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the psychology of successful trading Trading trading psychology

The Halo Effect is One Cause of the Bitcoin Bubble

What is the Halo Effect?

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The Halo Effect occurs when people judge the overall quality of an item or person by considering only a single property of that item.  This can lead to dramatic errors; most obviously when all of the other qualities of the item  are negative or highly questionable.  This I will argue here is one causal factor among several which have caused novice investors to buy Bitcoin.  When it crashes, they will lose all of their money.  They will be unable to exit the market because the power of the cognitive bias is too strong.

In this post, I will briefly set out the cognitive biases which are in play here before describing the Halo Effect and how it is another feature of human psychology which leads people to mistakenly buy Bitcoin.

Why People Like Bitcoin

The Halo Effect is not the only causal factor operative among the novice investors who are buying Bitcoin.  I have already argued elsewhere that another causal element is that Bitcoin buyers prefer their own experiences to any consideration of statistical data. In addition, Bitcoin buyers share with Trump voters a distrust of experts, as I have also argued elsewhere.

We can see that as a two variants of the Dunning Kruger effect.  Here, people who lack competence are unable to detect such lack of competence. This makes intuitive sense since people who lack competence and are aware of it would presumably either take steps to address that lack or avoid activity requiring the relevant competence.

https://www.psychologytoday.com/gb/basics/dunning-kruger-effect

A corollary of that is seen in another variant of the Dunning Kruger effect. People who lack expertise are unable to detect true expertise.  We can see this when someone is able to publish a book on Bitcoin when it is quite apparent that they do not have even a basic understanding of it.  For readers of this book, it must be impossible to recognise and benefit from well sourced, properly constructed arguments, for example in the mainstream media.

Origins of the Halo Effect

The Halo Effect was first seen in data about personality assessment in the military.  Officers asked to rate their subordinates would in fact rely on a single criterion. They would then assume that all other relevant factors were correlated with that one criterion.  This is obviously dramatically false unless all of the other variables are correlated with the one assessed.  And that is highly unlikely to be true.

False Claims About Bitcoin

Many people are unable to distinguish Bitcoin from the blockchain.  This leads many of the novice investors who are buying Bitcoin to fail to distinguish between the two claims “I am buying Bitcoin” and “I am investing in blockchain technology.”

The blockchain is a distributed ledger system which offers transparent recording of transactions (or any data) without the backing of any central authority.  It is an extremely interesting technology which holds great promise.  It could create corruption-resistant property ledgers.  That would be of great benefit, not least in combatting money laundering.

Bitcoin is termed a “cryptocurrency” even though it does not fulfil the roles of a currency in that it is not readily convertible and it is not a stable store of value.  It rewards the miners who maintain the blockchain on a widely dispersed set of servers.  However, it is clear that the blockchain and Bitcoin are not identical.

So this is how the Halo Effect kills traders. They confuse a potential positive quality with all properties. Bitcoin uses the Blockchain. The Blockchain is interesting. Therefore Bitcoin is interesting as an investment. This does not work even if it is true that the Blockchain is interesting. And even that claim is highly questionable.

A Potential Response From Bitcoin Proponents

An objection has been attempted here by a Bitcoin proponent that it is not possible to have a blockchain without a cryptocurrency.  There are a number of readings of that, but on the obvious two, the claim is either false, or true but misleading.  If the claim means “you cannot run blockchain code without also generating a cryptocurrency” then it is false. Blockchain code could run with the cryptocurrency elements redacted. Or they could have zero value, which achieves the same thing.

If the claim means “it is necessary to compensate the miners, ” then it is true.   However, the miners could get $.  Or the blockchain could run in the cloud, or in many clouds.  That would carry some costs, but this is not a problem.  It would even be possible to compensate the miners in a cryptocurrency which was pegged against the $.  There is no need for the cryptocurrency to appreciate and definitely not to gyrate wildly.  I therefore conclude that the objection fails.

Why All This Means Bitcoin is Toast

There is one positive property that Bitcoin possesses.  It is true that it is generated using the blockchain technology.  It is also true that the blockchain technology is extremely interesting, and being pursued widely by a number of serious players.  By contrast, no professional, experienced or institutional investor is holding Bitcoin.  Novice investors fall prey to the Halo Effect when they think that the one positive quality of Bitcoin is a measure of its overall quality, when in fact it has no other redeeming features at all.  This will prove to be a very expensive cognitive bias when the Bitcoin crash comes.

