First of all, Vlad, not Vald, secondly I'm not running away from anything, it's just a waste of time to respond to a post that indicates the poster will probably not understand it anyway b/c of his myopic perspective. Especially in light of the fact that the question HAS already been answered, although maybe not explicitely, a number of times before in this thread. Yes, indeed, the flows of funds back and forth caused by euphoria and panick do contribute to bubbles/corrections, but blaming it on efficient portfolio mathematics or EMH makes no sense. In fact, it's just the opposite, had people believed the stocks were correctly priced haflway through the bubble, they would not be jumping on the bandwagon so much, nor would they be panicing and withdrawing funds like crazy now. The reason they were greed-preoccupied and are fear-ridden now is PRECISELY b/c they do not believe the markets are efficient. It is because they believed back then the market was STILL underpriced and they should keep buying more b/c it'd keep soaring, the sky being the limit. Now they freak out and think they need to get out b/c they think it will keep going down. THEY ARE TRYING TO TIME THE MARKET, AND EMH STATES ONE SHOULDN'T. With all due respect, if you don't understand smth that basic, replying to questions such as those in that "article" is a waste of time. A market pro in that quote? Give me a break. Just b/c someone is doing something professionally, does not mean (at least to me) he is a pro. Pros are they who know what they are doing. Someone who asserts things asserted in that article appears to have no fucking clue.
Vladiator, Thanks for pointing out the Grossman and Stiglitz definition of EMH -- time for me to dive into the literature. I can see the plausibility of a definition of efficiency that subtracts the costs of finding inefficiencies from the profits made from those inefficiencies. The market, by itself, could be inefficient but the combined system of market + traders could be closer to efficient. Put another way, inefficiencies exist to the extent that it takes resources to find and exploit the inefficiencies. If I understand it correctly, under the G&S perspective, traders work hard and receive commensurate bounty for hunting for inefficiencies. Trader's Return of Time? But the G&S definition does beg an important question, though. What is the actual return on investment of money and time for inefficiency hunters? In theory (the G&S version of EMH theory), a would-be trader would not attempt to hunt for profit in the markets unless they had a reasonable expectation of making a good return (a salary-burdened, risk-adjusted ROI on trading capital). In practice, it appears that a very large number of would-be traders (dabblers, you called them) have a negative ROI on capital alone and certainly do not recoup the time invested in learning to trade. Although these would-be traders are profit-driven, they may not be actually rational in the sense of having a clear understanding and reasonable expectation of profits. In summary, do the markets pay far less than minimum wage to a great many traders? Impact of Volunteer/Hobbyist Inefficiency Hunters The presence of a large number of volunteer inefficiency hunters in the markets could have a profoundly negative effect on institutional traders. I refer to the work of Fiona Scott Morton of Yale on the California wine industry. Her work suggests that the presence of hobbyist winery owners could disrupt the profit-maximizing opportunities of more financially-oriented winery owners. I also see parallels to the fair-trade debate in which some companies have an unfair advantage due to local government subsidies (e.g., Boeing vs. Airbus -- and I'll let others decide which is the subsidized company). Do individual "hobbyist" daytraders effectively subsidize their own search for inefficiencies to the detriment of professional firms that must pay salaries to all employees? Institutions at a Disadvantage to Individuals? One impact, discussed in the article on the winery industry, is that more rational profit-seekers might avoid arenas that contain hobbyists. From this perspective, volunteer hunters of inefficiencies would spoil the opportunities of institutionals whose high cost structures cannot compete with the volunteer labor of these amateur traders (does this partially explain Goldman's disinterest in some trading models?). This potential impact does presume that the hobbyist traders have some effectiveness at ferreting out and exploiting inefficiencies (and I admit that I don't know the answer to that one). Markets More Efficient? Less Efficient? I know not whether this effect makes the markets more efficient because so many are devoting so much free labor to ferreting out the inefficiencies. Or that it makes the markets less efficient because amateur traders create new categories of inefficiencies as they attempt to find and trade other perceived inefficiencies. Were I of a paranoid mindset, I might even think that the PDT rule is tailor made by the institutional traders to drive out hobbyist traders because of hobbyist's unfair below-minimum wage labor rates. My point, and where I continue to quibble with even the G&S version of EMH is in the very real presence of non-rational participants. These participants ought to have systematic effects on market efficiency and on other participants who are seeking market efficiency. Do "crazy" traders drive out sane ones? Cheers, Traden4Alpha
Vlad sorry about the name thing. It was not done on purpose. I feel better asking the question instead of restating the definition of EMH. So Please restate your position. Then explain why a rational guy like me should not waste time trying to trade the market. Then explain to me what if I notice that the market is out of whack because so much cash has mistimed the market and driven it up contrary to good EMH investing practices. If I am not mistaken in you most recent post admits that an excess of irrational cash may create large opportunities because that cash did not follow proper EMH theory. In which case EMH does not really apply to real life markets. It would be kind of like paper trading theory.
