I was thinking about the geophysicist Didier Sornette the other day. The reason being that (in my counter-factual way) I wondered what the world would look like if research (or a prediction, or an analysis) by people like Sornette were avidly watched — front-page news even. And then I remembered that I’d already written that post a long time ago, in my first blog. Like the other Yogi, it was déjà vu all over again.
Every day that I wake up to more bad news about the credit crunch, I feel slightly nauseated. It’s a bit like when you’re on a boat and the weather is closing in. Or the point that night falls and you’re out of sight of land. Or both. You’ve been there before, but your night vision needs to kick in. Time to hit the chart table, fix your position, re-evaluate how much sail you are carrying. A combination of nerves and trepidation focuses the mind. The concern is not so much for yourself, but for others. You’re in a complex system. Your fear must not guide you. You need to be confident, but careful. You may be master of the ship, but not the elements nor the other seafarers. A wetted finger is not good enough to figure out which way the wind’s really blowing. You need to calculate and apply learned heuristics, the wisdom of ages, one of which is “don’t rely on electronics”.
Finance being the bad-news-of-the-day for months on end is something I’ve never experienced before. I cut my teeth as a journalist during the extended bear market in oil that ended with the First Gulf War. The build-up was virtually a private affair for those of us who were specialists; no-one cared that much that the economy was benefiting from lower oil prices. The inflection point, when it came, was very public and geopolitical. Its consequences are still being worked out. I certainly did not see the Iraqi invasion of Kuwait coming; I was convinced that Saddam Hussein was just posturing. And yet, in retrospect, I vividly remember a conversation I’d had with a wise soul from the Middle East who showed an inexplicable agitation a few weeks before the invasion that you might characterise in the same way that animals are said to become jumpy before an earthquake. What was upsetting him was that he could read the runes whereas his colleagues could not. I was 25, still working below decks, lucky that he would take my call, and lacked the experience to fully engage with what was bothering him. The build-up to the credit crunch has been different and in some ways has already engaged the entire economically active population in psychological and also very concrete ways. The fall-out looks like being just as comprehensive.
It would be helpful if one could feel some sense of vindication, but it just ain’t happening. When you see someone driving recklessly, you don’t know whether it will end in a crash; that you are on the same bit of road — to mix metaphors — means you are inescapably in the same boat.
Getting it wrong is the sine qua non of economic forecasting. As the Stand-up Economist (whose gig on Saturday night at Oxford’s OFS I’ll be attending), says:-
Micro-economists are people who are wrong about specific things, and macro-economists are wrong about things in general … macro-economists have successfully predicted 9 out of the last 5 recessions.
Weather forecasters are often pilloried for getting it wrong. But, of all specialists, behavioural studies have revealed that they are the least confident in their own predictions. Economists and stock analysts, by contrast, are the most cocksure. And yet, the same people who failed consistently to identify the scale of the danger are also asked now to explain what happened. Nice work if you can get it.
Predicting markets is a notoriously tricky business, arguably foolish, and the great criticism that bulls usually level at those bears predicting bubble-bursts is that “even a stopped clock is right twice a day”. But what’s the inverse, exactly? Can’t the same criticism be levelled at the bulls? — precisely how “right” are they the majority of the time? And what’s the consequence of the bulls being very wrong just the once? Think back to Joanna Lumley playing Purdey [sigh] in The New Avengers in the 1970s, having to shoot her way through a kind of paintball training course. She was pleased that she’d scored 99%, marked by a single red dot that represented a bullet. Her sidekick, Gambit, pointed out it’s the 1% that kills you.
But I take the stopped clock thing seriously as a criticism of scepticism because it disparagingly suggests inaction and risk-aversion — who would want to be Chicken-Licken, after all? Certainly not the Emperor With No Clothes — and it cropped up in a piece of newspaper coverage about the credit crunch recently. My James Cramer reference the other day bears some reflection too. He would maintain, I believe, that his spiel is aimed at those with spare cash to gamble. But I think, in truth, he has been a cheer-leader for an industry that has been sailing toward the storm carrying every last scrap of sail in the locker.
But then, there is a problem with consistency. It’s generally over-rated. The ability to change one’s mind without shame should be more highly prized. As should be the ability to accept, without regret, that things may turn out better than one fears. Many a fisherman decides to stay in port only to find his catch and income is lost to a storm that doesn’t quite descend. He takes risks for a living, but I’m sure has learned too that it’s better to be wise before the event when so much is at stake. By contrast, a lifeboat man will put to sea in all weathers. But you’re taught at navigation school that he’s not to be confused with the AA man who will come and fill up your tank if you run out of petrol; he should only need to put to sea for the real black swans, not your incompetence. He won’t make that judgement, of course, but will respond to your Mayday anyway.
And so I was looking back at my own adventures as a Jeremiah, thinking about questions of timing. And that’s when I remembered that old post from my earlier blog about Didier Sornette. Sornette has long been on my reading list and in my view is one of the larger anti-heroes of modern finance that comprise my anti-library of unread books. He fits into that category where the Econophysics blog sits. The jacket of his book on markets, like Mandelbrot’s, shows fractal snail-shell patterns: you get the picture. I must buy it some day.
