Archive for the ‘finance’ Category

ALGO trading …

May 6, 2010

“A Prime Inconsistency”.

That is the name of a piece I wrote some years ago of my recollections of the market crash of 1987.  Today with what can only be called an intra-day market crash, the problems of algorithmic trading are once again being re-visited.  How can this well known problem still be so alive and well?

The trading profession lives on volatility.  With out volatility there are few trading opportunities.  Market making activities generate volatility.  Life on Wall Street would be more boring than main street if market volatility were removed.  Algorithmic trading schemes generate as well as take advantage of volatility.

Volatility generates opportunities for both profit and loss.

Why we don’t care

May 5, 2010

At least one or two of us who watch the markets understand Wall Street is a gambling institution where individuals mostly loose their money, and the big house players, like investment banks, and their friends, mostly take it.

We have been waiting for one in particular to take their fall for a while now. Some of us understand the odds they profited handsomely from the collapse of other banks are off the charts on the high side.  Some suspect this whole thing was a great conspiracy, so while we don’t care much about a particular scam, we do care a lot about how much a particular investment bank ratcheted up the price of oil. We do care about what they and their favorite treasury secretary did while peers collapsed. We care, and we want to see a serious investigation. We care, but the case the SEC has brought is not the one we want to see prosecuted. We watch with interest to see if the SEC case shakes out anything relative to, say Bear, Lehman, Wachovia, or the economically destructive speculation on oil.

The run up of the price of oil, the run-up of housing costs, and the collapse of technologies with the associated loss of good salary jobs were the root cause of the mortgage problem.  Without any one of these factors the situation would have been perhaps difficult, but in the long term at least manageable.

To understand what exactly happened over the long term one has to look at how business itself is done on location in America.  To explore that, we will consider a somewhat hypothetical developing business situation circa 1982.

Let us suppose that certain senior managers of a company in Central New Jersey decide they would like to retire to Central Florida.  Let us further suppose their company, in some ongoing state of constant re-organization, puts them in charge of finding a new headquarters for the division.  What are they to do?  If they pick a site in sunny Orlando, their retirement moving trip south will be picked up by the company.  By the way this is not an insignificant expense.  So they will perhaps pick a nice new location somewhere in sunny central Florida.

Next lets consider what this means for the employees of this company.  First lets consider property values and tax law.  In central New Jersey, a fairly metropolitan area within fifty miles of New York City, home prices are only slightly less than on the New York side of the river.  So a family selling their home will expect market prices within a couple hundred thousand of  half a million dollars.  Capital gains tax rules give the home seller eighteen months to re-invest his profits in a new home, before those profits are subject to capital gains taxes.  So the family moving to central Florida is packing bucks – even if their New Jersey home is not completely paid off.

Mean while Marvin the Realtor is sitting in his office in Maitland Florida, wondering what he is to do.  The average time required to sell a house in Florida is three years.  The average sale price is only sixty thousand, and the last time someone built a new home was before time began.  His phone rings,  it’s a Realtor from central New Jersey.  The guy from New Jersey wants to buy land for a business park.  In a few weeks Marvin has a huge deal put together with an offer of bucks simply unimaginable in central Florida.

Marvin the Florida Realtor goes to sleep dreaming of dollar signs that night, and a lot of nights afterward.  Marvin can’t keep a secret, so before too long every Realtor in central Florida has the same dream.  The company in New Jersey makes their big announcement about the time Marvin’s clients business park is finished.  This in effect starts a bidding war for homes in Florida, by people with money from New Jersey.  Realtors in the south have a big secret they love to keep from their Yankee clients.  The secret is you buy property differently in the southern US.  In the New York area a seller will collect bids, then pick the best offer.  In the south the seller advertises an “asking” price, to which potential buyers respond with perhaps a significantly lower offer.

This clash of home buying culture results immediately in much higher home prices.  All it takes is a hand full of Yankee buyers laying down offer letters of twenty percent more than the asking price.  Central Florida has a culture of smaller, less expensive, more open homes known as “Florida houses”.  Large national builders follow the central New Jersey company to Orlando and immediately start a number of large developments.  Within five years everything has doubled twice.  Support companies have followed their client south, and the value snow ball has grown significantly, propped up now by loan amounts with home prices far surpassing those of only a few years earlier.

