A few years ago, I had heard of the news of Wall Street firms attracting scientists from various disciplines, such as sociologists and quantum physicists. I could not understand why? Why would the firms that work in the area of financial analysis attracting these experts in physics, psychology and sociology in addition to the MBAs and financial analysts from around the world? What do these expets bring to the table that is helping these financial firms out?
While I was struggling with this point (always resident somewhere in the corner of my brain) I noticed another phenomenon – all of the my friends who I consider financially savvy (some of whom I consider investing geniuses) began reporting that the market has become more and more erratic and that it is becoming more and more difficult to make any money on the stock market. One of them said that the days of “buy low – hold – and then sell high” are way gone. He then mentioned a new investment strategy surfacing recently – that the only way to make money in this market is to “PLAY THE MARKET MOMENTUM”. In summary – buy a stock that has the positive momentum to go up (I’ll outline details this philosophy in detail in a later blog) – and then sell after a few days when the “steam” or the “momentum“ is gone. He said that the conventional way of investing (by looking at the health of a company by their market capitalization, Profit/Earning ratio and other financial indicators) are a thing of the past – He added that most companies are “playing” the stock market by posting profits generated not by true sales but by clever accounting. He ended his argument to support his philosophy by saying that “all of them are a bunch of crooks.”
Then two things happened – The sub-prime mortgage collapse and George Soros published his latest book to describe a new paradigm in the financial markets. And putting two and two together by looking-at the stock market through ‘George Soros lens’ – things started to make sense to me …
George Soros, a legendary investment banker who made gazillions on the stock market as a Hedge Fund Manager and independent investor – in this book on the philosophy of boom and bust – is summarizing his life-long and deeply-held beliefs on THOERY OF REFLEXIVITY. Being a Hungarian immigrant to the west (from Nazi oppression) and then making it big in the free world by using his piercing insight on the subject of “impact of human behavior on the financial markets”. He, by the way, commands a cult following in the investment world – While reading this book, I got the feeling that this (probably) octogenarian would like the world to remember him as a philosopher rather than a “money hungry” hedge fund manager who made it big by “playing the system”.
In this book, Mr. Soros takes on the recent debacle in the political arena and on the financial markets – and validates his theory over the conventional theories of economics (that are based on the assumption of Perfect Knowledge and Perfect Competition). Mr. Soros contests that the humans are irrational by nature and thus the conventional laws of economics (That assume rational behavior on the participants and independence of supply and demand) are flawed by extension. These flaws in the conventional economic theories fail to explain the booms and the busts that we have observed in the past decades (Some more painfully than the others). Be it the DOT COM boom and bust, be it the housing market boom or bust, be it the financial market boom or bust, be it currency market and commodity market boom (hopefully with a bust) – Mr. Soros says that these phenomenons are prime examples of Theory of Reflexivity. His theory is not applicable for only the financial markets but applies to any scenario where human interaction takes place (He calls the irrational human behavior as the manipulative function).
He adds that the he has used the stock markets as the example to validate his theory because in this case quantifiable artifacts are readily available. Reflexivity develops and can be controlled by regulations – but when the human irrationality or the biases go out of hand (without proper or any regulations) – reflexivity takes the form of a boom following by a bust. Hence, this manipulative function on part of participants of the system to the causes the erratic behavior of the system. So, going back on the fact of why the wall street giants attracting experts in fields other than finance – the investment bankers have realized that the classical economic theories are all false and they are actively hiring the Sociologists and the quantum physicists to explain the way things are goings, develop a model based on a new theory and try to predict the stock market behavior.
I’ll be eagerly waiting for someone to publish details on a new theory (based on Mr. Soro’s philosophy) so I can FINALLY start making money on the market.
A DEFINITE MUST READ for those who seek the truth…….