I think this might be closer to the truth than you think, but not out of any desire to maintain rationality on the part of institutionals. I doubt there is much rationality to maintain in the first place, even in professional circles. They are like a bunch of drunks all assuming there is some other designated driver behind the wheel. (If everyone is too dumb to be allowed a contrarian opinion, or any opinion at all for that matter, from whose forehead is the rationality springing forth?) Plus, mutual funds and investment banks want stocks to go in one direction- UP- at all times. What is rational about that? There is an old joke, why did the redneck marry his sister- because he had to. In that same line of thinking, why do goliath institutionals hold for long periods of time? Because they have to. When it takes you three to five days to unload a substantial position, you have to take a longer term view of that position whether you like it or not. You just can't trade around girth like that, the slippage would eat you alive, as Soros learned when he got shredded on his mammoth S&P exit in the aftermath of the '87 crash. You always give some up on the way in and out- but to who? The big guys hate the little guys because the big guys know that their inside knowledge and staying power and marketing muscle comes at a price- the price of inflexibility and bulk and girth, which necessitates slowness of movement. And slowness of movement means you are vulnerable to being repeatedly picked off by faster, nimbler foe. Not much more than a nick or a cut, but those little nicks and cuts can add up very quickly when they are coming from all sides, especially in an environment that has moved from benign to threatening. My guess is that the average mutual fund manager hates small traders, and his real fear is not that the small trader is irrational- but rather that small traders are ganging up on him and clawing him down on his ins and outs, and that the multiple nicks and cuts will add up to real bleeding over time. He may exaggerate in his own mind, especially if this helps to shift blame away from his own ineptitude- but the suspicion remains. This natural bias on the part of the mutual fund industry (us against them, long term buy and hold against the forces of evil, damn mercenary gunners should be outlawed!!), combined with arrogance, fear and a need to place blame somewhere other than Wall Street when things were falling apart, led naturally to the PDT rule imho. It's of course obvious that 99% of successful traders operate well above the 25K line, but hey, it looks good for us to be "doing something," it's a blow against those $#%@#$ traders, and why not kill the next generation before they hatch? Like Herod trying to insure the safety of his throne, three for the price of one. p.s. I may be biased, as beta ripping, window dressing, benchmark loving, relative performance touting money managers with no respect for their clients and no respect for risk pretty much make me sick in general.
Jem, DarkHorse, et al: Yes, I believe the market is HIGHLY inefficient and at many times very IRRATIONAL. But it doesn't make it easier to make money. Everyone now can look back with 20/20 hindsight and said the market was overvalued- Naz 5000 and Dow at 11000. But remember Greenspan called "irrational exuberance" in 1996 which was 4 years before the peak!! Unless you saw all through that during March of 2000 and started shorting the market and held onto until now, it's hard to say that it's "easy" see these inefficiencies or mispricing. There were stories of hedge funds who shorted internet stocks in '99 thinking they were "overvalued". Well sorry for them. They went through their entire capital only to see a year and half later it all went to zero. So, here's the killer. People notice these really irrational mispricings in the market and say that it's inefficient which is "obvious". But perhaps it wasn't so obvious at the time unless you had some incredible foresight, luck, or proprietary technqiues. I think academics try to find an absolute way to "predict" the market. And that as most traders know is futile. And thus they conclude that's random noise and totally efficient. Traders aim for much less than perfect predictions. Traders, on the other hand, may notice this effect, that pattern, this behaviour and try to capitalize on it. And to traders, all you need is to be right 51% of the time. In fact, Steve Cohen of the SAC Capital hedge fund who managed billions said at times he's right less than 20% yet is still able to make tons of money for his investors(thus able to charge 50% instead of the normal 20% hedge fund fees). Think about that. That's where traders and academics view market realities differently and arrive at different conclusion. But what I don't like going about this thread is that people sound like "noticing" market inefficiencies is as easy as making money off of those inefficiencies. If it was that easy then we'll all be multi-millionaires by now. I think a monkey looking at trades all day(that monkey include an educated person like me. hehe) will noticed all kinds of patterns and ineffiicencies. But does that mean I can capitalize on it? And do it consistently? That's the question and the quest I'm struggling with... Good luck to you all on your journey to trading mastery.. trader99
Grossman & Stiglitz is a good read and it's surprising it's not as widely taught as the EMH. EMH is what every MBA and finance phd have to swear on before receiving his/her degree, not grossman and stiglitz. The funny thing is, even if you can't figure out by yourself that EMH is not good science, Grossman & Stiglitz should be enough. But apparently it's not for academic economists. Stiglitz has a Nobel Prize, but I don't expect Sanford Grossman receiving that prize anytime soon, but he couldn't care less. Now he is for the most part retired from academia and laughing at his colleagues (who isn't) while counting all the money he's making in his hedge fund, quantitative financial strategies, i think it's called. He was mentioned in the Institutional Investor Hedge Fund ranking issue a few months ago. So much for someone doing things professionally. I think i have that article downloaded somewhere, you need platinum access to institutionalinvestor.com to download it, so if anybody is interested i can look for it and post it here.
ALL OF MY PROFESSORS LIED TO ME IN COLLEGE!!!!! They totally misrepresented the market to everyone in all of my classes. With the money I'm makin' now trading futures, I have to say that my finance degree was a total waste of time. All of this academic junk is useless. You can't use any of this junk because there is no way of knowing what to discount a security by. My professors didn't even know anything about Elliot Wave analysis and fibonacci retracements. Losers!!!!
Nice to see you again 99- I completely agree, inefficient in no way equates to easy and while unable to speak for others I personally never meant to imply that it did... see this post from a little while back:
EMH is propaganda just like buy and hold. It is an oversimplified viewpoint based on false assumptions. It is very seductive to the inexperienced and that is why it survives. However, it also serves a purpose, which is to keep new money flowing into the market. If that spigot ever completely turns off, that is when we are all in deep shit.