Over the years this scenario is repeated from Raleigh-Durham to Houston, and each time it occurs home prices are driven up significantly.  The events driving these transitions often involved software development, engineering, or some other expensive commercial development.  Most were driven by a significant number of well paying jobs.

A very big part of this trend was software development.  Lots of office space was required, as well as homes for the developers.  The Y2K effort exhausted the funds as well as demand for software development for some years.  Before the layoffs after Y2K had even gotten started many companies were looking to outsource their software development.  This in turn eliminated the need for not only those who wrote the software, but also those who maintained it on a day-too-day basis.  Likewise it eliminated the need for a number of large expensive homes.  This trend accelerated with the unwinding of the tech economy.

After the dot.com crash, tech companies simply died, whether they were involved in dot.com or not. Investor’s abandoning technologies opted for real estate. To make money on real property you either sell quickly or rent, which is boring. Bundled Mortgage securities were simply a market making activity which allowed investors to escape the realty trap, with their profits mostly intact. These were used to speculate on oil. The speculation on oil drove prices so high families struggling to pay inflated mortgages had no chance after their loans reset. In essence the investor class, private or corporate, did this to themselves, and most of us couldn’t care less if it did not cause so many problems for our families. Since a particular investment bank is the lone survivor of this mess it follows they knew exactly how it worked, which means they are probably the perpetrators.

The investment bank’s role in this sort of thing would have been making market for the investment class to get their money, then in making market once again so investors could escape the realty trap, and once again in commodities.  This activity in many ways transcend market making, becoming bubble making activities.

Blundering Off

August 20, 2009

Today’s economic mess in America is primarily the result of blundering off in the direction of neo-conservative economic theory for many years.  This period of blundering was followed by eight years of practicing this economic theory, which seems to primarily suggest that markets are the absolute solution for all known problems.  This of course actually depends on the players in this economic game agreeing to a set of rules which protect all player value, assets, positions, and interests.  This presents a conundrum because neo-conservative theory asserts that rules and regulations (aka government) are inherently bad, and thus un-needed.  Once the actual practicing of the theory began, no ones values, assets, positions, or interests were protected, because the rule required for their mutual protection were gone.

Russian programmers manipulation of markets

July 6, 2009

If someone else could use this program to unfairly manipulate markets…  I presume that is exactly what “the bank” has been doing with said software. If this program was neting them millions and millions of bucks, I think you can bet they were using it to their own maximum advantage. Were other banks targeted by “the bank” using this program, or some similar technology, offensively? I think a US attorney should be looking into how “the bank” was using as well as mis-using this technology.

One other thing – as a software developer, we often insert clauses into contracts to protect our interests – particularly if our own prior art is involved. The defendant in this case is at least somewhat of an expert on image and neural processing. They would not be paying him 400K per year, if he were not. Any software expert would insert a clause into his employment contract, allowing himself a legal copy or “fork” of the code he developed. He would also insist on a clause maintaining his right to continue developing his “fork”. This would be particularly applicable if the developed system contained methods or algorithms he had previously designed, developed, or invented. This could be how the defense can say they have broken no law. It would also mean “the bank” is using the government, and the legal system, to break an otherwise legally binding employment or consulting contract.

Some other US attorney should also be asking what this software had to do with the price of oil one year ago…

What happened at GM

June 3, 2009

The real problem at GM is the “big company” mythology which some have said GM created. This big company image conveyed the idea they could do anything, and everything.  Unions wanted more. Retiree’s wanted more. Investors wanted more.  Customers wanted more.  Everyone wanted more. Many years ago a ten percent ROI was good, then good grew to twenty percent, then thirty, and somewhere after that consumers of cars, oil, and real estate, ran out of money.

