Buy the Book: Ubiquity tells the story of dynamic complex systems. It explains how some systems in the world organize themselves on the edge of instability which can lead to catastrophic outcomes like earthquakes, forest fires, financial crashes, and more.
Weekend Reads – 11/3/2023
Quote for the Week
There are economic agents who make large and predictable mistakes. For example, individuals who invest on their own characteristically make large and expensive mistakes. If we analyse individual transaction in which an individual investor bought a stock and sold another in a single day, it is safe to assume this transaction is not based on liquidity. What determines the individual’s behaviour is the belief that one stock will outperform the other. Now with modern technology we can easily analyse the outcomes of this single-day transaction a year later, and the results are quite astonishing. On average, the stock that a person sold did better than the stock they bought, but it’s not only that it did better — it did better by a large amount. The average is 3.4 percent. These results have been replicated many times over.
This phenomenon leads to a very simple notion: there is an average cost of having an idea for an investor, and the average cost is about 3 percent, which is quite a lot. So, having ideas cost people money, and people have lots of ideas. Individual investors tend to churn their accounts, they tend to trade too much, and that they trade too much seems to be due over-confidence. They believe they know something that they do not know and this is one essential characteristic of human beings, which makes them different from rational beings. — Daniel Kahneman (source)
Disciplined in the Little Things
Investing success is simple. It takes a solid investment strategy built on a proven process repeated over the long run. But it can be undone if you don’t control your emotions.
For instance, the perfect investment process is useless without the discipline to stick with it. Consistency matters, especially when the market is not cooperating.
When times get tough, what do you do? Do you give in when bear market doomers grow loud and sell out of fear? When times get boring, do you cheat (trade) every now and then to keep things interesting? When the bull market is raging and everyone but you seems to be making money do you join in or keep plugging along because you know the process works?
Discipline, or lack thereof, plays a big role in your returns earned over time. Yet, its importance is often overlooked. A great example of why is found in a story told by Walter Schloss. Continue Reading…
Weekend Reads – 10/27/23
Quote for the Week
It was the publication of E.L. Smith’s little book entitled, Common Stocks as Long-Term Investments. His study showed that, contrary to prevalent beliefs, equities as a whole had proved much better purchases than bonds during the preceding half-century. It is generally held that these findings provided the theoretical and psychological justification for the ensuing bull market of the 1920’s. The Dow Jones Industrial Average (DJIA), which stood at 90 in mid-1924, advanced to 381 by September 1929, from which high estate it collapsed — as I remember only too well — to an ignominious low of 41 in 1932.
On that date the market’s level was the lowest it had registered for more than 30 years. For both General Electric and for the Dow, the high point of 1929 was not to be regained for 25 years.
Here was a striking example of the calamity that can ensue when reasoning that is entirely sound when applied to past conditions is blindly followed long after the relevant conditions have changed. What was true of the attractiveness of equity investments when the Dow stood at 90 was doubtful when the level had advanced to 200 and was completely untrue at 300 or higher. — Ben Graham (source)
Timeline of the 1929 Market Crash
John Kenneth Galbraith sat before a Congressional Committee, on October 29, 1979, to answer one question. Can it happen again? It was the Great Depression.
For all the worry about repeating the depression, the real talk centered on what preceded it — the Great Crash. And Galbraith offered his expertise on the subject.
Not perhaps since the siege of Troy has the chronology of a great event been so uncertain. As a matter of fact, economic history, even at its most violent, has a much less exciting tempo than military or even political history. Days are rarely important. All of the autumn of 1929 was a terrible time, and all of that year was one of climax. With the invaluable aid of hindsight it is possible to see that for many previous months the stage was being set for the final disaster.
Galbraith then set about clearing up the issue. The Great Crash was not a single day but a sequence of events that started many months in advance. Galbraith’s prepared statement offered a clear timeline that culminated in what everyone knows as the 1929 Crash. Continue Reading…
Weekend Reads – 10/20/23
Quote for the Week
I used to talk about the crash in October 1987 without explaining what it was and I do still teach a seminar in the economics department in the Fall. I started talking about what happened in October 1987 and I looked around the room and I realized that I think the students were three or four years old in 1987 and weren’t yet reading The Wall Street Journal.
So, just to give you a little bit of context, the crash was really an extraordinary event. According to my calculations it was a twenty-five standard deviation event. One standard deviation happens one draw out of three, two standard deviations one out of twenty, three standard deviations is one out of one hundred. An eight standard deviation event happens once out of every six trillion trials. You can’t come up with a number to describe the twenty-five standard deviation event; it’s just too large a number, I think, for any of us to really comprehend. In essence, this collapse in stock prices — the one-day collapse in stock prices — I think in the U.S. the price was, depending on which index you were looking at, were down 21-22% in a single day. Interestingly, most major markets around the world were off by a similar magnitude. This one-day collapse in stock prices was a virtual impossibility. Of course, this was just a change in stock prices; it wasn’t related to any fundamental change in the economy or any fundamental change in corporate prospects. It was just a financial event. — David Swensen (source)