Re: "...markets are fundamentally chaotic, not efficient"? Really?

[Kent Crispin <kent@songbird.com>]

On Tue, Apr 08, 1997 at 01:51:45AM -0400, Robert Hettinga wrote:
> At 12:36 pm -0400 on 4/7/97, Kent Crispin wrote:
> 
> > Nope.  Not any of those things (Gee, there's that "statist" word
> > again.  There must be a playbook somewhere).
> 
> Yes. It's from the same playbook which says I now get to call you a "twit".

Uh oh.  Must of touched a nerve...

> > More a "security
> > analyst" notion.  See the cute little book "Chaos and the Capital
> > Markets" (I don't have it handy so I can't give you the author.)
> > Anyway, he makes an empirical of security prices, and demonstrates
> > that they are chaotic.  It was more oriented to practitioners, not
> > theorists...
> 
> Bark. Chaos theory has nothing to say about the capital markets practically
> by definition, but that's a "security analyst" notion, so you probably
> wouldn't understand it.

Sorry.  It's Edgar Peters, "Chaos and Order in the Capital Markets", 
John Wiley, 1991.  I'm sure you will rush out and buy a copy :-)

> > Chaotic is not the same as stochastic.
> 
> Actually, chaotic behavior is a subset of stochastic behavior. I stand by
> what I said. 

Clearly, you don't know what you are talking about.  Strictly 
speaking, chaotic behavior (as mathematically defined in chaos theory) is 
completely *deterministic*, not random.  The conundrum is that 
chaotic behavior *looks* random, and indeed, it can be very hard to tell 
if a set of data is generated by a determinstic chaotic procedure or a 
stochastic procedure.

Pretty pictures of Mandelbrot and Julia sets are generated by selecting 
points *determinstically*, iterating through a *determinsitic* algorithm, 
and looking at the result.  It's the mathematics that creates the 
complexity, not randomness.

(To be fair, of course, I must also state that some fractals are 
generated by starting with random numbers and running them through 
some algorithm.)

> Just because a random variable is predictable within certain
> parameters doesn't mean that you can call say, every flip of a coin 100
> times. When you get to the limit of predictability, you are as "efficient"
> as you can get.
>
> > There are obviously stochastic
> > factors in markets.  Equally obviously, they are not the only factors.
> 
> Sure. What? The devine right of kings? The inherent good of the
> surveillance state? I say that stochasticity, including chaos, is the only
> factor that matters.

No, you described it just above when you said "just because a random 
variable is predictable within certain parameters".  So, for example, 
I know that if a head is worth $1 and a tail is worth -$1, my net 
worth won't jump by $100 on a single toss.

> > The fact that markets demonstrate a chaotic element is potentially
> > exploitable as a trading strategy.
> 
> That statement, is, of course, an another oxymoron, just like "market 
> control".

I don't know whether you are expressing your flatulent ignorance of
chaos theory, or whether you are referring to the term "trading
strategy".  I will give you the benefit of the doubt and assume the
latter, and agree that the term "trading strategy" is at least 
suspicious. 

> > I heard that's why trading houses
> > were hiring physicists, incidentally -- most of the expertise in
> > Chaos Theory was developed in the context of physics.
> 
> Rediculous. Most of the "expertise" in chaos "theory" is in the hands of
> dillitantes who like to draw pretty pictures. 

A lot of those, for sure.  But Mandelbrot did some of his first work
on chaos studying cotton prices with Hendrik Houthakker, a Harvard
economist.  But how about Edward Lorenz (of the "Lorenz attractor")
studying weather, studies of turbulence, Feigenbaum & Co at Los
Alamos, the Dynamical Systems Group at Santa Cruz, etc etc.  The 
pretty pictures are pretty, but even I can do those.

> Most of the physicists hired
> by Wall Street were people who discovered market analogs to physical
> processes. A friend of mine, for example, who used Monte Carlo simulations
> to analyze sonar returns, and now uses Green's functions to get faster
> results on interest rates and total return scenarios on bonds. Or another,
> who did 2D magnetohydrodynamic code once, and now does fun stuff in the
> currency markets.