In the early days GM built cars like the Pontiac version of a Chevrolet Nova a friend bought in 1974. The transmission died after 3000 miles. He was out of luck. So what if you rip off a few baby boomer’s on their first car? So what? So there are a lot of them, and they chose to not be ripped off twice – buying GM cars only when the quality was guaranteed. I have bought GM cars and since the government mandated quality and mileage they have in general gotten to be good cars. Having worked occasionally in the car business, I doubt there is better quality vs price available. Years ago a friend bought an import, which had to be at the dealer every few weeks – yet he insisted that it was a great car! Why? Because their TV and radio ads said so. The imports have quality of advertising. Another friend told me about taking her import for the 30,000 mile service, which cost hundreds of bucks in the early 1980’s – I was shocked – an American car would still be under warranty! It’s not a problem she said – they replace all the parts, electric motors, and stuff, that wear out, every 30,000 miles. Wow. We buy their car because it has better quality, then pay them to replace all the parts that might wear out to make sure it survives the warranty. Wow. Lol. Whatever happened to the consumers brain? Lol, some more. Consumers were told by import marketing departments their cars were of better quality, implying American cars were not. Consumers did not miss the implication. TV ads got the consumers brain.

Once I took my Delta 88 to Columbia Olds in Cincinnati for service. When I got there to pick it up I was told it would be a half hour before it was ready. I ask why. I was told they were replacing a transmission part per a factory service bulletin or some such – and it would not cost me – even though the car had many miles on it. That is quality. Charging a customer to replace every electric motor in a vehicle every thirty thousand miles is not. Incidentally, we drove that car 272,000 miles, and out on the interstate it got 29 miles to the gallon. By the way I only use Mr Goodwrench dealers for service – there is a reason.

It is my opinion that GM may have inadvertently helped kill itself with patents and design mods. On a Buick 3800 engine from some years ago there is a small coolant hose which attaches to a plastic fitting on the intake manifold behind the alternator, and then attaches to the engine block. When this plastic fitting disintegrates because of age and heat, it automatically kills the alternator as well. Why use this plastic fitting? To reduce weight a few ounces. Same engine has a plastic plenum on the intake which perhaps saves a couple pounds. The gaskets and coolant seals have to be replaced every few months. Why this design? To save weight? Probably has a lot to do with keeping patents current as well. In any case the net effect is to drive the perception of quality down. Why not just use a tried and true system for these parts, or over engineer them just a bit so they are not so failure prone? Tried and true patents have run out. If you are familiar with American cars from the 1970’s you will recognize a lot of technology in certain modern imports, yet you will not recognize anything under the hood of a modern American car, except maybe the basic engine.  Constant changing to keep patents has led to higher part prices, higher maintenance, lower reliability, and less economy of scale.

Oh, by the way if you think your new import is so technologically advanced – go physically compare it to a new GM vehicle.  I think you will be shocked.

What is Money?

April 19, 2009

Money is first and foremost a trading currency. A trading currency is a set of tokens representing some immediate value which one receives in exchange for a product or service. These tokens can then be exchanged for additional products or services. Because trading currency is needed in day to day business, government, and personal trading operations, those who save extensive sums, reduce the currency available for trade, which causes prices to rise, reducing the volume of trade, which in turn reduces the value of the given currency, in turn reducing the value of savings, which induces more saving, further reducing the currency available. When currency available for trade is significantly reduced, and prices rise, eliminating demand, with the value of the saver’s holding tend toward zero, the central bank is forced to produce more currency so trading can resume, allowing demand to increase, which tends to stabilize the value of savings. This production of currency eventually dilutes the value of the currency, causing further loss in the value of savings. There are only two known working solutions to this mathematically recursive process. The first involves some forced redistribution of savings, before the deflationary processes start. The second solution requires the central bank to adjust the money supply, such that sufficient currency and credit is always available to sustain trade – which also forcefully devalues savings. Those who have attained significant wealth dislike both solutions. Periodically some of these campaign for the gold standard, or silver certificate solution – which eventually eliminates trading currency. In recent times central banks have largely relied on interest rates to stabilize currencies, however this tool alone does not seem to be sufficient, and may in fact exacerbate the problem.

Investor Pessimism

February 20, 2009

Today the DOW has a fine new intra-day low of 7249 unless it collapses again toward the end of trading. The last time the DOW probed below that level was 11 APR 1997 when it closed at 6391. Market volume is up – currently approaching 530 million shares – well above the recent average. Supposedly Investors are concerned the governments plan will not help them. Well. Actually, I don’t think it was designed too. Investors are discovering the world is not about them – Surprise. Surprise. As this reality sinks in, stock prices are going down. Probably way down, perhaps down to levels not seen since 1994. Unfortunately we are still watching the house of cards collapse, and it aint flat yet, so there may be a ways to go before a bottom is declared. With so many rumors of nationalization, there must be fire or manipulation somewhere. Who is to profit if any of these banks are forced into collapse? It is hard to see, because with the current mentality, any successful banker knows it is his term tomorrow or the day after.