But I did read one or two of Sornette’s papers when they came out. I found them compelling, although the maths was completely impenetrable for me. It would be hard to find a more serious analysis of how vulnerable the markets had become at that point. That was the time to take in sail, batten down the hatches, and prepare (if necessary) to trail warps, spill oil on troubled waters, consider the possibility of removing all sail — what ocean yachtsmen call “bare poles” sailing, in the case of the perfect storm. In finance, it would mean de-leveraging early, not now.
At a very small talk I attended with Nassim Taleb in London way back in 2004, Nassim was asked by a London quant whether he thought the UK property market was in a bubble. Typical of Nassim at that time, I believe, he was confessing to not reading the newspapers so had no idea. The quant persisted that Sornette thought UK housing was in a bubble. Taleb’s response, if I recall correctly was this: “If Sornette thinks there is a bubble, then there is a bubble”. These are things I tend to remember.
Interesting, because Alan Greenspan was defending himself in the financial press the other day — and has done many times before — saying that it’s not possible to identify when markets are in bubbles. It’s a view that the prediction industry likes to repeat. But my understanding of Sornette’s science is that this is just not correct; you can identify bubble conditions from within trading price data using the same approach a seismologist does to gauge the susceptibility of the fault lines between tectonic plates to a sudden shift. I think the mathematical model he applied to the housing markets goes by the name of “log-periodic oscillations”. Predicting when the quake will occur, and with what magnitude, is the problem. That is still a work in progress, but one guesses that Sornette will be at the forefront of it as it unfolds.
Anyway, this is part of what I posted way back in June 2005 in my first, rather arch attempt at blogging called “Not that I’m Biased”:
If one is looking for a truly disinterested expert, and one with the latest knowledge on bubbles, we recommend geophysicist Didier Sornette. The mathematics of Sornette’s discipline is well beyond the lay reader. The essence of it is to show how complex systems work. He is an expert in the study of earthquakes. Stock market and housing crashes are the financial equivalents.
When people think about housing they don’t tend to think of a complex system. They will first think about their own house, those in the neighbourhood, and then a national price index recently described in the press which provides a sense of overall direction. They will probably then invoke a sense of someone who made a killing on property, or whom they saw renovate and sell at a profit on some TV show. From this they will make decisions to buy or sell. There is a strong element of imitation in what motivates them.
These behaviours are definitely part of what makes up a market, but Sornette’s specialism is in analysing them mathematically through study of the price activity of markets. Sornette’s last paper on housing demonstrated that the UK housing market would peak late 2003 or mid 2004, and then be susceptible to a crash. At that time, he did not characterise the US market as a bubble, but in his latest paper he shows that, two years on, the US is in a bubble.
A bubble with a crash in the UK will be one thing, but a serious reversal in the US would be very damaging. It remains to be hoped that the pump priming that occurred in 2000-2001 has not created a greater problem from which the world economy will suffer a more severe hangover.
It is no doubt a symptom of our collective aversion and lack of understanding of mathematics that Sornette’s work is not major news.
When the Asian tsunami hit, there was much hand-wringing about why the cooperation required to create an early warning system had failed. And yet, we know that events of that size are indeed extremely rare black swans, even though they appear to live in the folk memory of some of the coast-dwellers on Africa’s eastern seaboard. Financial shocks are coming with increasing frequency, but financial institutions, governments and the regulatory authorities — let alone the critical faculties of the media, — do not seem to be prioritising really listening to the complexity folks, despite the increasing volumes of accessible literature they have been generating in the past several years. It’s something I discussed yesterday with Brooke Harrington from the Max Planck Institute after her talk at the RSA. But that may have to wait for another post.
Photo credit: BrittneyBushDonate and help me buy back my Fender ('About' tells you why)
As I’ve touched on before, I’ve a self-justifying preference for the intermittent, irregular, and the archive in my blog-reading and -writing.
A while ago, I heard a claim from a New York Times executive that half their traffic came from Google, and that, therefore, they loved Google. Despite suggestions to the contrary, they did not see the search-engine-cum-advertising-vehicle as a threat. But that traffic dynamic is the same for everyone, I think. So what you have done in the past resonates today with 50% of your readers. Better make sure it’s reasonably good because today’s story is no longer tomorrow’s chip-wrappers. At the very least, make sure it is useful to you.
Vicki Baker’s new blog, while republishing one of my more regrettable drunken episodes, nevertheless inspired me with how blogs can be used in a way that the great humanist and empiricist thinkers of the sixteenth and seventeenth centuries would have approved. She quotes Robert Darnton in the New York Review of Books:-
Time was when readers kept commonplace books. Whenever they came across a pithy passage, they copied it into a notebook under an appropriate heading, adding observations made in the course of daily life. Erasmus instructed them how to do it… The practice spread everywhere in early modern England, among ordinary readers as well as famous writers like Francis Bacon, Ben Jonson, John Milton, and John Locke. It involved a special way of taking in the printed word. Unlike modern readers, who follow the flow of a narrative from beginning to end, early modern Englishmen read in fits and starts and jumped from book to book. They broke texts into fragments and assembled them into new patterns by transcribing them in different sections of their notebooks.”
