Jun 24, 2007

Thoughts, Reality And the World of Finance

Here's an old joke about the efficient market hypothesis:

A finance professor and his student take a walk together. Suddenly they see a $50 note lying on the ground. As the student stoops to pick it up, the professor says: "Don't bother - if it were really a $50 note, it wouldn't be there."
Hahahahaa! Well, okay. If you don't know what the EM hypothesis is, you might not get this joke. Anyway, this Sunday, Mr Wang will take you on a whimsical "thoughts-affect-reality" tour of the world of finance.

Let's start with the basics. How do you make money out of the stock market? Very simple. You buy a share at a certain price, eg at $1.00, and later you sell it at a higher price, eg $1.50. There - you just made $0.50.

But in the first place, how do you know what to buy? There are three major schools of thought, known as fundamental analysis, technical analysis and the efficient market hypothesis. Let's take a look.

Intuitively, fundamental analysis makes the most sense to the layman. As the name suggests, you'll analyse the "fundamentals" of each stock. For example, you could start by analysing the general economy (eg the government's estimates for annual economic growth). Then you could analyse a particular industry within that general economy (for example, the financial services industry and the factors affecting it). Then you analyse a particular company within that industry (for example, DBS and its financial statements, its products and services, its business strategies etc).

You then form a view. You say, "Based on my analysis, the intrinsic value of this company's share ought to be $1.50." You then check the market. You find that the share is actually trading at $1.00. You quickly buy the share. In your opinion, the share is undervalued; people will realise it later; you're smarter than them, because you realised it first; and later you will be able to sell the share for $1.50. There, you made $0.50.

Mr Wang would say this: "Fundamental analysis assumes that there is an external objective reality. If we study this reality rationally, we can discover what that reality is. Using logical thinking, we will be able to identify the intrinsic value of the share. By using superior logical thinking, we can spot cheap shares faster than other investors, buy them up quickly, and sell them for a profit later."

Technical analysis is quite different. It does not care about the economy. It does not care about the growth prospects of any particular industry. It does not care whether the company's CEO has 20 years of management experience or had dropped out from primary school. All these factors are completely irrelevant in technical analysis.

Technical analysis says that the market value of a share is determined solely by the supply and demand for it. Supply and demand depends on the hopes, fears, opinions, views, conclusions and guesses of numerous potential buyers and sellers - whether rational or not. All these factors are ultimately reflected in charts tracking the price of a share, the volume of trading etc.

Furthermore, chart patterns tend to repeat themselves. Terms to describe such patterns include "head and shoulders", "double top", "consolidation rectangles", "runaway gaps" and so on. From these patterns, you can predict certain trends that will continue for some time (that is, the price will either go upwards for some time, or downwards for some time, or stay approximately constant for some time). By studying the charts (and absolutely nothing else), you can predict which way the price is going to go. And that's how you make money, using technical analysis.

Mr Wang would say this: "Technical analysis assumes that there is an external reality, but that the reality is subjective. This reality is continually responding to the thoughts of investors, as a whole. If enough investors think hard enough that a particular share will go up, then it will go up. If enough investors think hard enough that a share will go down, then it will go down.

Thus it is a waste of time studying "objective", "rational" data such as the latest release of economic data or the level of political stability in Singapore. Just study the charts, whch represent all the investors' collective thoughts, which in turn move in predictable patterms. Study the charts, and you will know how the external reality will change in the future."

Now we turn to the efficient market hypothesis (also known as the random walk theory). It says that financial markets are so efficient at pricing in all available information that absolutely no one in the world can consistently predict the direction of the stock market or which stock will be the next winner.

For example, let's say that today, there is a terrorist attack in New York, or DBS announces its new business strategies for the next five years, or Microsoft appoints a new CEO. As soon as this information is released, it is instantly priced into the market. Investors, as a collective group, instantly take note of this information and the share prices of DBS and Microsoft immediately adjust, according to the opinions and views of investors, as a collective whole.

According to the efficient market hypothesis, fundamental analysis is basically useless. That's because every piece of information that the fundamental analyst is studying has ALREADY been taken into account. There is no point in studying the economy, or the industry, or any company, in the hope of finding a cheap, undervalued share that you can sell for a higher price later. Every available piece of information you're looking at has ALREADY been priced into the entire market.

The implication is that there is no rational way to find a "good" share to buy. There is no rational way to identify a "bad" share. Shares are simply whatever the entire universe of investors think they are. World-renowned finance expert Burton Malkiel goes so far as to say this: "A blindfolded chimpanzee throwing darts at the Wall Street Journal could select a portfolio that would do as well as the experts."

Here's another way to look at it - at any given moment, as long as the stock exchange is open, the price of each share is a perfect reflection of (1) all available information in the universe about that share, and (2) the sum total of all opinions, guesses, hopes, fears, beliefs, conclusions and expectations that all investors have ever had about this information.


Mr Wang would say this: "The efficient market hypothesis says that the present reality of a share's price is created by all the thoughts, past and present, that all investors in the universe have EVER had about that share. Furthermore, any new thoughts that investors may have about the share INSTANTLY affect the share. Time is pretty much an illusion."

"Woah, that sounds like karma.
Even instant karma, haha."
.

46 comments:

ashash said...

Hi Mr Wang,

I'd just started to develop interest in finance and investment. In fact I left my previous job so that I could pursue full time in this area.

I'm very determined to grow my financial intelligence to obtain financial freedom, hence I appreciate your sharing of opinions on your blogs.