Then reality is the government may have no choice but to remove investors from the economic equation – at least for a short time. The governments problem is keeping everyone fed and entertained well enough so as to be relatively happy. Investors have an interest in this also. To do so, the the electronic payment and reconcilliation networks must be maintained. The FED simply can’t print enough cash to get around that problem. Think about how you are paid, and how you pay your bills – very little is done in cash these days, so the electronic funds networks are essential.

Probing down for stable price and real value

February 18, 2009

Yesterday, It seemed at least occasionally that we were looking at the second attempt to find a real low in the markets – primarily the DOW. The close at 7552 was the same as 20 NOV 2008. But our theory speculates a rise after finding the low. That of course has not happened, which puts the theory in a spot. Not that I think it is wrong, just maybe it is telling us we haven’t hit the low yet.
My speculation, this time last year was that if the US Gov did nothing, the markets could hit 6000 by convention time, and might find 600 by election day. The Gov intervened and that of course has not happened – yet. Presuming all the efforts to fix the problem work, it should not. However, the current efforts by the new administration are much more focused on Main street issues, than on Wall street.

Some republicans are now talking about nationalizing banks, so if the republicans want to nationalize banks, where do we go from here? Greenspan is yammering about how we need to prevent bubbles. There is one way, and he – being a republican, can’t actually think about it seriously. The best way to stop bubbles is to tax trading profits – short term capital gains including real estate. If your work day to day is creating capital gains – you are not an investor, and you should pay tax on your earning from that work, like everyone else. This takes away the incentive to cause bubbles in the first place, and presto no bubbles.

As for the market, my projections if the probe to bottom fails at 7552, the next double bottom probe is 7528 of 04 OCT 2002. Today the market crashed though that one hitting 7484 at 10:12 AM EST. That was not a good sign, thought we can hope it were an anomaly. The market has closed at 7551 today.  It either rises and drops again later to 7484, or it continues with bubble busting and heads for 6738 from 25 APR 1997.  My guess is it heads down from here.

Auto Company and DOW issues

February 17, 2009

This morning the DOW dropped to within a few points of its 20 NOV 2009 low. I have been waiting for this. Looking at the graphics since 1970, I see a pattern – I think, where markets find a floor value by probing downward a couple times then advancing up from there. Today’s session low so far is seven points above the close of 7552 on 20 Nov 2008. Could be it is up from here – but maybe not. It will take a few days, for things to really sort themselves out. For the past couple of months the markets have largely been running on empty, hoping for a charging station in the neighborhood. The government has attempted a few things, but before 20 Jan 2009, those efforts were perhaps aimed more at saving the assets of certain big time republican investors, than at actually stopping an economic collapse. Well what else did they do, exactly with the 300 billion – seeing how now it seems to be largely unaccounted for?

In other news the big auto companies, one fresh off the Mercedes divorce, the other still trying to figure out how to get American teens to buy it’s cars again, after snookering their parents in the 1970’s.  GM might have to give all those snookered parents ten times their money back, plus a car that works reliably for several years to get beyond that one. A good start would be to scrap your dealer nets, and sell the cars directly to your customers. Many of the dealers are such scumbags no one ever wants to even talk to them – about anything, including buying your cars, and especially not about repairing them. To fix this train wreck, I suggest you sell the cars direct, give them a full 100K warranty and establish drive thru repair shops similar to the lube shops we find most everywhere, so they can be conveniently serviced and repaired as needed by people who actually know what they are doing. GM if you actually do this you will need to build cars that can actually be repaired easily – which will mean it is easier and faster for me to drive through your shop to have an O2 sensor replaced, than it is to diagnose and fix the problem myself. You will also either need to can the diagnostic fee garbage or seriously slash the cost of parts and labor. Most of us who do our own auto repairs know how much the diagnostic machines actually cost. We also know if you think about it for a bit you can isolate a failure close enough to pinpoint it with the cheapish diagnostic tool – not those mega-billion dollar boxes your dealers have. Ford you have the same problem. My son has a Torus which recently had a spark plug wire problem. The Ford dealer charged him close enough to a hundred bucks to diagnose the problem – which any mechanic can do with a cheap timing light in say two minutes. The final bill from this dealer was over $300 USD to replace ONE spark plug wire. And Ford wants him to buy another American car – like maybe one of theirs – say a FORD – so they can charge him $1800 to replace the plug wires one at a time, starting at maybe 60,000 miles. Ford, you need to have your guys talk to the GM guys about this kind of nonsense and what it does to market share thirty years later.