In the end, that is more than enough justification to blog, and it was certainly partly how I conceived my first blog Not that I’m Biased (lost temporarily in a Blogspot vortex), and archived at the back end of this blog, for safety’s sake. I need to index those posts into a category and tag them perhaps, as they documented my thinking from 2004 to 2006-ish. By the way, I blushed a bit when I looked again at some of them last year. But they read now much better after the credit crunch .
Vicki’s a bit of a Kino fan too. And has blogged here more extensively than I have yet on the phenomenon that was Viktor Tsoi. I invite other bloggers to join the meme. Together we can defeat those evil machines!
As a footnote, Milton’s commonplace journal is currently on display at the British Library.Donate and help me buy back my Fender ('About' tells you why)
It’s nice when an old-fashioned wire story from a former employer hits the target. The AP (picked up by Wired) highlights how Katrina and other large-scale natural hazards seem to be affecting the sophisticated US more than lower tech developing economies.
Rather than indicting the US government, which one assumes must take its share of the blame for the poor response to the Gulf Coast disaster, the AP story suggests a more fundamental exploration of our reliance on technology and miscalculation of risk is necessary.
It may well be true, if not yet proven, that the more significant risk of storm and flood damage, was overshadowed by the more available risk of terrorism in resource allocation decisions post 9/11.
This is as much the fault of the media as the government, and in a way shows the media itself learned very little in the wake of 2001. Also, the excessive focus on trying to “prove” the war on Iraq to be a mistake, leaves much less time within major media coverage for developing the more complex story that would expose the systemic weakness Katrina has overwhelmed.
It may also be worth major media pondering how much they contribute to this process by exaggerating the terrorism story. It is easy to tell and dramatic. A more self-conscious media might be more resistant to the terrorists’ easy manipulation.Donate and help me buy back my Fender ('About' tells you why)
The expression â€œyou can’t have your cake and eat itâ€ was around before behavioural science, or our favourite description of confirmation bias â€“ Paul Simon in his song The Boxer. But it is hard to understand how a report this week, first seen in the New York Times, but then repeated elsewhere, can act as both as an indictment of British intelligence, but also be framed by the press as a validation of the claims that the war in Iraq has increased the risk of terrorist attack.
The bigger story must surely be the past failure of the UK Joint Terrorist Analysis Centre, which had said, “at present there is not a group with both the current intent and the capability to attack the UK.â€ But most journalists â€“ ignoring the JTACâ€™s past record â€“ seem to have led with its condemnation of allied governments and Tony Blair in particular, when it said â€œevents in Iraq are continuing to act as motivation and a focus of a range of terrorist-related activity in the UK.”
In journalism, the quality of a source must be measured by the reliability of his/her/its information. If he is wrong on one thing, as the JTAC was so manifestly in gauging the imminent threat, then he must be treated cautiously on all other assertions.
In truth, it should be no surprise that the war in Iraq increased the risk of terrorist activity. Quantifying it may prove much more difficult in the absence of knowledge of a different path of history. However, whether the war was the right or wrong decision at the time, focusing on it is a significant mistake of bias when the greater revelation in the NYT story is that the intelligence services grossly underestimated the current “sophistication” of the terrorist networks.Donate and help me buy back my Fender ('About' tells you why)
Amazon.com achieved an entertainment coup of sorts when it managed to persuade Bob Dylan and Norah Jones to perform for a party to celebrate its 10th anniversary, not only separately, but also for a duet. The pairing of two such disparate artists would have been unimaginable until last Saturday’s concert, but Amazon’s ability to link the two is indicative of the company’s sense of imagination and innovation, the foundation of its success.
To labour the point, Amazon generates add-on sales by highlighting the behaviour and tastes of its customers to one another, through reviews and recommendations. A bias toward Dylan and against Jones might be reversed if we see that other Dylan fans are buying Jones’ music and vice versa. Equally a bias toward a best-selling product or well-reviewed item may reinforce that product’s success against better, but more obscure brands. It can cut both ways, but Amazon doesn’t need to care.
Amazon first started as an internet retailer for books, well before there was much faith in the ability of the net to form the basis of a good business model. It survived the tech collapse, and has moved from strength to strength. It’s also gone beyond books to music and movies and is even starting to turn a profit.
Dylan and Jones sang “I Shall Be Released,” a track from Dylan’s “Basement Tapes,” and while it spoke of a message popular during the 1960s, the title is also suggestive – in the more practical era of the 21st century – of how Amazon has freed retailing from physical and geographical constraints as well as enhanced the power of the customer in terms of choice as well as the sheer enjoyability of shopping.
The performance in Seattle was attended by some 2,500 of Amazon’s employees, but in true Amazon style, it was also broadcast live to the rest of the company via its website. If anything, Amazon has demonstrated that imagination in one area can easily be applied to another.Donate and help me buy back my Fender ('About' tells you why)