Sunday, May 24, 2009

Mad Math

The only viable response for a financial wizard whose been gulled is denial.

One can be gulled in a variety of ways. There’s the old fashioned con game in which the perpetrator knows he’s trying to cheat the mark out of his money. Then there’s the sincere gull in which a group of individuals convince themselves that a given methodology or approach is so sound that there are no alternatives.

It was the latter that snookered our financial wizards, and the methodology that suckered them in was the belief that risk could be mathematically predicted. According to Martin Hutchinson, the mathematical modeling was based on the mistaken assumption that market movements were random. Were this the case, then future movements of the market could be predicted using linear mathematical equations.

Unfortunate, it wasn’t true.

As Hutchinson points out, randomness only applies in situations in which “tiny variations cause a discrete change in results. Since tiny physical variations are themselves unpredictable, their results are truly random.” Examples are the fall of the ace of spades when the deck is shuffled or the drop of a ball on a roulette wheel.

That isn’t how the market behaves. Hutchinson tells us:

This true randomness almost never holds for economic activities. Some of them are governed by complex underlying equations, impossible for mediocre mathematicians to solve, which produce pseudo-random “chaotic” behavior, in which prices or other variables appear to move randomly but are in reality mostly determinate.

In other words, it is another classic example of fools trying to force the nonlinear movements of the market into linear equations that look good on a computer screen, but don’t tell you shit about what’s going to happen. (It was a situation similar to nineteenth century medicine’s belief in the curative power of magnets which, “draw off the noxious electrical fluid that lay at the foot of suffering.”)

It was a these mathematical models that led Bernanke to pronounce “the great moderation,” a utopian age in which risk had been brought under control, or so he said just before the economy entered “the great meltdown.”

Instead of randomness, chaos and the unknown drive the market, both of which don’t respond to linear, exponential or normal equations with which mathematicians are most familiar. Unknowns can never be expressed mathematically since mathematicians known none of the factors that go into them.

But, what the hell! When you’re dealing with guesswork, it makes your life a lot easier if you can justify your actions with a mathematical formula that is so complex it looks authoritative, even though it is dead wrong.

It is proprietary mathematical models such as these that the banks are using to market their toxic paper to model instead of to market. Of course their crap is worth sixty cents on the dollar, they tell us, because they have the mathematical models to prove it, even though you can’t see them because they are proprietary.

I must correct myself. The banks aren’t holding toxic paper; they’re holding toilet paper so gentle on our assholes we don’t even know we’re being reamed.

After all, numbers never lie. Do they?

--Case Wagenvoord

6 comments:

Cirze said...

Sorry, but I don't believe any of that booshit.

No one to blame? All gulled?

Funny how the people at the top weren't gulled, although some were trimmed a little for good effect.

Greenspan and John Paulson gulled?

Goldman Sachs gulled?

Not.

There's a reason the winners have been shorting the market for years.

Figure it out.

Case Wagenvoord said...

In my humble opinion greed turns financial wizards into financial retards until it comes time for them to seek a bailout when they suddenly morph back into wizards.

It's Wall Street meets Harry Potter.

Case Wagenvoord said...

...and I might add that they were indeed gulled by buying into the deluded belief that arcane mathematical formulae could accurately repesent and predict economic activity.

Unknown said...

longchamp, tiffany and co, tory burch outlet, louis vuitton, oakley sunglasses, ugg boots, polo ralph lauren outlet, kate spade outlet, christian louboutin outlet, ray ban sunglasses, nike free, michael kors, louis vuitton outlet, ray ban sunglasses, polo ralph lauren outlet, kate spade handbags, air max, nike roshe run, ray ban sunglasses, longchamp outlet, nike air max, louis vuitton, nike free, coach outlet, chanel handbags, oakley sunglasses, louboutin outlet, air jordan pas cher, nike outlet, replica watches, gucci outlet, replica watches, oakley sunglasses, louboutin pas cher, sac longchamp, prada handbags, nike air max, cheap oakley sunglasses, ugg boots, louboutin shoes, oakley sunglasses, louboutin, ralph lauren pas cher, burberry, prada outlet, uggs on sale, jordan shoes, longchamp outlet, tiffany jewelry, longchamp pas cher

Unknown said...

ugg pas cher, pandora jewelry, canada goose uk, pandora charms, marc jacobs, swarovski crystal, juicy couture outlet, moncler, ugg,ugg australia,ugg italia, moncler, louis vuitton, thomas sabo, moncler, pandora jewelry, doudoune canada goose, pandora charms, moncler, canada goose, louis vuitton, ugg boots uk, replica watches, moncler, bottes ugg, louis vuitton, juicy couture outlet, swarovski, supra shoes, hollister, moncler outlet, canada goose outlet, sac louis vuitton pas cher, ugg,uggs,uggs canada, canada goose, canada goose outlet, louis vuitton, coach outlet, links of london, wedding dresses, moncler, canada goose, moncler, canada goose

Unknown said...

ferragamo shoes, ghd, gucci, toms shoes, nfl jerseys, louboutin, soccer jerseys, mcm handbags, birkin bag, converse, nike air max, nike air max, chi flat iron, valentino shoes, p90x workout, mont blanc, hollister, montre pas cher, lululemon, vans shoes, north face outlet, bottega veneta, herve leger, ray ban, ralph lauren, reebok shoes, jimmy choo shoes, instyler, beats by dre, mac cosmetics, baseball bats, karen millen, wedding dresses, babyliss, oakley, soccer shoes, new balance, celine handbags, insanity workout, hollister, vans, lancel, abercrombie and fitch, hollister, asics running shoes, longchamp, timberland boots, nike roshe, north face outlet, converse outlet