See Also:

The Forthcoming #Bitcoin Crash Will Kill The #Trump Demographic

The #Anecdotal Fallacy And The #Bitcoin Bubble

Bad Arguments for the Permanence of Bitcoin

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the psychology of successful trading Trading trading psychology

The Bitcoin Crash Will Kill The Trump Demographic

Introduction

We know that if you voted for Trump, you are more likely to be less intelligent, less educated, poorer and more rural.  I will argue that this leads to a further feature — distrust of experts — which is required to be a supported of either Trump or Bitcoin.  This suggests that the Bitcoin Crash will kill the Trump demographic.

Note that I said “more likely to be []…”  We are talking about two curves here.  It is not certain that you are less intelligent and poorer etc.  It would not be an objection here to say “I have a PhD and I am rich and I voted for Trump.”  To say that would be to commit the Anecdotal Fallacy, which I argued yesterday is also a major feature of the Bitcoin bubble.

Only Amateurs Do Not Expect a Bitcoin Crash

One of the notable points about Bitcoin is that there are no professional, experienced or institutional investors who have invested in Bitcoin.  If that changes, we should all become seriously concerned.

Everyone who holds Bitcoin is an inexperienced amateur.  I put this to a Bitcoin enthusiast, and received the following reply.

Mark Cuban invested big into Unikorn. Peter Thiel invested into bitpay which is a wallet company. Mike Novogratz (former president of fortress investments and partner at Goldman Sachs) runs Galaxy Investments (almost exclusively crypto). Tim Draper bought 30,000 btc in 2014.  And Bill Gates: there are no definitive articles on how much BTC he holds but he has plenty of quotes talking about how it’s the future

I will now show why none of that works.

Mark Cuban and Unikorn

The first point to make here is that it is odd to cite Cuban here since he is on record as saying that Bitcoin is a bubble.  The other problem is that Unikoin, the token involved in this ICO, is not Bitcoin.  (I also believe that almost all of the other ICOs are fraudulent, but I would need a lot more space and time to show that.)  Finally, Unikoin will apparently permit sports betting, so while I do not recommend that, it at least has a theoretical source of value.  Bitcoin does not.

Novogratz

Novogratz and Galaxy Investment Partners have invested into the huge and under the radar Worldwide Asset eXchange (WAX).  This is like selling shovels to miners in the Klondike gold rush.  (Reportedly, Trump’s grandfather ran a Klondike brothel.)  Selling shovels is a great business to be in, irrespective of how many of the miners or Bitcoin holders go bust.  So this again is not an example of a major investor holding Bitcoin.

Tim Draper and 30,000 btc

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This is the only one of the examples which approaches being serious.  We must take it seriously because Draper reportedly invested serious money: $18m.  And he is actually holding Bitcoin as opposed to backing exchanges.  The caveats though are manifold.  First, he lost 40,000 Bitcoin in the Mt Gox fraud, and the fact that this did not give him pause makes me think he is an esoteric thinker.  Secondly, a lot of his remarks concern enthusiasm “for the technology”.  It is very important to keep a clear distinction between Bitcoin — a Ponzi scheme — and the block chain — a very interesting technology.  Thirdly, this is one man against every investment bank, hedge fund, regulator and all the other expert investors in the world.

Discrediting Experts as Diagnostic

I have in fact been told that my 20 year experience of successful investing is a disadvantage, because it means I am unable to understand the “glorious opportunity” allegedly represented by Bitcoin.  There are in fact some advantages to disadvantages, as I argue in my new book:

https://www.amazon.co.uk/Psychology-Successful-Trading-Behavioural-Profitability-ebook/dp/B07885RH42

— but that isn’t one of them.

Bill Gates and the Bitcoin Crash

This is an excellent example of muddled analysis and poor understanding of the importance of precision and sourcing one’s quotes from reputable sources.  (It is no coincidence that Bitcoin supporters and Trump voters alike disparage proper news sources like the New York Times and prefer websites with manufactured quotes.)  We are not actually given a quote from Gates which is the first problem.  

But secondly, it is highly likely that even if Gates thinks the blockchain is the (part of) the future, he is not holding any sizeable numbers of Bitcoin.  Why would he? He does not need to to look at blockchain technologies and he knows that a Bitcoin crash is inevitable.

A distributed transparent ledger, which is what the blockchain is, is indeed a highly interesting piece of technology which would have many very useful applications.  As just one example, imagine replacing property registers with blockchain.  Myriad opportunities for money laundering and corruption would disappear, and be replaced with an efficient technology. The fact that Bitcoin is also built on the blockchain is irrelevant.

