or that the prices of the two items are really related. No offense intended, as I understand that gold is religious; like what text editor program you use or whether or not you hate Windows.

I often wonder why no one talks about the tax consequences (at least in the USA) related to gold.

It's not treated as property subject to cap gains rules; it's a collectible and you pay an extra 20% (+-) US federal income tax. This is true even if you buy the gold ETF. But obviously not true if you buy gold-related stocks.

Now, for something analytical:

Is there any evidence to show that a long-term buy and hold of gold would do you a lot better than a long-term buy and hold of, say, SPY or IWM?

To me, this chart from kitco.com looks more-or-less flat +- 25% for the last 20 years.

This chart from Yahoo shows a change in the S&P index from roughly 200 in 1985 to about 1200 today. That's huge, and my uninformed opinion is that a lot of that change is due to Overall Generalized Inflation of Financial Assets or OGIFA (a term I just made up). Plus there's only 15% tax on the gain (although this is only a recent phenomenon and may change).

Indeed, you would have done much better to invest in gold mining companies (rather than gold) since about 2001.

So give me a nest of spiders over a box of gold.

That said, a kilo or three in the safe deposit box isn't a bad idea, as a backstop for catastrophe perhaps; not as an investment. Like when I expected all the ATMs to stop working at 12:01 AM on Jan 1 2000 and I stuck a bunch of cash (AKA fiat money) in the dresser drawer just in case.

Professor Conrad responds:

Even Jim Dines, an old gold bug, would have loved your "Overall Generalized Inflation of Financial Assets or OGIFA".

Just for clarification, gold traded as futures is taxed as 60% short term, 40% long term, capital gains, and leverage is much better than the gold mining stocks.

To make a point: try some mantras: "Gold is the only real money." "Gold is just another currency." Indians traditionally use gold as a store of value, even in jewelry that goes with the family through marriage. My reason for showing the oil/gold overlays and the correlations is to suggest not what details are specific to the intrinsic value of these two commodities, but to show what the value of the dollar is. The dollar is worth whatever it can be traded for.

In addition to all the individual reasons for either commodity to move, I say that viewing how the dollar is moving is what is more fundamental and behind so many of the current surprises in prices, especially for world traded goods. The patterns of other metals, even of grains in the last few months show a mistrust for the value of the currency. My point really is that all these things are related through the change in the measuring stick, namely the value of the dollar itself.

So really I am talking about the dollar as much as I am talking about oil or gold. My perspective is different in that I look to gold as giving value to the dollar, especially up to 1971, but now look to oil as taking on that role. There are important reasons that gold and oil will remain more scarce than dollars, so both are likely to rise. My ratio points to gold as being a laggard, and therefore perhaps the better risk in the base scenario of the decade long reversion to the mean of physical assets compared to financial assets. This is a parallel version of Bow Tie's new book.

The nest of spiders I see is the value of paper money issued by our governments. Yes, I'm a 1970s gold bug, so take everything I say as coming from a base of Mistrust in the Economic Term Asset for the Long System. METALS Ah! that sounds good. Gold is up $5 today.

Professor Mark McNabb adds:

What's old is new again, in music and in gold.

True in women's fashions with hiphuggers and mini's and high boots. In music, the alt-rock scene has become a cinema-verite of post-new wave / punkabilly entrepreneuship. Bands like White Stripes, the Strokes, and the San Diego bred Louis XIV sound more British than American, sound more like 1978 than 2005. Nice to see the edgy become edgeless.

On a portfolio basis, the oil demand / supply imbalance, which cannot be solved with paper transactions by central bankers or in a short period of time by macroeconomic adjustment in supply or consumption, makes oil a far superior investment to gold historically and going forward. China rumbling the skies over Taiwan again, just to keep the waters of SE Asia interesting - as well as the gold and oil markets.


Bull Market in French Blacksmithing, by George Zachar


A Piece of the Sandbox, by Bo Keeley. In which the Hobo assists software entrepreneur Arthur Tyde in a search for a desert retreat.

A Taste of Sand Valley, by Ken Smith

"Everyone in Sand Valley has a proven inability to adjust to society."

Bo's account of his friend Art Tyde's visiting Sand Valley confirms my prescience in taking my trip there also. Sand Valley is the future. Bo has built structures on his property that will defy a nuclear holocaust and enable him to survive for a minimum of one year without fret about water or food. Men and women of talent and foresight will be his neighbors.

Bo's neighbors are individualists, freedom lovers, maybe anarchists from the looks of it. A libertarian retreat there? But I would not say Sand Valley is a place where characters have proved their inability to adjust to society. That they are different from the ordinary I cannot differ in opinion. But that difference is evidence of their ability to adjust to society; they have adjusted, they got out. Everyone I met in Sand Valley was congenial. Maybe because my identity shows thru my facade. I am one of them.