Sure, that too.

> The problem with simulating a market with emergent systems is that you
> can't say anything about a given market when the simulation is over. Just
> about the simulation. Otherwise (duh?) it's not chaotic enough. Which, by
> the way, was my point. When you get to "chaos", you're as "efficient" as
> you can go.

I wasn't referring to simulating markets; I was referring to studying 
real markets.

[...]

> > That's "Crispin", Mr. Applethwaite.  I hate being mislabeled.
> 
> Ah. Another ad hominem. 

No, just a joke.  Boy, I must really have hit a nerve.  Sensitive big 
ego, perhaps?

> See "twit", above. You're ugly, and your mother
> dresses *you* funny, too. By the way, I'm sorry I misspelled your name. For
> some reason, it seems I didn't respect you enough to get it right...

That's ok.  I just attribute it to a fragile ego, anyway.

> > I never said anything about planned economies being efficient.  In
> > fact, I never mentioned planned economies at all.
> 
> You said that "chaotic" markets aren't efficient. I said exactly the
> opposite. That they are the ultimate in efficiency, and that if you believe
> that chaotic markets are not efficient, you must favor planned economies,
> because they're the only alternative. 

It's understandable that you might make this mistake, given your 
misunderstanding of dynamic systems.

> I figure this tendency towards
> stringent control must be from where you work or something. Oops. Another
> ad hominem. So sorry. They must be in the air this evening.

That nerve must really be throbbing.  Sorry.

> > Obviously I can't "prove" markets are not efficient -- that's an
> > empirical matter, not a mathematical matter.  However, no one can
> > prove they are efficient, either (that's why it's the "Efficient
> > Market *Hypothesis*").  There are many other examples of persistent
> > inefficiencies in markets,  the presidential election year cycle
> > being the first to come to mind.
> 
> Right. And the increasing American importation of bananas throughout the
> 20th century caused an increase in suicide. Another informal fallacy.
> You're nine for nine tonight, Mr. Ch^hispin. Of course there are actual
> exceptions to the efficient market hypothesis, fools' markets being the
> most famous example.

You don't like my example, but agree to my point.  I like that.  So 
now we both agree that "there are actual exceptions to the efficient 
market hypothesis"  (your words).

> However, the crash of any given fool's market is
> completely unpredictable, and, as such, is as efficient a price as you're
> going to get, paradoxically. Which was my point.

You, unfortunately, misunderstand your own example.  It actually is a 
paradox. 

> > [interesting but besides the point argument deleted]
> 
> Actually, it was the *whole* point, but you didn't get it. Another one of
> those "security analyst" notions, which kind of blew by you, in what seems
> to be a rather breezy evening in your neck of the woods...

Plenty of hot air around, as you speak.

> > This inability of a hierarchy to handle as much information or resources as
> > a geodesic is, of course, a major problem with key escrow,
>
> No, it's a theoretical problem that has no impact on practical key recovery
> systems.
> 
> Okay. I'll tell you this one, for fun, too, since you don't get *it*
> either. In a geodesic network, a single node can not possibly process all
> the information in the network. It chokes, and the network routes around
> it. 
>
> You can bet that any key escrow agent would be innundated with
> surviellance requests 

No, I wouldn't bet that.  Even a lame theory a looks good against a
braindead strawman. 

[rest of braindead strawman deleted]

> > "Whip me! Beat me! Savage me in Cypherpunks!"
> 
> Just lay there and take it, slave. You know you love it, or you wouldn't be
> here.

Actually the most entertaining thing is watching blowhards at work. 
And one thing for sure, Bob -- for all your failings, you *do* know how
to blow. 

-- 
Kent Crispin				"No reason to get excited",
kent@songbird.com			the thief he kindly spoke...
PGP fingerprint:   B1 8B 72 ED 55 21 5E 44  61 F4 58 0F 72 10 65 55
http://songbird.com/kent/pgp_key.html