In my pursuit for answers, I'd frequently ask people around me about their experiences in making investments, how do you spot a good stock to buy?
I'm amused by the different advice I received, varying from 'just buy what the broker suggests or what everyone else is buying', to the rational ones,ie conduct detailed analysis of the company's financials before you take the plunge.

We've seen people who are just plain lucky in the market and we've seen how Wall Street was fooled by Enron.

Indeed how can you be sure of what to believe?

I came upon this book "The Coming Economic Collapse: How You Can Thrive When Oil Costs $200 a Barrel" by Stephen Leeb which about sums up the approach I'd adopt.

The author is very clever indeed, he captures the reader's interest with an enticing title, makes his point in the first 80% of his book, then shares tips in the last 20%

I enjoyed the book thoroughly.

While the MAIN FOCUS in his book forewarns the impending energy crisis ahead and the consequences of not addressing it immediately, he also offers insights of "group think" and how it has affected civilisations before and today, be it in country governance or stock market sentiments.

This is a very interesting topic which maybe you have come across in your readings.

Anything to share on this?

Jason said...

There does not appear to be any one true method.

* Fundamentals matter, but can be swamped easily by hype.

* Historical price patterns matter, but can be swamped easily by new developments.

* As an economics hypothesis, EMH is both controversial and ultimately uninteresting. But as a practical matter for us, it is quite pertinent. When traders can react to information within seconds of it being released, there's not much hope for the layman to beat the market.

Some useful non-"how to get rich" books to understand markets include

1. Nassim Taleb Fooled by Randomness...examines how luck plays a huge factor in determining wins and losses in the markets. Also warns that the most salient events ('black swans') are inherently unpredictable.

2. John Allen Paulos A Mathematician plays the Stock Market...looks at all three types of analysis from the point of view of an open minded mathematician who lost a lot of money at WorldCom.

3. Aaron Brown The Poker Face of Wall Street. Examines the similarities between securities markets and gambling. Doubles as a great book about poker.

Jimmy Mun said...

Sigh, financial freedom is an illusion, a term coined to sell books, especially if you believe a hyper-inflation is on the way.

I read somewhere a certain guy teaching people how to make big bucks in options trading claim that every cent his student makes is due to his brilliant insights, but every cent the student loses is due to their laziness. How unassailable.

The best way to learn is really first hand experience. As a market participant since 1993 (before I turned 21!), I have learnt that there is no one true path to success. FA, TA and EMT are all partly right and partly wrong.

If you rely only on FA, you will be eaten alive if the books are cooked, a la Enron. Although a really seasoned FA practitioner can smell the cooking, sometimes.

TA never claims to be iron-clad solid. It only offers a probability of success. But it is a critical tool, especially if you already smell something is amiss from the books. An ugly chart for example, can be caused by some stealthy insider doing a hurried but orderly selling ahead of some big bad news. Furthermore, the state of a company is never a complete secret. The suppliers, the customers, landlords etc etc, will have better insights into the financial health of a company than a passive investor relying on company disclosures.

EMT? I think the market is mostly efficient, but not always. My favorite example: Many years ago, Hong Leong Finance and Singapore Finance was merging. The process was complicated, because the merger involved franked dividends and shares for the HLF holder. I didnt understand what "franked" means then. It means that, based on Singapore taxation law then, these dividends and shares had already paid up a tax based on the corporate tax rate. If your income tax rate is lower than the corporate tax rate, you are entitled to a tax refund - this is called a Section 44 tax credit, a historical artifact that will lapse at the end of this year.

What it meant was that HLF shares had a different worth depending on your tax bracket - the lower your income, the higher the value.

After the announcment, both HLF and Singapore Fin resumed trading, and HLF traded at a price (vs Sing Fin) as though there was no Section 44 tax credit, which is obviously wrong for some market participants.

It was basically free money lying on the floor for the retirees and other people whose tax bracket is nowhere near 20%, which is a lot a lot of people. Someone who mostly understood what was going on even wrote in to the Straits Times Forum wondering what he missed. But still, HLF behaved like everybody has a tax bracket at 20%.

I asked a friend, who at that time was going into fund management about this anomaly, and his reply in summary was, "Dont be stupid. Where got such good deals?" Not unlike the professor about the 50 dollar bill.

The following year, I finally understood what happened and received a thousand dollar cheque from IRAS. Had I knew earlier, I would have borrowed/begged/stole/robbed to buy more HLF shares then. (Okay, to be totally sure, you gotta short Sing Fin shares as well, and that totally complicates matters for smalltimers like me)

The truth is, sometimes the market can be inefficient because those who understand, cannot use the info, while those who can use the info, don't understand enough accounting, law etc etc. This is especially true of very small companies, which is where I like to focus my attention on.

angry doc said...

"The efficient market hypothesis says that the present reality of a share's price is created by all the thoughts, past and present, that all investors in the universe have EVER thoughts about that share. Furthermore, any new thoughts that that investors have about the share INSTANTLY affect the share. Time is pretty much an illusion."

Mr Wang is playing semantic games yet again.

Now if ALL the investors ever did was to THINK about stock prices and not buy or sell anything, will that still affect the stock prices?

No. It is not the THOUGHTS of the investors that matter, but their ACTIONS of buying and selling. Investors by definition do not just think about the stocks and their prices, they trade.

Furthermore, the thoughts of the investors do not INSTANTLY affect the price of the shares; they need to trade in order to affect the price of the shares, and that can only happen (as Mr Wang himself stated) "as long as the stock exchange is open". If the market isn't going to open until two hours later, then it's two hours before you can trade. That's time.