A Review of David J. Hand's Measurement Theory and Practice, by Stephen Senn.

Offered by George Zachar

Measurement theory provides a similar touchstone in science to linguistic theory in philosophy. Some see it as fundamental, others as trivial. Most scientists regard it as a distraction, as they seek to theorize and measure, but not to theorize about measurement. It is surprising how many statisticians are largely indifferent to the nature and purpose of measurement. To be sure, there are many statistical theories of errors in measurement, and plenty about probability, but these are not the same as theories about measurement itself. Statisticians have a tendency to limit their contributions in research collaborations to advising or determining how measurements should be analysed, and how many should be taken, rather than what the measurements should be. Even in the field of experiment design, the emphasis is on choosing patterns of inputs to the experiment, rather than advising on the measurement of outputs. Read entire review!

Ari Siegel's Poker Parlor

A reader mentions he likes to play poker. He claims to make money, although is admittedly not a great player. His strategy is to play a smart game, and make his money from the true suckers who throw dumb money into the pot. His experience is that the sucker-money outweighs the house vig (the percentage the casino or whomever runs the game takes out of each pot) and he can make a buck here and there.

Comments: This is a strategy that generally works only at low limits where the players aren't very good, or very selectively at higher limits. If he moves up to a big game, he'll often be outsmarted after a few sessions. Or the smart players will set him up for a big losing day that will cripple and demoralize him. A very good strategy to know, but even more important to know its limitations. Analogous to the markets.

Trail's End, by Rick Ackerman

Book collectors who follow the wholesale end of the business might be interested to learn that Larry McMurtry is shutting down his four-building operation in Archer, Texas. His inventory of 400,000 books includes many first editions, rarities and autographs. McMurtry says that it wasn't the big sellers that drove him out of business, but rather a dearth of youthful readers. He is 70 and eager to travel.

The Hobo Way, by Ken Smith

I left Seattle last Wednesday to visit Bo Keeley in the desert near Blythe, California - 50 miles out from town, absolute isolation there.

Victor has posted Bo Keeley's essays here many times. If you want a conversation with a famous hobo, writer, sports champion, desert fox, animal vet, master of biological sciences, avid reader, adventurer, world traveler (by hiking), and general overall genius, then get in touch with this man.

My three days with Bo would make a long story, but I am as yet unprepared to write it.

As End of Quarter Approaches, GE Goes to the Earnings Silo, by Ross Miller

Interesting the timing of GE's sale of Genworth shares and that rather than offering the shares directly to the market, they are offloading the shares to Citi.

Letter to the Editor, from Sushil Kedia

1) Near month oil futures, e.g. April 05, sitting at an all time high on close basis already. Implied volatilities are nowhere yet near the speculation-busting levels of 55% seen at the last high in October 04. However, the prices are sitting just under the 2nd standard deviation line drawn as a parallel to the rising regression line since $42 happened last quarter.

2) The USD Continuous Index on FINEX has broken downwards out of the regression channel (+/-2 standard deviations) across the regression line of the rising rally since the 80 levels since in December, ending  with a large runaway gap (conventional chartistry may kindly be pardoned for a moment). A slip right down to a new low on this index to 79 now appears more probable. The Dollar seems prepared to pay one final homage to the Sage's favorite short position.

3) CRB Index has broken upwards with a bang into a new high.

4) DJIA has broken up into a new high.

Q.1 NASDAQ is refusing to budge upwards with this dollar related inflation. What might be happening out there?

Q.2 Where is the oil contract headed from here?

Q.3 I recall the Chair's mentioning Eastern markets leading the pulleys and wedges of the global market ecosystem some time ago. Being a die-hard technical analysis aficionado so far, I can see that clearly on the charts. But, what would be an appropriate way to construct a testable hypothesis of a truth that one can see more intuitively on the charts? See, the Nikkei broke into a new high, BOVESPA broke into a new high, STI broke into a new high, BSE Sensitive Index broke into a new high, then FTSE broke into a new high and now the DOW is about to! But there are many ways to build an appropriate question to test what we can see. Any discussion on this would help in getting a closer hang of the pulleys working inside the global market ecosystem.

Disaster Science,  by Victor Niederhoffer

The Science of Disasters, edited by Bunde and Kropp, presents many methods designed to predict disasters. The book’s first section is on methods of analyzing disasters, namely information theory, chaos theory, and time series analysis. The second section deals with applications to meteorology, the third concerns biodynamics, and the fourth is on the stock market.