Conclusions: Bitcoin Crash Will Kill The Trump Demographic

So none of the arguments described above succeed. They do nothing to deny that the Bitcoin Crash will kill the Trump demographic.

People in this country have had enough of experts

This is actually a quotation from a pro-Brexit politician, but we see the same pattern across the Brexit “debate,” in Trump vs Clinton, in global warming and in MMR Vaccine/autism.  In each case, you need to believe that you are right and anyone educated or with specialist knowledge is wrong.  You also need to believe that those people are lying to you — for no obvious reason.

The quality of the arguments raised by Bitcoin proponents can be seen to be extremely poor.

So now you can decide.  If you invest in Bitcoin, you are lining up with the people who mistrust experts.  If you voted Trump, you did the same thing, because you are probably a climate change denier.  So I think there is a very strong likelihood that many Trump voters are also holding Bitcoin.  

And they are going to pay a heavy price for both decisions. The only thing that will save them somewhat is they are poor. So they won’t lose that much in absolute terms. But it might still be a lot for them.

See Also:

The #Bitcoin Bubble Is Caused By The Halo Effect

The #Anecdotal Fallacy And The #Bitcoin Bubble

Bad Arguments for the Permanence of Bitcoin

The Psychology of Successful Trading: see clip below of me explaining my new book!

Categories
the psychology of successful trading Trading trading psychology

Bitcoin Bubble: Caused By The Anecdotal Fallacy

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There is currently a huge Bitcoin Bubble.  BTC actually has zero value so any trading at a non-zero value represents a bubble.  I will suggest here that the reason for this strange development is a cognitive bias known as The Anecdotal Fallacy.

What Is The Anecdotal Fallacy?

The Anecdotal Fallacy occurs when people ignore statistics and quote a story of events that happened to them.  Often, it will turn out not even to have even happened to them, but to “someone they know.”  While this step is an additional move away from constituting useful data, it is not the worst effect of this bias.  The main problem is that assessing probabilities on the basis of personal experiences is almost completely useless.  This is true even when those personal experiences actually occurred.

There is only one way to assess probabilities, and that is to use statistics on similar events.  This is hard.  In fact, even understanding it when it has been competently done by scientists or statisticians is hard.  It needs a lot of training and it seems as though our psychology is almost designed to trip us up.

The Anecdotal Fallacy is widespread.  Its use seems in many circumstances to be almost automatic.  If you give most people data on a topic, people will generally respond with what they think is a counterargument from their own experience.  Apparently intelligent and successful people fall into this error, so those qualities won’t help you.  For example, Rupert Murdoch recently tweeted a photo accompanied by the text: “Just flying over N Atlantic 300 miles of ice. Global warming!”

How Does The Anecdotal Fallacy Drive the Bitcoin Bubble?

This is a fairly extreme example which may have been deliberately provocative, but it is also quite stupid.  There are two mistakes here. One is the idea that global warming has to have happened already in all locations.  The second is that global warming would eliminate all ice on the planet.  These mistakes show a non-existent understanding of the problem.  The only way to assess the probability that global warming is a genuine threat is to look at graphs showing correlations between greenhouse gases in the atmosphere and temperature rises over several decades.*  Any personal experience is simply irrelevant to that task.

We also tend to over-estimate the probability of vivid events.  I see This as an aspect of the Availability Heuristic, which I think is related to the Anecdotal Fallacy.  We use the Availability Heuristic when we assess the probability of events by considering how hard it is to think of an example of that type of event.  Obviously we will make errors in probability judgment if some events are easier to recall than others, and more vivid events are more easy to recall.  I discuss this aspect of our psychology in the context of financial markets in my new book:

Why is the Anecdotal Fallacy relevant to the Bitcoin Bubble?

Everyone who is buying Bitcoin is doing so based on one of two events.  Either they have recently made a large amount of money from buying it or someone they know says they have.  Twitter is full of stories of people claiming they have made money.  This is vivid and alluring.  It draws more people in, which of course is what helps to sustain the Bitcoin Bubble.

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The problem is not that these stories are false.  A lot of people have indeed made a lot of money out of Bitcoin.  However, it is still a terrible investment.  In fact, I don’t think we can even call it an investment.  It has no fundamental value.  So it can crash to zero at any moment.  It will definitely do so; we just don’t know when.  So the problem is rather that people are using the Anecdotal Fallacy to assess the probability of Bitcoin rising.  They are wrongly thinking Bitcoin will rise forever.

What Should We Think About Bitcoin?