Furthermore, it is well-accepted that the price of stocks are based on its market value, which is to say that it is a subjective assessment. The 'reality' of a share's price is a different 'reality' from that the 'reality' of say the mass of a piece of rock. It would be more accurate (and less misleading) for Mr Wang to title this post "Expectations and Demand, Price, and the World of Finance". But then it would sound so ordinary, wouldn't it?

ashash said...

Jimmy, I beg to differ.

The idea is an illusion only if it is left to gather dust on the shelf with the book.

I have friends who achieved financial freedom simply from practising the basics that have been repeated tirelessly in best sellers.

Financial freedom is also subjective to every individual.
The more you desire to own, the harder to achieve financial freedom.

But once freed, you can pursue your interests without any fear.

My belief is that Passion drives excellence.

How many of us today are working to make a living and not living to work for what we love?

Mr Wang Says So said...

Angry Doc:

There is no separation between thought and reality. Right at this moment, if you believe that you are buying Share A, you usually are. ;P

Mr Wang Says So said...

"Historical price patterns matter, but can be swamped easily by new developments."

Theoretically, EMT should not be so easily swamped by new developments.

The argument is that even before the new development actually occurs, the probability that such a new development will occur has already been priced in.

For example, there is some (small) probability that tomorrow, North Korea will fire a nuclear missile at South Korea. This would be a "new development".

But right now, there is also a lot of information in the universe about the history of the two Koreas, their current diplomatic relationship, the kind of missile that North Korea is believed to have, and all other relevant factors.

All this information has already been priced into the market. Therefore the market price of Korean shares already takes into account the probability that tomorrow, North Korea will fire the missile.

Jimmy Mun said...

ashash,

There is really only two ways to achieve true financial freedom:
1) Have no desires, no wants, no needs. Either die, or be an ascetic.

2) Have oodles of money, by the hundreds of millions of liquid assets.

Anything in between, you are free only if the world doesnt change. In a high inflation environment for example, all the accumulated wealth will devalue overnight. Even if you make a wise diversification like investment in gold, nothing is going to stop a government from banning ownership of gold, as did the US government in the era of the Great Depression. Ultimately, our only guarantee of financial viability is in our ability to generate value, be in as an employee or as a business owner.

But I guess you do have the idea right: for some people, financial freedom means stopping work to shake leg at home. The truth is, financial freedom already happened when we have the freedom to choose a trade that makes us happy, rather than doing work that makes us miserable. It is no accident that truly wealthy people like Bill Gates and Warren Buffett didnt let money stop them from doing what they love.

Jason said...

Theoretically, EMT should not be so easily swamped by new developments.
Well, I was actually referring to Technical Analysis when I mentioned historical price patterns being swamped by new developments.


But right now, there is also a lot of information in the universe about the history of the two Koreas, their current diplomatic relationship, the kind of missile that North Korea is believed to have, and all other relevant factors.

All this information has already been priced into the market. Therefore the market price of Korean shares already takes into account the probability that tomorrow, North Korea will fire the missile.

The market decides on some probability, but the language of 'taken into account the probability' suggests that the market gets that probability right, given the information available. In truth, nobody knows if the market got the probability right. And 'getting the probability right' isn't really what the EMH is about.

I think you should forget the academic notions behind the EMH, and simply focus on what the consequences are for the layman. I suggest two results:

(1) you are unlikely to be able to profit from non-insider information, because there are traders out there who are reacting to news in split second.

(2) very very very very few fund managers are going to consistently beat the market. Those that do are more likely to be lucky than good.

persistently deluded said...

"The efficient market hypothesis says that the present reality of a share's price is created by all the thoughts, past and present, that all investors in the universe have EVER had about that share. Furthermore, any new thoughts that investors may have about the share INSTANTLY affect the share. Time is pretty much an illusion."

This is misleading. In fact, not all thoughts about a stock are given equal weightage; often, it's the few people/institutions/entities that have the most power to affect the stock price in the short-term as long as they see fit, drowning the thoughts of smaller players in the process. Thus, at best, price is a skewed and bias reflection of the general opinion of the value of a stock.

Given this reality, i don't see how perfect knowledge can truly apply. Furthermore, it assumes that the people in general are ALWAYS rational in their decisions. Wow...that's a HUGE assumption.

Oh well, once upon a time, there was a bunch of people in Europe that truly believed and perceive Hitler to be a great man that will lead them to great heights. But it was just that, a general consensus.

LuckySingaporean said...

I once threw most of the rocket science I know right down to chaos theory and the strongest means to detect non-randomness.

Believe the market is efficient enough for people using TA to be wasting their time most of the time. EXCEPT for some medium term trends in the futures market that can be exploited only by taking very high risk.

Time and again the "buy and hold" +duversification works best for 99.9999% of the people less the rare genius in the form of Soros or Buffett.

No strategy is a good strategy. Dollar cost averaging performs as well as many things with sophistication.

The only way to make higher returns is to take more risk.

Christopher Ng Wai Chung said...

Jimmy,

Is it fair to say that financial independence is really something out of reach for many Singaporeans ?

I'm afraid I cannot share your pessimism on this matter.

If your investment income comfortably exceeds your expenses, how can that not be a state of financial independence ?

My personal experience is that it's actually quite spiritual and Buddhist in character. Nothing changes, you go to work as usual and you soon get some stress from other non-financial areas of your life. Difficult people in the workplace remain difficult people.