The best of the disaster-prediction methods is in an analysis of how to predict cardiac fibrillation using the information theoretic concepts that we have previously discussed, best covered in Theil's work, using variants of the conditional sum of - p(i) log p(i) at various local parts of the curve compared to the unconditional distributions.

The book has many good methods discussed reasonably clearly, and many applications to interesting and important fields. It's recommended for this purpose.

What's sad, however, is to see so many good minds with absolutely no feel for useful statistics work or good research. All of them fail to compare their prediction models with naive forecasts made without retrospection. And the conclusions of the stock market people that they can predict better than random are false and completely unjustified. One can only wonder why so many highly intelligent people could be so misguided and useless in their pursuits.

One of Mr. Wiz's favorite adages comes to mind: There aren’t any senior mathematicians at any of the universities of Eastern Europe, because they're all working for the derivatives departments of banks and hedge funds.

I feel great humility while reading The Science of Disasters.. Maybe all the experts who hate business are right in seeing disaster everywhere. Maybe the pure mathematicians without practical experience are right. Perhaps the eminent professors and the sabbatician derivatives expert are right in thinking that the profits of those who sell premium in one form or another are will-o’-the-wisps, disasters waiting to happen.

Certainly the training, intelligence and resources of such experts are far superior to my own.

J.T. Reviews "Famous Financial Fiascos" by John Train

On a less predictive note and corporate corruption theme, I just finished reading John Train's "Famous Financial Fiascos". This is what Mr. Pomada calls a cookie and milk book? Took ninety minutes for a slow reader (myself) to finish! Mr. Train wrote this in 1985 so the aforementioned fiascos today mentioned on List might make newer edition? The usual Tulipomania/ Ponzi/ Whitney/ John Law things are among the list of famous mistakes. Ones that were newer to this greenhorn that others on the list might want to chime in about are: 1) ContiCommodity advertisements and advice that they ended up following themselves. 2) I.O.S. Bernard Cornfeld's Follies (never tells what IOS stands for though). 3) Whiskey in Mali. 4) Xerox discovers the Computer: S.D.S. debacle and Max Palevsky. 5) Flameouts of Technical Analysts ala James Dines, Joe Granville, and William Finnegan. Read Full Review!

Street Life in London circa 1876, by Laurel Kenner

There's No Substitute for Experience, by Nigel Davies

Writers who do not play (and perhaps never played) can start to forget about the realities of the game, yet they have to talk themselves up and sound impressive to sell their books. The stronger they were at their peak, the less likely this is to happen. But with the weaker non-playing authors almost nothing they say is really true. This leads to the interesting phenomena that you have a whole range of 'experts by book' and then those who think they are 'knowledgeable' through having read these books. But what they have in fact been learning are irrelevant and even damaging half-truths.

I claim that what is useful in chess (and indeed markets) can be measured only in terms of a player's results. It has nothing to do with what they've read and everything to do with how they think.

Irrational Exuberance, by George Zachar

In the post-employment report doldrums, I am whittling away at my "research to be read pile," and hit a gem from academic economist Stephen Cecchetti.

The punch line is this: During 1997 and 1998, economic forecasts by the Federal Reserve's board staff "invariably assumed that the US stock market would decline significantly -- 10 to 20 per cent declines in the Wilshire 5000 index were commonly the basis for the forecasts...."

One Place Where Speculation is Not a Dirty Word, by Sushil Kedia

The Union Budget introduced in India on Feb. 28 included a reduction from 35% to 10% in the income tax rate on profits from derivatives trading and speculation, effectively turning speculation and derivatives trading into the least taxed business in India. The trend had begun in the previous annual budget, when the government. reduced the tax on short-term capital gains (income tax on gains in holding underlying securities for less than a financial year) to 10% from 35%.

I have been trying to find out if such a measure has been taken by any other government. If there are  precedents, then has there been any visible change in the flow of risk capital into those economies?

Given the fact that taxation pinches the heart of a speculator most, it would seem logical that trading capital would tend to gravitate more towards lower-tax territories, other things being equal. Implications of such a scenario could be deep,  given that the BRIC economies are increasingly gaining space on hedge fund radars.

Coupled with this situation is also a fact that a good number of hedge funds desiring direct presence in the Indian Equities market are finding it difficult to obtain registration from the local regulator, the Securities and Exchange Board of India (SEBI), due to lack of a five-year track record and not having obtained registration with a regulator in their country of origin. Hence, the bulge-bracket firms like JPM, Bear Stearns, Goldman Sachs, etc., have been building huge books out of Hong Kong writing Participatory Notes to these hedge funds to play the India market. As and when the local regulation becomes more comfy with allowing far more direct registrations, the older hedge funds and the ones that have built suitable access structures might then find themselves at an edge before a large wave of risk capital hits this market.

