The Prisoners of Wall Street

[chess9]

http://www.nytimes.com/2009/03...10quant.html?th&emc=th

?Options theory is kind of deep in some way. It was very elegant; it had the quality of physics,? Dr. Derman explained recently with a tinge of wistfulness, sitting in his office at Columbia, where he is now a professor of finance and a risk management consultant with Prisma Capital Partners.

Dr. Derman, who spent 17 years at Goldman Sachs and became managing director, was a forerunner of the many physicists and other scientists who have flooded Wall Street in recent years, moving from a world in which a discrepancy of a few percentage points in a measurement can mean a Nobel Prize or unending mockery to a world in which a few percent one way can land you in jail and a few percent the other way can win you your own private Caribbean island."

How do you rationalize an irrational 'system'? Isn't Wall Street a stochastic 'system'? The love affair with formulaic determinations for success seems to have cooled so much that it now looks like mere lust-for money.

Or, will Wall Street be reduced to the financial equivalent of e=mc2, without the elegance?
I'm skeptical. Physicists should go back to the laboratory and classroom.

-Robert

 

[frostedflakes]

It does seem like in recent years investors have relied too much on mathematical models and too little on common sense. I figured that might be one thing that would change thanks to this financial crisis.

edit: And I don't really understand the anger toward mathematicians, I'm sure they didn't hide the limitations of their models. It's not their fault if investors misuse their equations, just like it isn't Coulomb's fault if an engineer or physicist misuses the models or theories he's described.

 

[halik]

In an ideal world, market prices are a stochastic process and everything is distributed normally.

That being said, the fact that Nassim Taleb's fund is making money only demonstrates that we don't live in an ideal world.

 

[chess9]

Originally posted by: frostedflakes
It does seem like in recent years investors have relied too much on mathematical models and too little on common sense. I figured that might be one thing that would change thanks to this financial crisis.

edit: And I don't really understand the anger toward mathematicians, I'm sure they didn't hide the limitations of their models. It's not their fault if investors misuse their equations, just like it isn't Coulomb's fault if an engineer or physicist misuses the models or theories he's described.

Yes, the physicists and mathematicians have, for the most part, noted the limitations of their models. It's the managers who've screwed the pooch by overhyping models and formulae.

On the other hand, perhaps the models need to be much more complex? We have an awful lot of historical data from which to build a model, one would think. The problem in the past has been the willingess to use only that historical data which is positive. Sort of like Fox News....

-Robert

 

[StageLeft]

One way of looking at these models is they are merely documenting what people use in their heads, which are also models. If you as an investor think such and such is going to happen, you're applying some internal formula. Chances are you just cannot really specify it in detail and don't necessarily know what it means, but at the time it makes sense to you; you throw some variables in and out comes a result (what you believe will happen).

 

[chess9]

Originally posted by: Skoorb
One way of looking at these models is they are merely documenting what people use in their heads, which are also models. If you as an investor think such and such is going to happen, you're applying some internal formula. Chances are you just cannot really specify it in detail and don't necessarily know what it means, but at the time it makes sense to you; you throw some variables in and out comes a result (what you believe will happen).

In my experience, the tip of an insider is worth more than any model. (I mean a real insider, not your Uncle Hamesh.)

-Robert

 

[Moonbeam]

I live in a world of utter chaos because I don't know anything. But the sky is blue as seen between the green of my olive tree, and there's a crow out there that sings to me. Caw caw the market is up the market is down. And my heart goes thub thub thub and it will till I'm gone. But money is oft on my mind these days because I live in Penny Lane:

In Penny Lane there is a barber showing photographs
Of every head he's had the pleasure to know
And all the people that come and go
Stop and say hello

On the corner is a banker with a motorcar
The little children laugh at him behind his back
And the banker never wears a mack
In the pouring rain, very strange

Penny Lane is in my ears and in my eyes
There beneath the blue suburban skies
I sit, and meanwhile back

In Penny Lane there is a fireman with an hourglass
And in his pocket is a portrait of the queen
He likes to keep his fire engine clean
It's a clean machine

Penny Lane is in my ears and in my eyes
A four of fish and finger pies
In summer, meanwhile back

Behind the shelter in the middle of a roundabout
The pretty nurse is selling poppies from a tray
And though she feels as if she's in a play
She is anyway

In Penny Lane the barber shaves another customer
We see the banker sitting waiting for a trim
And then the fireman rushes in
From the pouring rain, very strange

Penny lane is in my ears and in my eyes
There beneath the blue suburban skies
I sit, and meanwhile back
Penny lane is in my ears and in my eyes
There beneath the blue suburban skies
Penny Lane
----

Don't forget to live.

 

[Lemon law]

Behind every parlor magician are all kinds of rituals and side shows designed to distract the eyes of the watcher from what is really going on. All the quants have managed to do is create another type of Ponzi scheme, mathematical hokus pokus.

Ok OK we now know that the skeptics were right all along, these bets are still a zero sum game.

And the only way we can get out of this mess is to call all these derivative type bets null and void. Let the Banker not the banks refund the initial bet the better made out of the profits he pocketed, as for the bet,
it should be null and void.

 

[Hacp]

This article got it all wrong. Fannie and Freddie caused the housing crash. Because of government intervention, which the mathematical formulas probably didn't take into account, we had a big recession. The lesson is that more government is bad for our economy.

 

[Lemon law]

Originally posted by: Hacp
This article got it all wrong. Fannie and Freddie caused the housing crash. Because of government intervention, which the mathematical formulas probably didn't take into account, we had a big recession. The lesson is that more government is bad for our economy.

---------------------------------------------------------------------------------------
This only proves there is a Rush Limbaugh apologist under every bed.

Freddy and Fanny may be a small part of it, but in the final analysis, they were no more stupid than the free markets, and truth be told, it was GWB&co dismantling all regulations that is a far bigger root cause.

And the derivative markets that evaded all regulations by the magic word of default credit swap is a far bigger root cause. Had they used the real word of insurance, those idiots would have had to back their debt, instead it let gamblers make impossibly large debts with nothing to back those bets when they went south.

The lesson is, not enough government regulation is bad for our economy. And every time we believe Limbaugh we get an S&L crisis, a enron, a Western power crisis, a Bernie Madoff, and when will we ever learn?

 

[blinky8225]

It wasn't the quants' fault.

From the article:

Dr. Derman said, ?Nobody ever took these models as playing chess with God.?

Do some people take the models too seriously? ?Not the smart people,? he said.

Quants say that they should not be blamed for the actions of traders. They say they have been in the forefront of pointing out the shortcomings OF modern economics.
...
"Because the math is really complicated people assume it must be right." ? Nigel Goldenfeld, whose company sells derivatives software.

It was the managers who put too much blind faith in models despite their limitations because they couldn't understand the models.