Yes, Monte carlo studies show that even the best retirement plans fail 5%-15% of the time but I think that humanity will find ways to adapt to changes which includes rampant inflationary and even depressive economies.

Like many smart readers can notice, financial independence is a word and its interpretation varies with the people who is seeking it.

If we position this as simply having income from other sources which exceed your living expenses, it's something to celebrate about.

Regards

Mr Wang Says So said...

I haven't really read anything much about hyperinflation, but I imagine you could hedge the risks simply by holding foreign currencies or foreign-currency denominated assets or the equivalent.

Eg just investing in a Asia-Pacific unit trust that holds equities from 10 different countries means that you've got a very good hedge.

Of course, if the hyperinflation is due to a great big war across Asia-Pac, then this wouldn't work. Then again, in those circumstances, money might be the last thing on your mind. Not getting killed by a bomb or bullet could be the more important (and immediate) consideration.

Christopher Ng Wai Chung said...

Mr. Wang,

The numbers don't actually point to global equity portfolios allowing wealth to be preserved in a hyper inflationary environment actually. Correlations tend to go up in such times and in an economic catastrophe, it's actually quite hard to maintain your wealth if inflation hits 10% a year.

But as it turns out, there are very powerful strategies for hyperinflation which can actually help you MAKE money when inflation ramps up to 7-10% a year.

( Note that using floating rate notes, you preserve your wealth in periods of inflation. You don't become wealthier when you get floating rate notes. )

A commodity ETF is one way of doing so. ( Code : DBC ). You can hold a gold ETF ( GLD ) or if you're paranoid about the world's reliance on oil, USO. Lyxor probably has a commodity ETF available in the local markets by now.

Note that this is different from holding a commodity company stock which actally behaves more like equity.

Mormons, old-school businessmen do have some practices which demonstrate their wisdom. Some elderly chinese business always keep some gold ingots in their home in a safe so they can run away with it in case of war. Mormon's have developed a very extensive method of preserving food and storing it.

Regards

Mr Wang Says So said...

It's not misleading, because I didn't say that all investors' thoughts have equal effect.

Peculiarly, theories like EMH cannot account for the existence of people like Warren Buffett. Taken to its logical conclusion, EMH would predict that:

(a) Warren Buffett cannot exist (he could be an illusion);

(b) Warren Buffett's success is a matter of pure luck (therefore, starting from today, it is as probable as not that Mr Wang and Malkiel's blindfolded chimpanzee will be as successful as Warren in investing);

(c) Warren Buffett is a cheat and has somehow found a way to steal insider info, again and again and again, all these decades.

None of the above seems correct or likely. So now I will irritate Angry Doc again by postulating a phenomenological theory:

"Warren Buffett's thoughts are particularly powerful at affecting reality in the world of finance. If he thinks that Share A will go up, his thought exerts a powerful effect (much, much more than the average investor's thought) on the price of Share A, causing it to move steadily upwards."

I learned a new word yesterday from Elia (see other post). A "phenomenological theory" is a theory that doesn't claim to embody new insights into how the universe works. They just happen to explain the available empirical data.

Like Everett's Many Worlds Theory, my theory doesn't make sense, in the ordinary meaning of the word "sense". But there you have it. The experiment in the lab has produced real, observable results. Warren Buffett is also a real and observable human being, with a verifiable investment record.

My theory, which took me about 030 seconds to think up, fully addresses the empirical data. So does Everett's theory. You can reject the theories, but then you cannot account for the lab results, and you cannot account for the existence of Warren Buffett. Mathematically, he should not exist.

In the absence of any better theory, you could hypnotise yourself, and pretend that the lab results don't exist. You could also hypnotise yourself that Warren Buffett does not exist.

Maybe then you would enter a separate reality where Buffett really doesn't exist. But then your entry into such a separate reality would only support Everett's theory of Many Worlds, hahahaa.

There is no escape! Thoughts create reality.

[Note: I am doing a thought experiment now, to see if I can provoke Angry Doc into a rage-induced epileptic fit, hahahaa].

Jon said...

Hey Mr Wang, I just want to let you know that I love reading ALL your articles (whether political or mindhacking)! Keep more coming!

On a side note, it's sad that Bernard Leong has chosen not to provide his expert advice. Guess there is no incentive for him to get involved in the debate.

Jimmy Mun said...

Chris,

when you get married and have kids, you will realise that controlling expenses is not something anybody can say with absolute certainty, especially if you try projecting 10,20 years into the future. I can eat less, watch less movies, cut my scv subscription, but I cant expect my kids to go to school with one textbook less, can I?

Besides, if I have to degrade my lifestyle to match rising expenses, I am not really financially free or independent. It is just an illusion.

Ultimately, the only way to guarantee food on the table is to have a means of earning income, be it a job, owning a business or even managing your portfolio actively to match the sources of inflationary pressures. Even for a single who has more than 20 years to live, one's investment will have to exceed one million SGD before you can talk about financial freedom. Merely preserving the value of a million can be hard work by itself.

Notice I didnt talk about more extreme but plausible examples, like say, the freedom to leave Singapore without compromising your lifestyle.

Mr Wang,

I read recently somebody was advocating buying gold coins to stay alive under extreme circumstances, because one cannot assume the financial systems like gold funds to hold up during such times. I just wonder how I can use those gold coins without getting robbed when sky comes falling down.

PZ said...