Any studies, data or thoughts on this hypothesis would really be helpful in deciphering from similar circumstances that may have happened in any other market in the world. Please throw in any facts, ideas or studies that you may have.

How to Bankrupt Wal-Mart, offered by Don Boudreaux

3 March 2005

Editor, The New York Times
229 W. 43rd St.
New York, NY 10036-3959

To the Editor:

Management professor Linda Nottingham (Letters, March 3) accuses Wal-Mart of mistreating suppliers and offering low-quality goods and services to consumers. If she s correct, she would do herself and us a big favor by quitting the academy and starting a retail chain to compete with Wal-Mart. She'll find grateful suppliers to stock her stores with high-quality wares, and throngs of consumers swarming in to buy them. Wal-Mart will either reform its ways or soon be in Chapter 11.... if she's correct.

$20 Billion Oops, by George Zachar

Latest version of "why the bond market went down on Monday", for those keeping score, contradicts my earlier analysis, but seems, for the moment, to be the final word. The biggest swaps dealer needed to sell ~1,000 strips of eurodollar futures spanning spot to five years....@ 4 contracts/year (quarterly expirations) that's 5 years x 4 contracts/year x 1000 = 20,000 contracts. At $1 million ea, that's $20 billion.

Such transactions are quite routine for swaps dealers, with eurodollar strips offering the right mix of charcteristics to balance swap portfolios. Well, the poor soul at the terminal supposedly hit the BUY button instead of the SELL BUTTON. When the desk realized the error, they immediately (tried to) reverse the trade, meaning they had to sell (at noon on month-end, as it turned out) $40 billion notional...half to get flat, and half to get the position right. As Paul Harvery would say, and "and now you know the REST of the story".

Allen Gillespie adds:

Such a mistake must fall in the guaranteed to happened and guaranteed to cost you money category. Every time I have heard of such a mistake it has served as a lure to those seeking easy profits to provide liquidity to a large player looking to go the other way (usually in the direction of the testing order).

Victor Niederhoffer: 1% a Year

Power Laws, by Victor Niederhoffer

Probability Fields, by James Sogi

The World's Richest Knight? by Thomas Lukacovic

Yahoo is reporting that Bill Gates will receive his honorary UK knighthood on Wednesday. He doesn't get to call himself 'Sir' though. He becomes a Knight Commander of the Most Excellent Order of the British Empire.

Is this a Chair sell-signal for MSFT?

Is it going to be Knight Sage of Omaha next?

George Zachar adds:

This immediately brings to mind the knighting of Alan Greenspan a couple of years ago. I googled up the date, and lo! It was hard upon THE low bond yield print of that year.

A Great Example of Ever-Changing Cycles

For those who follow the oil services, you might recall in May the top ranked oil services analyst downgraded the group, causing the OSX to drop from 100 to 95. Now at 141. Voicemail today where he admitted he was wrong and went so far as to say that "cycles change"

Skirting the Issue, by Kim Zussman

My 8th grade English teacher told us that an essay should be like a mini-skirt: Short enough to be interesting but long enough to cover the subject.

Markets appear predictable enough to be interesting but random enough to bury the subject.. .

Mathematical Group Theory for Pattern-Meisters, by James Sogi

The mathematical theory of symmetry and its formal structure of group theory has some interesting ideas for pattern-meisters of the market.

Broadly speaking, a group is a set of things and a rule of combination such that the combination of any pair is also a member of the set. Point groups leave one point of an object unchanged. Frieze patterns, such as the frieze on the Parthenon, containing a repetitive motif, allow only five possible patterns, though the motifs may differ. Patterns on wall paper extend in two dimensions forever, but there are only seventeen possible patterns under group theory. The net is an array of dots that represent the location of the motif, and the combination of the motif and net define the pattern. The key here is to mathematically distinguish the market's the 17 patterns possible from the motifs, of which there are many, then test those for bias according to usual methods. The group theory allows one to classify the market bar charts into 17 discreet possible patterns with mathematical rigor and test them, which, as they say, is left as an exercise for the reader. (cf. Atkins, Galileo's Finger)

The Strategy of Something Completely Different, by Tom Ryan

One wonders what the market analogy is.....uh, like bonds yesterday. anyway here is one for Ross' next novel reminds me of the scene in Lawrence of Arabia where Lawrence and his assistant arrive in Cairo after crossing the Sinai and they march right into headquarters with their robes and burkas on covered in a fine layer of dust. The boldness of the act is such that the MP's don't stop them until its too late.