People making this mistake are forgetting the bubbles which have often happened in financial history.  Any “asset” which rises this quickly has been a bubble.  It has eventually crashed to zero.  It will do so as quickly as it went up.

The statistics are completely opposed to our psychology here.  Stay away from Bitcoin at all costs.

*The reason I say “several decades” is because we have only been taking detailed measurements for about 150 years.  However, we have data from ice cores etc going back much further.

See also:

The #Bitcoin Bubble Is Caused By The Halo Effect

Bad Arguments for the Permanence of Bitcoin

The Forthcoming #Bitcoin Crash Will Kill The #Trump Demographic

The Psychology of Successful Trading: see clip below of me explaining my new book!

Categories
Trading

Gun Control Opponents Are Wrong, But It Is Not “Superstition” 

Introduction

The gun control “debate” involves pro-gun advocates who have very bad arguments. There have been suggestions recently that some voters are immune to evidence and argument. They rely instead on gut feelings and instinct. These individuals are “intuitionists” or “superstitious.”  I will suggest that while this is the correct direction of travel, that we can in fact be more precise and locate the issue as a consequence of cognitive bias known as Status Quo Bias.

The Onion puts the strangeness of the gun control debate best with its satirical headline: “No Way to Prevent This, Says Only Country Where This Regularly Happens.” To rational observers, it is obvious that if you have 310m guns in a country and 93 people a day are killed by them, you should reduce the second number by reducing the first. Almost every other country in the world does this and it works. Yet a majority of Republicans and even 25% of Democrats disagree. This is ignoring data on a massive and deadly scale.

This is not superstition. The Economist called it that recently.

https://www.economist.com/united-states/2017/10/05/superstition-helps-explain-how-people-think-about-gun-laws

Superstitious beliefs, to be sure, are not based on data and do not often result in true claims. If they do, it is a coincidence: superstition is not a reliable method of arriving at true claims. There is no such thing as bad luck and walking under a ladder wil not bring it. Opponents of gun control do not believe that firearms are lucky charms.

The appeal to intuition, by contrast, can I think throw light on the topic if precisified in the right way. I would understand intuition as being a collection of cognitive biases. These operate to slant and indeed direct our decision making, largely unbeknownst to us.

Status Quo Bias

The Bias I have in mind here is Status Quo Bias. For my U.K. readers, I should immediately clarify that this has nothing to do with Francis Rossi. Another name is the familiarity effect. I will introduce it by asking you to make a quick choice.

Would you prefer to meet a friend for lunch somewhere you have been before or would you rather go to see a stranger to pursue a novel activity in an unknown location?  Most people most of the time would choose the first option.

As with all Biases, this one has its origins in being valuable. Most of the time, it will produce the right result. This is because of a very approximate risk assessment heuristic. We assume that things we have done before which have not harmed us visibly are safe activities. This is wrong but better than nothing. It is in fact I believe related to another Bias called the Availability Heuristic, but I will set that aside for now.

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Status Quo Bias is the idea that any change is more risky. This can produce conclusions which are as uncongenial to the left as to the right. It is not true, for example, that because countries have borrowed heavily in the past, they can continue to to do indefinitely. As to the topic at hand, for the “intuitionists,” changing to a scenario of tighter gun control is risky because it is new, rather than safer because all of the countries that do it are safer.

Practical Implications for Gun Control

What this means practically depends on whether Cognitive Biases are hardwired in to us. That’s unclear, but I think it is at least a start for me to list the mental subroutines we are running. If they are hardwired, then they are impervious to data. That explains why the debate is sterile: proponents of gun control continue to say “if we changed this fewer people would die because that is what happens when you have gun control” and opponents would continue not to listen.  If they are not hardwired, then telling people they have these biases might be a start in the direction of changing them.

I recommend it if you want to be aware of the subconscious processes which guide your behaviour in markets and elsewhere and if you want to become less dependent on your own autopilot which will not be optimising your outcomes.

See Also:

What Is “Theory Of Mind?”

The Psychology of Successful Trading: see clip below of me explaining my new book!

The Illusory Truth Effect And Financial Markets

Do Human Rights Do Too Much?

51.496565-0.142472
Categories
Trading

Empathy Is Not All Good

Introduction

People love empathy. But it’s not always positive and is often dangerous.

I have recently seen an interview with a poker champion in which he claims that “empathy” is one of the strengths of his game.  I will suggest this is false for a couple of reasons.  Firstly, we don’t know what it is.  Secondly, what is more likely to be useful is the related but distinct concept of “Theory of Mind.”  I think there are many parallels between poker and financial markets, so my position amounts to an argument that you

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don’t want empathy to make your stock portfolio perform.