Mr Wang said:

Peculiarly, theories like EMH cannot account for the existence of people like Warren Buffett. Taken to its logical conclusion, EMH would predict that:

(a) Warren Buffett cannot exist (he could be an illusion);
_______________

Leaving levity aside for a moment, ALL the three approaches of price action in the *markets* contain a certain naivete'.

You have to realise that there are SHARKS out there. The likes of super traders like Bill Lipschutz will crush the poor Joe Blow options trader like a cockroach!

It would be instructive to know (Professional traders would already this) how ONE big market player can move prices even in the biggest market of them all - the Currency Market in "thin" market conditions when only the New York or NZ/OZ market is open.

The poor Fundamentalist will be wracking his brain for a "reason", the "Technician" will revisit his charts and scrutinise the MA, RSI and MACD indicators and the "Random Walkers will say "There! I told ya!"

Be veerrrry careful when you dip your toes into the markets....

PZ

EP said...

These 3 world views aren't necessarily exclusive. Even EMH can be divided into stronger and weaker versions. You've described a very strong version of EMH which most people (even academics) do not subscribe to.

As a trader in a hedge fund, this is a subject that we think about a lot, not just as a matter of intellectual curiosity. My personal belief is that we should assume that EMH is true except in the very short term, or the presence of other factors. Temporary market inefficiences can and will be exploited by informed traders picking off liquidity providers, or by liquidity providers arbing it out.

The speed at which this occurs depends on liquidity, leverage and the amount of pain each counterparty can take. In listed equities, it is more difficult for inefficiencies to persist (but on the other hand, there is greater liquidity to exploit them with). In illiquid OTC markets, inefficiences are not uncommon but skill is needed not just to find them but to get into a decent position.

I don't really dig the analogy between finance and philosophy. To me, financial markets are a kind of reality ("The difference between imagination and reality is that reality doesn't go away when you stop believing in it.") EMH, fundamental analysis, chartists... they are all forms of imagination.

Christopher Ng Wai Chung said...

Jimmy,

I ROM this weekend and I'm getting a bit depressed after reading your posts.

Maybe married people have bigger problems controlling their expenses because the couples may not be in alignment.

Let's look at the problem quantitatively.

I wrote about some means of generating passive income using the SGX:

http://intelligentsingaporean.wordpress.com/2007/06/23/yes-you-can-have-welfare-in-singapore/

You claimed that a person will need millions to become financially independent. Let's take a married couple with the median household expense of $3,244 a month. ( National avergae in 2004 )

With a 8% yield on specific business trusts mentioned in my article, you can generate such income with a portfolio of $486,600. Hardly a number in millions.

Yes, it looks very challenging but it's definitely possible to get there by age 40 for a grunt engineer. ( Heck, I know, I'm an engineer and I just spent 2 hours patching 40 servers. )

Anyway, you don't have to quit your job if you feel insecure after reaching your target. I won't quit even if I win Toto because I've invested to much of my personal identity into my career.

Personally, I farm 100% of my take home pay into my investments to generate more income. It'll change a bit after marriage but I expect to regain my financial independence by 2011.

Note that by Singaporean definition, my life is pretty much like shit. But public transport is actually efficient in Singapore and if you avoid the foodcourts and go for hawker food, our food is world class.

Regards

PZ said...

EP said...

"I don't really dig the analogy between finance and philosophy."
__________

Then you should read "The Education Of A Speculator" by Victor Niederhoffer.

Nierderhoffer was one of George Soros's top traders, a contrarian whose stellar performance over 15 years made market history.

In 1997 he was forced to close his fund due to heavy losses. Prior to that he had one of the longest, most successful track records of any commodity fund manager.

It's a cracking good read and provides gems of insight.

Don't let the fact that his fund finally closed prevent you from reading this tome.

You might just change your opinion.

PZ

Jimmy Mun said...

Chris,

Congratulations! I dont mean to depress you further, but most men will agree that women will behave differently after marriage, especially those seemingly frugal ones. Every man should have heard of that "once in a lifetime", "once in a while" excuses from women to splurge, even from normally very frugal ones. If you have a hard capped limit on monthly expenditure, you are going to introduce unnecessary tensions.

But until your kids arrive, most will agree that the DINK stage is probably the most financially stable stage of their life. Simple economies of scale and diversification of risk. But with kids, there is no way you can insure away every single potential medical and educational need. You can do your best to cover the probables, and keep your fingers crossed about the improbables. Makes me prayerfully religious every time I think too hard about it.

Anyway, I never said it is futile to have a savings target or to control one's expenses. I merely disbelieve it is possible to be 100% free from monetary worries, not with any sum less than a million anyway.

By definition, one shouldnt feel "insecure" after achieving financial independence. If you do, that only means you are independent only when subjected to certain constraints, like not getting married, not having kids, which is exactly what I mean by an illusion Worse still, instead of freeing you, it becomes a cage, restricting your options.

Last weekend, I just got dragged into an expensive meal because I couldnt say no to my wife's friends. Worse still, it was a treat, so now I owe them. And I cant possibly treat them back without eating myself, can I? Tonight, I am attending a wedding dinner at a posh hotel. I am already cutting down by going alone.

By all means, save up and live frugally. But unless you live in a cave, it is very hard to say "I earned enough. I will never spend more than this much every month."

Mr Wang Says So said...

"Nierderhoffer was one of George Soros's top traders, a contrarian whose stellar performance over 15 years made market history."

George Soros himself relies on, ummm, a "my-thought-affects-reality" approach to trading.

More precisely, he uses a "my-body-predicts-the-future" approach to investing.

