The price of everything

Relax

“At one point, two former employees say, Goldman’s top management was demanding hourly profit and loss statements from certain teams [at Goldman Sachs Asset Management]..”

-       Richard Teitelbaum, Bloomberg News.

 

The watched pot does not boil. The financial equivalent of this old saw, and one of our personal favourites, which we make no apology for repeating here, is Nassim Nicholas Taleb’s fictional retired dentist. This hypothetical investor is guaranteed to earn 15% per annum from his portfolio with an associated volatility of 10%. These statistics are not open to dispute. But if our investor friend monitors his portfolio in real time, however, the random price oscillations of his portfolio are likely to trigger extreme anxiety. Depending on the frequency with which he observes his portfolio, our dentist will experience varying degrees of heartache and distress. The frequency of portfolio observation versus probability of a pleasurable outcome for our imaginary investor is shown below:

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Wrong at the top of their voice

“I contend that we are both atheists. I just believe in one fewer god than you do. When you understand why you dismiss all the other gods, you will understand why I dismiss yours.”

-       Stephen Roberts.

 

Given their role in the financial crisis, taking investment advice from investment banks is a bit like taking marriage guidance advice from convicted rapists. Nevertheless, as The Economist’s Buttonwood points out, Goldman Sachs and SocGen recently held investment strategy conferences that were poles apart. “In the Goldman world the forecast is for eternal sunshine; visitors to the SocGen world would need to carry an umbrella and a gas mask.” Which nicely summarises the lack of conviction at large in the investment world – perhaps 2011 will be a muddle-through year after all. One common theme to all the SocGen presentations was apparently the use of CAPE, the cyclically adjusted price / earnings ratio for the US stock market, popularised by economist Robert Shiller. As his chart below shows, stocks look overvalued by roughly 40% on this measure, trading at a level that SocGen analyst Andrew Lapthorne suggests has previously delivered average real returns of just 1.4% per annum.

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A playground for robots

“When a government is dependent upon bankers for money, they and not the leaders of the government control the situation, since the hand that gives is above the hand that takes. Money has no motherland; financiers are without patriotism and without decency; their sole object is gain.”

-       Napoleon Bonaparte.

 

Long before entertainment came in the form of bits and bytes, Marx Toys made a game in which combatants controlled two plastic robots in a boxing ring. The game was won when one player landed a knockout blow on his rival, causing his head to pop up.  I seem to recall this game being called ‘Battling Bonkers’, but according to Wikipedia it was branded ‘Raving Bonkers’ in the UK. Our American cousins, with their preference for vivid rhymes, call them ‘Rock’em Sock’em Robots’. I am reliably informed by colleagues that the game plays a cameo role in ‘Toy Story 2’.

Those concerned at the inexorable spread of robotics through our culture will probably view recent stock market “developments” with some alarm. Michael Hudson, a professor at the University of Missouri, suggests that the average holding period for a US stock is now 22 seconds. The average foreign currency “investment” is glacial by comparison, lasting a full 30 seconds. The protagonists this time round are also robots, engaging in what is known as High Frequency Trading (HFT), namely the deployment of computer programmes using algorithmic models that now account for three quarters of equity transactions in US markets.

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The first duty of intelligent men

A special, post-Christmas message:

 

“When I read about the evils of drinking, I gave up reading.”

-       Henny Youngman.

 

It is customary for asset managers to begin the year with a list of forecasts and predictions for the year ahead. Customary but a bit of a waste of both writer’s and reader’s time, unless the financiers in question have uniquely stumbled upon some formula for perfect foresight. City and Wall Street folk being what they are (amongst other things: simplistic, backward-looking and herd-following drones), such forecasts are as likely to provide value for contrarian purposes as for offering any kind of amazing insight into the otherwise unfathomable magic of the markets.

The US S&P 500 Index currently stands at roughly 1,275. Citigroup (bailed out bank), Goldman Sachs (bailed out bank), Bank of America (bailed out bank) and JP Morgan all, according to the FT’s Lex column, have targets between 1,400 and 1,450 for the S&P 500 this year. So far, so predictable. It may actually be compulsory for Wall Street banks to be bullish about the market. It may have been a condition for getting bailed out in the first instance. Robert Shiller, author of ‘Irrational Exuberance’ and Yale economics professor, also has a target – in his case, of 1,430, bang in line with the rest of Wall Street. The difference, as Lex points out, is that Shiller’s target is for the year 2020.

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