Market Problems

October 16, 2008

The question of the month is where are the markets going from here.  No one really knows, but I will hazard a quick set of possibilities.  My basic theory is that we have seen a series of market “bubbles” where those with enough money to loose, have put their money first in technology starting about December 6, 1994.  The DOW was at a 2886 that day.  That is relatively close to the closing low of 2858 on March 22, 1991.  From there the market moved up.  The next significant correction was on September 11, 1998 when the DOW fell to 7795.  From there the markets moved up into the serious part of the technology bubble.  The bottom of the next major correction occurred on October 4, 2002 when the DOW fell to 7528.  This ignores the drop in 2001 which may be primarily the result of fears related to terrorism.

Perhaps these trends indicate value in a bubble is NEVER actually there, and markets will find a floor near their pre bubble low.  One could thus speculate that the current collapse of the financial bubble will find a low near the DOW 7500.  There are trends which suggest inter day dips in the current market tend to be indicators of later closing levels.  Perhaps they are the closest thing to an indicator of actual value existing in the current market.  The current fifty-two week low was on October 10, 2008.  That low is relatively close to the low of 7528 before the financial bubble.  It is possible that October 10, 2008 low is the bottom, but somehow I feel that is unlikely.  I would look for a second dip to that level, or below, to indicate the true bottom has been found.

The technology bubble may have actually started much earlier, in the mid-1980’s. The internet bubble, may have actually been part of a larger technology bubble, which began in the mid 1980’s.  We may be looking at a simultaneous collapse of several bubbles, which could take us either back to the 1994, or perhaps 1985 market levels. If this is actually the case, the markets have a long way to go down. There is some evidence which might point to that. Consider the price of a two liter bottle of soda. The price today is not more than it was in 1984. Same with a bar of soap, and perhaps most of the stuff we use day to day.  If you remove fuel surcharges, the cost of most consumer items might actually be about the same as they were twenty years ago.  The exceptions to this of course are fuel, education, housing, medical expenses, and transportation. If you exclude these items from price, average prices over several years are relatively flat, back to at least the early 1980’s. Certain items are significantly cheaper than in the 1980’s – technology – in particular.  A good personal computer system in the late 1980’s was several thousand dollars. A good system today is far less expensive.

While wages are not completely flat, employers have given raises of five percent or less, for approximately twenty years now. We have a situation where housing prices are in collapse, new automobiles are not selling, a barrel of oil is half what it was three months ago, students are dropping out of college as loans approach the cost of a mortgage, the US has a backlog of used cars, and dealers are going under everywhere. The internet university will shortly displace traditional classrooms, significantly lowering education costs. The “Open Source University” promises to eliminate the traditional cost of an education.

Medical costs are the one thing which has not collapsed. Much of that is due to the loans a physician must take on to finance his education.  Some of this cost is due to the effect of medical insurance holding prices improbably high. By some estimates, eighty percent (80%) of the cost of an office visit is related to dealing with insurance. As the number of insured patients declines – as it will during a major recession, doctors who insist on medical insurance will find themselves raising prices on a dwindling pool of patients. Doctors who skip the insurance hassle and charge more reasonable fees will have more patients and may scale back fees. As technology invades the delivery of medical care, nurse practitioner clinics will become more available simply because there will not be enough doctors. As the number of these clinics increase competition will lower the costs of basic easily deliverable medical services. Collapsing commercial real estate prices will also make medical office space less expensive which will eventually have a downward effect on the cost of medical services.

Given all of these factors, with the wholesale relocation of most well paying jobs out of the US, I would imagine it is fairly near probable that the DOW could move to 1994 levels.  If the underlying system of loans and finance which support today’s pricing structures should collapse, the DOW might find itself back at 1984 levels.  This would of course be a catastrophic event for US investors, but the ongoing bubbles have extracted catastrophic costs on the average US family, so Wall Street isn’t going to get a lot of sympthy.