Of course he will neither confirm nor deny it now, for fear of being perceived to be crazy. But his children have already told the media all about it.

Link.

Soros' investing intuition has converted into back pain. Whenever he gets a sudden spasm of sharp pain in his back, this is his body's signal to him that the markets are about to shift and he should sell.

You'd laugh, but then he is one of the most successful traders in the history of this planet.

I was going to blog about this in future, but I thought I'd mention it here first.

Christopher Ng Wai Chung said...

Jimmy,

This goes way out of topic but behind Sembawang Shopping Center ( Now demolished and under renovation ) is a lane called Jalan Malu-Malu.

There is a restaurant called Kampong Seafood restaurant which serves excellent Chilli Crab and Nonya Fish head.

I brought my in-laws there and spent less than $20 per head.

Bring your friends there if its a special occasion.

Regards

angry doc said...

"Warren Buffett's thoughts are particularly powerful at affecting reality in the world of finance. If he thinks that Share A will go up, his thought exerts a powerful effect (much, much more than the average investor's thought) on the price of Share A, causing it to move steadily upwards."

That is actually a statement that can be tested scientifically. :)

PZ said...

Mr. Wang said:

"George Soros himself relies on, ummm, a "my-thought-affects-reality" approach to trading.

More precisely, he uses a "my-body-predicts-the-future" approach to investing.

_______________

When he broke the Sterling/Cable and caused it to plunge from USD 2.0 to USD 1.55, purportedly reaping USD 1.5 Billion along the way it must have been mindhacking!

When his Quantum Fund lost USD 7 Billion in 6 months about three years ago why it must have been brain and body fart! :-)

PZ

EP said...

To Angry Doc:

It is true that Buffett can shift the market - stocks have had big moves when it is revealed (through filings or other public statements) that his fund has bought/sold. Problem is you can't possibly profit ahead of time from this without advance knowledge (which is an informatinal advantage that doesn't violate EMH). As for his thoughts, it's impossible to test as only actual actions are rooted in fact, not one's thoughts.

PZ:

Soros broke the pound taking advantage of an inefficiency, namely the Bank of England. He lost money because sometimes traders bet on beta as a substitute for alpha. The good ones don't get caught out for their final bow. "What have you done for me lately" is the only question that matters. Whatever you did in the past, you have already been paid for it,

Jimmy Mun said...

Thanks Chris. Will keep that in mind, although I dont have the faintest idea where Sembawang Shopping Centre is. Somewhere in Sembawang I suppose. :P

Mr Wang Says So said...

Chris:

Congrats and don't let Jimmy depress you.

Mrs Wang is thriftier than me, only not half as clever on investing. She is the kind of person who notices that the same brand of baby diapers cost $0.75 less at Carrefour than at NTUC, therefore we must buy in bulk from Carrefour. These are the kind of details that elude my mind.

Occasionally Mrs Wang pesters me for a luxury item (like a diamond) and when I finally say, "Ok, ok, I'll buy you a diamond,"

then she says: "Haha, testing you only, who wants a diamond, such a waste of money."

If you ask me, when women say they want money, they mostly just want love & attention, haha.

angry doc said...

"To Angry Doc:

It is true that Buffett can shift the market - stocks have had big moves when it is revealed (through filings or other public statements) that his fund has bought/sold. ... As for his thoughts, it's impossible to test as only actual actions are rooted in fact, not one's thoughts."

I think it is possible to test it. :)

Here's how:

We lock Buffet in a cell with no means of communication with the outside world at all. Then we randomly pick a number of stocks (perform some statistical thingy to determine how many we need for the result to be statistically significant), assign them codes instead of names, and ask him to THINK 1/3 of them to increase in value, 1/3 of them to decrease in value, and the last 1/3 to remain the same, without telling us which ones he assigned into which category.

Buffet will not know which stocks or companies the codes actually represent and he cannot actually know how they will perform, while we (and the rest of the financial world) will not know which stocks he is going to THINK into increase in value. In other words, it's a double-blind (triple?) experiment.

Then we monitor the outcome.

After a pre-determined period of time, we ask Buffet to re-assign the stocks into the 3 groups again, and again we monitor their performance. (Cross-over)

At the end of the experiment, we break the code and we see if the stocks which Buffet THOUGHT to increase in value actually did, and if they decreased in value after Buffet assigned them in the decrease group after the first phase.

It won't prove that Buffet's THOUGHTS actually influence the market, but it will lend weight to the argument that he is able to influence or predict the market, independent of his knowledge or actions, or the actual performance of the companies.

Mr Wang Says So said...

This doesn't work - there are some inherent flaws, as per many of the prayer experiments.

The first principle in these "thought theories" is that you generally have to strongly believe in what you're thinking (there are ways to get around this, but I'll discuss them next time).

Eg the Thaipusam example. These people strongly believe in certain gods, they strongly believe in certain purification rituals, prayers etc,

and they believe that if they do these rituals/prayers etc, then during the festival, they can pierce metal skewers, hooks etc through their cheeks, backs, tongue, arms etc and NOT bleed and NOT scar and NOT feel pain.

Due to their strong belief, this turns out to be true. Thy do not bleed, scar or feel pain. Year after year, for decades, there are all these devotees, yet you do not ever see them walking around Singapore on other days with huge scars or gaping holes or bandages where their cheeks should be.

