31–40 of 52 posts
For those who don't understand the Black-Scholes references, here is a quick explanation. What Black and Scholes proved in their famous paper is that if you start with a portfolio containing a certain fraction of money and stock, and rebalance the portfolio constantly as the stock price moves according to certain rules, then after a fixed amount of fluctuation in the stock price you will be left with either pure stoc…
My suggestion why people didn't pay attention? He had no real theory. I've read a couple of his books, here is the general formula: "Look, gaussian's don't fit the market well. Aha, I've made a graph that looks visually correct!" Now, it's absolutely true that gaussian's don't fit the market well - they only work sometimes. The thing is, everyone knows this, and tacks on additional features to explain the other pheno…
Oh, a lot of them did. Many of those can only be described as religious cult followers - practitioners of Elliott Wave "Theory". Some even went as far as accusing Mandelbrot of plagiarizing Elliott's work: http://www.math.utah.edu/vigre/reu/reports/harris_fall2005.p...
I've read some of Mandelbrot's works on finance and I would never put him in the same category as the "technicians". It's hocus pocus mumbo jumbo that I don't think he would subscribe to (e.g. Elliot Wave's "5 up, 3 down" principle).
Elliot Wave appears to be an attempt to back fit a rather simplistic theory to patterns in financial time series data. Fractals are so much more.
http://www.wilmott.com/detail.cfm?articleID=342
From the Emperor With No Clothes article:
And so why, we are obliged to ask, has one of the most important discoveries in the history of economics failed to inspire a concerted effort to develop a better theory? Perhaps it has to do with Mandelbrot himself and his position vis à vis the kingmakers of economics who reserve the right to bestow acknowledgment. Why has Mandelbrot not been recognized, say, with a Nobel Prize in economics? Because he is considered an “outsider”—trained as a mathematician and active in research that ranges well beyond economics alone? Or has he failed to play by establishment rules and violated some unwritten code of economist conduct?
Why, indeed, should Mandelbrot receive a Nobel prize in economics? The Nobel is the ne plus ultra of global recognition; it carries considerable political weight; it does not go unnoticed; the very fact of the award can stir things up. In Mandelbrot’s case, everyone would be made aware that classical economics – quite literally the emperor of our global economy – is without clothes. Younger economists and students around the world would be motivated to search for a better explanation of how economies work and why, and to propose alternative theories validated by actual data and subject to empirical scrutiny. Putting all of us, as real science always does, in the temporarily uncomfortable position of not knowing in order that we may know.
Because what his theory boils down to is that you can't predict the market. Pointing out that the market is describable by a self-similar fractal froth is an interesting thought, but it basically means that if true, you can't predict anything with any effectiveness. (Oh, you might be able to use that idea to tune yourself up something that might work slightly better on a small time scale, but as the market has sped u…
Who wants to listen to a party pooper like that? Yes, yes, yes! The exact correct point. Mandlebrot's finance papers, in published in the 1960's, refute Black and Schole's Nobel Prize winning theories of the 1990's. Who wants to hear that ? Does Mandlebrot rate a Nobel himself? Why of course not... Mandlebrot pointed the way to "another country", one which marketing can not describe...
But every time a "black swan" sort of event occurs, they'd make big money. It was on TV, so I don't have a citation handy, but I suppose that they could be said to be making money off of the assumption that people can't correctly price these things.
My suggestion why people didn't pay attention? He had no real theory. I've read a couple of his books, here is the general formula: "Look, gaussian's don't fit the market well. Aha, I've made a graph that looks visually correct!" Now, it's absolutely true that gaussian's don't fit the market well - they only work sometimes. The thing is, everyone knows this, and tacks on additional features to explain the other pheno…
That's the tragedy, in a way. The portfolio managers were saying that they needed a tool to assess risk, and that any tool was better than nothing. Mandelbrot turned around and proved that a bad tool is worse than nothing, and got ignored because it might take another hundred years of research before his ideas can get turned into a practical tool.
Earlier quoted context omitted.
It makes literally zero sense unless you know something about that crash and the financial markets of the time. In which case it makes perfect sense. The Black-Scholes model provides a recipe for creating synthetic options that will (under the assumption of known volatility) act just like real ones. Which is convenient because you can create synthetic versions of options that people want to have but which are not tra…
automatic trading based on Black-Scholes acerbated the crash != the Black Scholes model contributed to the crash Unrelatedly, is there anything wrong with, say, a mortgage-backed security accurately priced according to a particular model, so long as the limitations of the particular model's assumptions are properly understood? This applies to any model in economics or finance. All are obviously just simplifications o…
I wrote a paper that referenced some of Mandelbrot's work, namely that cotton markets followed a Levy stable distribution:
http://en.wikipedia.org/wiki/L%C3%A9vy_distribution
It's an interesting distribution as it pops up in nature a lot too, such as how birds find food.
Mandelbrot's work and the work of many others have shown the movement in security prices resemble random walks. There is an awful lot of work that shows markets are basically unpredictable.
Yet the reality is otherwise. People make an awful lot of money by predicting markets, which shouldn't really be true to the degree that it is if movements were random. There are trends like Mondays tend to be down days, Fridays tend to be up days and so on.
Probably the biggest failing of financial modelling is the failure to adequately factor in the fat tail. Incredibly unlikely events tend to be more common than otherwise modelled. The collapse in the subprime mortgage market is the most significant recent example of this.
Warren Buffett once characterized how many traders operate as picking up pennies in front of an oncoming bulldozer. The vast majority of the time it's safe but it's not 100% safe and the consequences are completely disproportionate to the reward. It's a challenge to model that kind of scenario.
Anyway, RIP Benoit Mandelbrot. You were a mathematical visionary.
Earlier quoted context omitted.
Who wants to listen to a party pooper like that? Yes, yes, yes! The exact correct point. Mandlebrot's finance papers, in published in the 1960's, refute Black and Schole's Nobel Prize winning theories of the 1990's. Who wants to hear that ? Does Mandlebrot rate a Nobel himself? Why of course not... Mandlebrot pointed the way to "another country", one which marketing can not describe...
Actually, I thought I read about someone who bought a certain position in the market such that, if everything was priced correctly, they would lose a known amount of money each day. But every time a "black swan" sort of event occurs, they'd make big money. It was on TV, so I don't have a citation handy, but I suppose that they could be said to be making money off of the assumption that people can't correctly price th…
Because what his theory boils down to is that you can't predict the market. Pointing out that the market is describable by a self-similar fractal froth is an interesting thought, but it basically means that if true, you can't predict anything with any effectiveness. (Oh, you might be able to use that idea to tune yourself up something that might work slightly better on a small time scale, but as the market has sped u…
Who wants to listen to a party pooper like that? Yes, yes, yes! The exact correct point. Mandlebrot's finance papers, in published in the 1960's, refute Black and Schole's Nobel Prize winning theories of the 1990's. Who wants to hear that ? Does Mandlebrot rate a Nobel himself? Why of course not... Mandlebrot pointed the way to "another country", one which marketing can not describe...