Black Swan or Black Scholes

The last economic event was coined a “black swan.”  The phrase was popularized by Nassim Taleb, who penned a book by the name.

Generalizing richly, the black swan event is an unpredictable event. In the case of the mortgage meltdown, the theory is that we could never have seen home values–something that are deeply embedded in the American psyche–fall to such levels.

The theoretical leap of the Black Swan event is that we’re powerless to predict the economic future given our current tools.

It’s now cool and convenient to scoff at Black Scholes and other financial management formulas. They failed.Or did they?

In fact, on further review, how unpredictable was this? Is this really a black swan?

I knew an associate who bought a house (at too high of a price, in my opinion) and tried to sell it the next year or so at a 150 percent its original cost. 150 percent! Wow, that’s some investment. He lost his shirt.

I believe that the mortgage meltdown and the subsequent deep recession had nothing to do with the technological tools of quants and other investors; it had everything to do with our failure to use the right data and even more importantly, the failure to interpret the data correctly.

It’s still ultimately human error that generated the economic collapse, though technology is a convenient scapegoat. Human psychology wants to believe in continuity and dependability. If the market always has gone up, it always will go up. If homes have always been good investments, they’ll always be good investments.

The data — anecdotal and statistical — was there to prove this wasn’t the case.

But, technology without accurate observations and interpretations  is ultimately useless.

Garbage in, garbage out.


The Mindful Trader. Becoming One with Alpha

Trading is a mysterious process.

There’s no end to it. There’s no certainty. Good trades can go bad. And bad trades can go good.

While most people would say that spirituality is the exact opposite of trading, there’s a zen to trading, just like there are spiritual paths to every endeavor.

Mindfulness training can be helpful to a trader for a few reasons.

First, mindfulness lowers stress. Stress for a trader is practically a given because of the shifts in fortune and uncertainty. By becoming aware of one’s thoughts, you recognize the repetitive, stressful thoughts and minimize the stress it causes you.

Another reason that mindfulness suits trading psychology is that you distance yourself from the emotions that cloud your decisions. Emotions, which can form negative trading patterns, are probably the worse enemies a trader has. There are two biggies: greed and fear. But other emotions can interfere with your intuition, or, if you will, your instincts. Insecurity, anger, envy, and dozens of other emotions bubble up in any given trade. By becoming aware of these emotional clouds, you’ve taken one step closer to mastering them, or, at least minimizing their effect on your trades.

There are those who suggest that you can retain more cognitive powers by eliminating the “junk” thoughts that bubble up in your head. Still others suggest more esoteric powers arise from mindfulness.

So, what is mindfulness?

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