At the festival preparatory stage, you, Angry Doc, can certainly go through the same physical motions as these devotees (chanting prayers, fasting etc). But if you do not actually believe in the religion the way they do, with that kind of ferventness and faith,

well, certainly you can pierce your cheeks with a metal skewer,

but I fully expect you to scream in pain, bleed, scar, have two permanent holes in your cheeks, and go to hospital.


The belief is key, and the stronger the belief, the more powerfully it will change reality (eg to the extent it changes the way your body bleeds or does not bleed). Whether those particular gods are real or not is not the point.

-------

Now, Buffett probably does not believe that he can "magically" affect reality with his thoughts, in the sense that you give him codes etc, he can blindly influence stocks, as you have described.

Since he does not believe this, he can't do it.

However he probably has a very, very strong belief that by his own usual analytical & research methods (whatever they are), if given the usual available data,

he can pick stocks and consistently generate returns far, far higher than the market return.
Because he has such a overwhelmingly strong belief in this (so my hypothesis would go), Buffett WOULD be able to get those superior returns that he believes he can get, and in the process, he would affect the share prices.

This is DESPITE the fact that according to the EM hypothesis, NO investor ought to be able to get that kind of consistently superior return, over such a long, long time.

angry doc said...

Like I said earlier, cheek-piercing is also done cosmetically and not typically associated with much pain, bleeding, or infection.

"The belief is key, and the stronger the belief, the more powerfully it will change reality (eg to the extent it changes the way your body bleeds or does not bleed)."

This we cannot prove scientifically, unless there is a way to measure the 'strength' of the belief without looking at the outcome; otherwise we can simply 'prove' this theory by calling all those who can effect change as having 'strong belief', and those who cannot as those without 'strong belief'.

angry doc said...

Here's a couple of pictures:

http://wiki.bmezine.com/index.php/Cheek_Piercing

Mr Wang Says So said...

I can't access the pix, my office server has banned it for "Adult Content". What kind of site is your link to, LOL.

Forget the cheeks then, think about the tongue. Isn't the tongue richly supplied with blood vessels - shouldn't there be a lot of blood if you pierce it at one side and the rod comes out at the other side?

---

Anyway, I will have more interesting things to say in future posts, about "thoughts affecting reality".

Like the EM hypothesis, the theory has its "strong form", "semi-strong" form and "weak" form.

So don't worry, be patient ... take your time to discuss.

Hey, would you like to read about a scientific study indicating that you could think your pets into becoming smarter? Hehehe. Maybe I'll make that my next post.

angry doc said...

"Forget the cheeks then, think about the tongue"

Well, there are also tongue studs. And then there's the 'Prince Albert'. :)

I think basically, 'if you can pinch it, you can pierce it'.

But never mind the 'thought create reality' bit; I am more interested in what moral imperative it translates to for you.

PZ said...

Mr Wang wrote in part:

"However he probably has a very, very strong belief that by his own usual analytical & research methods (whatever they are), if given the usual available data,

.....Because he has such a overwhelmingly strong belief in this (so my hypothesis would go), Buffett WOULD be able to get those superior returns that he believes he can get,.."
_______________

I do not doubt the power of positive thinking or "thought theories" and the infinite possibilities that the mind can perhaps achieve. "We shall see Archie ... we shall see.":-)

However, nowhere in your hypothesis did you account for a key variable *X*, that is behind the genial looks and folksy persona of Warren Buffet - his formidable intellect - not to mention his skill-set (whatever these may be), experience and insight/wisdom peculiar to this very special individual. As are other super traders/speculators like Druckenmiller, Lipschutz or Soros and their ilk.

If your hypothesis is correct, you only need to pluck ordinary trader Joe Tan Ah Kow from some bank in Shenton Way, arm him well with mindhacking and set him loose in the financial markets and, "Look world .... herreeee is Soros!"

Methink not.

PZ

PZ said...

Mr Wang wrote in part:

"Peculiarly, theories like EMH cannot account for the existence of people like Warren Buffett. Taken to its logical conclusion,...
_____________

You left out another logical if not OBVIOUS conclusion .. it's time to junk this theory? Nein?

My take, is that the Random Walk Theory is partially correct. The price action in markets are mostly random but there are times (when inefficiencies exist and are exploited) when it then becomes predictable with a great deal of certainty. The traders who are able to exploit these first, are those who stay ahead of the curve. By the time other lesser mortals notice these, it's all over folks.

"I trade strictly based on statistical "anomalies," the analysis of of multivariate time series and the quantifications of persistent psychological biases.

In statistical terms, I figure I have traded about 2 million contracts in my life thus far, with an average profit of USD$70 per contract(after slippage of perhaps USD$20)

This average profit is approximately 700 standard deviation away from randomness, a departure that would occur by chance alone about as frequently as the spare parts in an automotive salvage lot might spontaneously assemble themselves into a McDonalds restaurant." - Victor Nierderhoffer

PZ

Jason said...

All of Niederhoffer's genius did not prevent him from blowing up in spectacular fashion in 1997 and 2001. What is to say he won't blow up again?

"A month or so before he blew up, Taleb had dinner with Niederhoffer at a restaurant in Westport, and Niederhoffer told him that he had been selling naked puts. You can imagine the two of them across the table from each other, Niederhoffer explaining that his bet was an acceptable risk, that the odds of the market going down so heavily that he would be wiped out were minuscule, and Taleb listening and shaking his head, and thinking about black swans. "I was depressed when I left him," Taleb said. "Here is a guy who goes out and hits a thousand backhands. He plays chess like his life depends on it. Here is a guy who, whatever he wants to do when he wakes up in the morning, he ends up better than anyone else. Whatever he wakes up in the morning and decides to do, he did better than anyone else. I was talking to my hero . . ." This was the reason Taleb didn't want to be Niederhoffer when Niederhoffer was at his height -- the reason he didn't want the silver and the house and the tennis matches with George Soros. He could see all too clearly where it all might end up."

http://www.gladwell.com/2002/2002_04_29_a_blowingup.htm

Mr Wang Says So said...