Tucson police search for naked man who escaped custody.


Tucson Police are frantically searching for a man who escaped from Tucson City Court this morning, ditched most of his clothes and kept running.

Joe Ochoa, 41, of the 6700 block of East 17th Street, was supposed to appear for a drug paraphernalia violation and also had pending felony charges of burglary, theft and probation violations.

Police say he is still handcuffed, and they found his shoes, socks, underwear, and pants.

After he escaped the custody of a city marshal and ran past security inside the courthouse, police began searching the Downtown and North Fourth Avenue areas.

Tucson High Magnet School, Roskruge Bilingual Magnet School and Mansfeld Middle School went into lockdown around 9 a.m. Students were staying inside their classrooms.

A police spokesperson said they are unsure how Ochoa became unsupervised while awaiting his hearing, but the incongruous nature of his nakedness prevented security personnel from acting in a timely enough manner to apprehend him as he streaked through the Courthouse and out the door. Police ask anyone who sees Ochoa to call 911 immediately.

Private Equity Biz, by George Zachar

From this morning's WSJ piece on JPM's shedding its private equity biz:

"... There are about a dozen private-equity funds with a total of about $80 billion in their coffers. They did about $150 billion of deals last year as they bought companies, issued debt in their names, brought them public or sold them to others. Each one of these private-equity firms accounts for somewhere between $300 million and $450 million in transaction fees on Wall Street...."

So..."a dozen" funds times, say, $375 million (range midpoint) in fees PER YEAR is $4.5 billion, divided by "about $80 billion" means the assets are paying the mistress 5.625% in "vig" every year. That's of course before management fees, performance fees, etc. etc.

Heck of a business model.

Brain Region Learns to Anticipate Risk, by George Zachar

From Science Daily:

"...new research from Washington University in St. Louis has identified a brain region that clearly acts as an early warning system -- one that monitors environmental cues, weighs possible consequences and helps us adjust our behavior..."

Validating traders' instinct or "gut feel"?

Debt Market Report, by George Zachar

The short reason for yesterday's debt market drop is "no one knows".

The stated reasons range from the latest economic data (which added nothing substantive) to moving avg/key support breakage (please) to Greenspan jawboning rates and vols higher via Ip's Monday WSJ piece (maestro!).

My reading of the various tea leaves brings me to this conclusion: A few concentrated off-sides debt positions were "forced" to sell.

Evidence? The bulk of the yesterday's declines hit in a very short span of time, at noon EST, bang-on when Europe would be closing its books for month end marks, and US margin clerks would be wrapping up their round of calls. The sales came "out of the blue" by all accounts, and weighed most heavily in the Eurodollar futures market, which saw its spreads widen out against everything, and this morning shows a big increase in open interest.

In trader speak: someone got a shoulder tap to get flat, and the only market deep enough to take the size on short notice was Eurodollars.

Noteworthy that there was no related discontinuity in the dollar, and little follow through overnight and this morning.

Bad Days, by Roger Longman

We're working on trying to understand the pulling of Tysabri: key question is how the FDA will look at this specialist medicine. CEO of Elan indicated his belief that it could be back on the market this summer which is a far cry from what will/could happen with a primary care, DTC-advertised drug like Vioxx.

Note: the FDA didn't pull Tysabri -- Elan and Biogen Idec did.

"Quote of the Day", offered by John Lamberg

Insightful comment at the end of a discussion of James Clerk Maxwell's mechanical model to demonstrate the phenomena of induced currents.

"We must, of course, be careful not to endeavor to learn from such a model lessons which it was not designed to teach, and we must remember that the behavior of the mechanism does not represent the electrical action in all respects."

From The Life of James Clerk Maxwell

Is the Variance Infinite, i.e. Alpha Less Than 2? by Dr Alex Castaldo

The answer, from Taylor: Modeling Financial Time Series, 1986 (Quoted in Embrechts et al. page 405)

F&R (1968) describe a practical method of estimating alpha. Estimates are always between the special cases alpha=1 for the Cauchy distributions and alpha=2 for normal distributions. Many researchers find the conclusion of infinite variance, when alpha<2, unacceptable. Detailed studies of stock returns have conclusively rejected the stable distributions (Blattberg and Gonedes (1974), Hagerman (1978), Perry (1983)). Hagerman, for example, shows that the estimates of alpha steadily increase from about 1.5 for daily returns to about 1.9 for returns measured over 35 days. Returns over a month or more have distributions much closer to the normal shape than daily returns. A decade after his 1965 paper F*ma prefers to use normal distributions for monthly returns and so discard stable distributions for daily returns.

Probability Fields, by James Sogi