Freethought & Rationalism Archive

Ruy Lopez · 05-15-2003, 07:30 AM

Here's an article authored by MIT physicists and other economists.

http://www.eurekalert.org/pub_releas...-stp050803.php

Quote:

"We have found that the artificial world of the financial markets follows a pattern similar to one found in our natural world," said Gabaix. "Trading on the stock market has a lot of randomness, but at the end of the day you find that a pattern emerges that matches power-law patterns found empirically in data from systems as diverse as earthquakes and human language.................

They found that their size also follows a power law. The number of funds that manage $1 billion is twice the number of funds with $2 billion, which in turn is twice the number of funds with $4 billion, and so on. (This pattern is called Zipf's Law, named after linguist George Kingsley Zipf, who in the 1930s found the statistical pattern in the frequency of word use in languages.)

They claim that their model can probably predict a major market crash but that the crash cannot be prevented. You could regard me as an experienced market operator but I have never encountered this before.

I have to accept the article's claim. What exactly are power laws?

Edit: Forgive my absentmindedness. I just googled "power laws" and found out what it means. No need to answer the question. Comments would be welcome though.

AdamWho · 05-15-2003, 01:30 PM

There is a lots of history in this type of research. Whenever somebody figures something out or finds a pattern in the stock market they will do well for a litle while. However, people figure out the method then come up with schemes to take advantage of the newest theory. The result is the strengths of the new theory get nulified.

For instance if you know that retail sales are biggest around Christmas, boosting the share price of Wal-Mart, when do you buy? Since everyone else knows this information it becomes a guessing game to time the market. Who knows what and how are they going to act on their knowledge? If you could figure out what other people know and how they are going to act on that knowledge in the markets you would rapidly become wealthy.

Ruy Lopez · 05-16-2003, 09:24 AM

Adamwho;

Totally agree with what you're saying. It probably qualifies to be called discounting market information or a trading technique. If the authors of the article succeed in getting Wall Street to accept their findings, the phenomena that are useful in trading would become unprofitable to use.

On closer scrutiny, I think the research results mostly increase knowledge and understanding of this human activity. It may have little in terms of useful moneymaking investment ideas. For an investment approach to be useful, a mechanism that identifies time and magnitude of fluctuations is needed. The study doesn't seem to have them.

theyeti · 05-16-2003, 12:02 PM

Genes and proteins also follow power-law distributions. They seem to be a common result of natural processes.

theyeti

AdamWho · 05-16-2003, 03:51 PM

Ruy Lopez

It is not suprising that complexity in the market comes from large groups following simple rules. Such as,
Goal: try to make as much money as possible
1. try to figure out what every is going to do
2. figure out how to exploit everybody else actions to your benefit

Looks like a survival or reproductive strategy.

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05-15-2003, 01:30 PM	#2
AdamWho Contributor Join Date: May 2001 Location: San Jose, CA Posts: 13,389	There is a lots of history in this type of research. Whenever somebody figures something out or finds a pattern in the stock market they will do well for a litle while. However, people figure out the method then come up with schemes to take advantage of the newest theory. The result is the strengths of the new theory get nulified. For instance if you know that retail sales are biggest around Christmas, boosting the share price of Wal-Mart, when do you buy? Since everyone else knows this information it becomes a guessing game to time the market. Who knows what and how are they going to act on their knowledge? If you could figure out what other people know and how they are going to act on that knowledge in the markets you would rapidly become wealthy.

05-16-2003, 09:24 AM	#3
Ruy Lopez Veteran Member Join Date: Mar 2002 Location: Manila Posts: 5,516	Adamwho; Totally agree with what you're saying. It probably qualifies to be called discounting market information or a trading technique. If the authors of the article succeed in getting Wall Street to accept their findings, the phenomena that are useful in trading would become unprofitable to use. On closer scrutiny, I think the research results mostly increase knowledge and understanding of this human activity. It may have little in terms of useful moneymaking investment ideas. For an investment approach to be useful, a mechanism that identifies time and magnitude of fluctuations is needed. The study doesn't seem to have them.

05-16-2003, 12:02 PM	#4
theyeti Veteran Member Join Date: Jun 2001 Location: Denver, CO, USA Posts: 9,747	Genes and proteins also follow power-law distributions. They seem to be a common result of natural processes. theyeti

05-16-2003, 03:51 PM	#5
AdamWho Contributor Join Date: May 2001 Location: San Jose, CA Posts: 13,389	Ruy Lopez It is not suprising that complexity in the market comes from large groups following simple rules. Such as, Goal: try to make as much money as possible 1. try to figure out what every is going to do 2. figure out how to exploit everybody else actions to your benefit Looks like a survival or reproductive strategy.

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