"My take, is that the Random Walk Theory is partially correct. The price action in markets are mostly random but there are times (when inefficiencies exist and are exploited) when it then becomes predictable with a great deal of certainty."

You could be right.

This is akin to saying that sometimes the universe splits into separate realities. At other times, consciousness will sustain the universe and it need not split. At yet other times, it is possible for a subatomic particle swirling in my brain to instantly affect a bunch of subatomic particles swirling in the brain of someone else on the other side of the planet.

Mr Wang would explain your explanation as follows:

"PZ's theory assumes that the present reality of a share's price is usually shaped by the:

(1) all the available information, past & present, in the universe about that share; and

(2) all the thoughts, opinions, guesses, conclusions, views, hopes and fears that every investor has ever had about that share.

Occasionally, however, a few investors may briefly escape the karmic cycle, transcend the illusion of reality, and see the karmic conditions of the finance world. Exploiting this knowledge, they make a lot of money. However, they are unable to do so consistently, and that is why almost no fund manager manages to beat the index benchmark over the long term.

Rare investors such as Warren Buffet and Peter Lynch have gained a specific kind of enlightenment, related to the finance world, and are therefore able to consistently perceive the karmic conditions of the investing universe. Exploiting this ability, Warren & Peter defy the EM hypothesis, which only applies to ordinary human beings."

PZ said...

Jason said...

"All of Niederhoffer's genius did not prevent him from blowing up in spectacular fashion in 1997 and 2001. What is to say he won't blow up again?"
_____________

Yes I do know his fund went belly up after 15 spectacular years.

I am not aware if Nierderhoffer had another resurrection or is still trading since 1997.

I am not sure what your point is.

PZ

PZ said...

Mr Wang said:

"This is akin to saying that sometimes the universe splits into separate realities. At other times, consciousness will sustain the universe and it need not split. At yet other times, it is possible for a subatomic particle swirling in my brain to instantly affect a bunch of subatomic particles swirling in the brain of someone else on the other side of the planet."
___________________

You appear to associate and distill everything in terms of QM or "thought theories."

Is this obsessional *belief* reality or illusion? :-)

If the markets are truly random, only luck would account for winners emerging.

The consistency of super traders like Nierderhoffer or Gil Blake and many others would appear to negate that theory. Of course you can stick to the theory despite the evidence indicating otherwise.

As a particular compelling example, consider Blake's 25:1 ratio of winning to losing months and his average annual returns of 45 percent returns compared to the worst drawdown of only 5 percent. Or as Neirderhoffer offers ... spare parts in an automative yard can spontaneously assemble themselves into a McDonald's restaurant.

The logical conclusion has to be that there must be a method to the chaos and madness of the markets.

Those like Monroe Trout would say of Random Walk, "That's why they are professors and why I'm making money doing what I am doing."

PZ

Jason said...

I am not sure what your point is.

My point is, once you factor in that he blows up a few times in spectacular fashion every now and then - to the extent of having to mortgage his house and borrow money from his children - the guy may be no better than any typical trader. Indeed he could be worse!

So his advice may be spurious.

As for Buffett, it is important to remember that he isn't just a stock market guy. He's also into management on a limited but important basis. When he buys companies, he helps to pick their CEOs, and taps their excess cashflow. A lot of the companies owned by Berkshire Hathaway are not even listed. He also shies away from high volatility stuff, thereby minimizing his downside risk (e.g. he deliberately declined to participate in the dot-com boom, and so escaped the bust).

PZ said...

Jason said:

"My point is, once you factor in that he blows up a few times in spectacular fashion every now and then - to the extent of having to mortgage his house and borrow money from his children - the guy may be no better than any typical trader. Indeed he could be worse!

So his advice may be spurious.
________________

Nierderhoffer is anything but typical! A genius, scholar and super trader, his market insights remain gems and valid regardless of his circumstances.

He is a bit of an anathema as far as super traders go. He flies without a net as he doesn't believe in *stops*. The "second" black swan on 9/11 finished him I think.

He is probably a "ghost" by now.

PZ

PZ said...

Mr wrote in part:

"Rare investors such as Warren Buffet and Peter Lynch have gained a specific kind of enlightenment, related to the finance world, and are therefore able to consistently perceive the karmic conditions of the investing universe.

... However, they are unable to do so consistently,"

__________________

Able to *consistently* perceive but unable to *consistently* do ...???

Hmmmm...

PZ

PZ said...

Jason wrote in part:

"He also shies away from high volatility stuff, thereby minimizing his downside risk (e.g. he deliberately declined to participate in the dot-com boom, and so escaped the bust)."
__________________

Buffet stays away from businesses he does not understand which included the IT/Dot.com companies, not so much that he avoids high volatility stuff.

PZ

PZ said...

Mr Wang wrote in part:

"Rare investors such as Warren Buffet and Peter Lynch are able to consistently perceive the karmic conditions of the investing universe."
___________________

What are they perceiving if not signs/signals/patterns which exist in the seeming chaos of the markets.

There is a method to the madness!

Isn't that what I already said?

PZ