What is Empathy?

There are many things that empathy might be. I list several possibilities below. There are many more.

  • Feeling the same emotion as you
  • Being able to say what emotion it is that you are feeling
  • Feeling a similar emotion to you
  • Feeling a weakened form of the emotion that you feel
  • “Sympathising” with your situation
  • Imagining what I would feel in your situation

Certainly, this is already complicated enough, without asking difficult philosophical questions like “what does ‘same’ mean here?” or “what is the effect of similar?”  And we haven’t got on to the main point yet.

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In poker and in markets, what you want to be able to do is predict and explain the behaviour of others.  That is what is known in psychology as a Theory of Mind task.  I have argued in my first book that the way we do this is by simulating others.  We imagine that we are in the situation that the others are in and see how we would feel.  We then predict that they will behave the same way as we would given the resulting emotions.  Note that this does not fit neatly into any of the categories above.

Here’s some philosophical analysis asking what empathy is and criticising it:

https://onlinelibrary.wiley.com/doi/abs/10.1111/j.2041-6962.2011.00069.x

Why Empathy Is Not All Good

This then shows the first problem with claiming that empathy is good for performance.  However, this isn’t a useful piece of advice without defining what empathy actually is.  And secondly, think about what it would do if you felt people’s emotions.  Do you want a surgeon who is about to operate on you to be paralysed with fear because you are?  Do you want a pilot to experience the emotions of passengers as he wrestles with the controls in a storm?

So I think that when it comes down to it, what you want is actually a good Theory of Mind.  In fact, as I discuss in my book, there is experimental evidence that better traders have better Theory of Mind.  For that reason, I spend an early chapter explaining how we think Theory of Mind works.  It can be improved I think by taking account of cognitive biases and that will lead to better trading performance.  It will therefore improve your poker game too!

What Is “Theory Of Mind?”

The Psychology of Successful Trading: see clip below of me explaining my new book!

#Narcissism and #Unexpected Behaviour

Can Individual Choices Produce Unacceptable Inequality?

Categories
psychology the psychology of successful trading Trading trading psychology

Problems Unwinding PFI

Introduction

PFI is politically unpopular. For that reason, politicians often announce that they will roll it back. Plenty of projects like hospital construction would be impossible without PFI. Many of the arguments against it fail since they do things like add up 30 years of interest and say that that is the cost of the project. There will moreover be significant problems unwinding PFI due to the bonds issued. I will outline that below.

Who Wants to Unwind PFI?

It was at one point Labour Party policy to unwind PFI. PFI contracts would be reviewed and if necessary, brought back in-house.  The report of that is here:

https://www.theguardian.com/politics/2017/sep/25/john-mcdonnell-labour-would-bring-pfi-contracts-back-in-house

Private investors who have put money into PFI schemes will need compensation.  A spokesman said “a future Labour government would compensate shareholders in PFI companies by swapping their shares for government bonds.” 

That might be acceptable, though equity holders may not be at all happy about being placed in a different part of the capital structure. They would have a completely different risk/reward structure and also have exposure changed to a different entity. 

It would work if they got enough government bonds.  I am not sure how popular a “stuff their mouths with gold” policy to ensure silence (and no lawsuits) will be but we will see.  The real problem however lies elsewhere.

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How Does PFI Work?

The way PFI works is that the government or an NHS trust signs a contract with a private sector entity, often a consortium the members of which will include prominently construction and financial firms.  The contract, very basically, will say “you agree that we will have a usable hospital between three and thirty years from now” and “we agree to pay you cash amounts for the same period.”  This removes risk from the government because it no longer has to build the hospital — which incidentally it probably cannot afford to do in any case — and any other interruptions to service during the lifetime of the contract. 

This by the way is why it is not an objection to PFI that it costs more: it should cost more because the government has avoided a great deal of risk.  We know that government projects go over-budget all the time. With PFI that risk passes to the private sector. Most critics do not price risk correctly.

The private sector consortium now has a good chance of receiving government cashflows for 30 years, providing it can build the hospital without problems.  These cashflows are excellent for backing bonds: or in the jargon, they are good candidates for securitisation.  Because they are such good candidates, almost all of them will have been.  One reason why they are so good is that there is very strong demand for such long bonds — from everywhere in these low rate times — but especially from pension funds.  Naturally they want long bonds because they have long liabilities.

What are the Problems Unwinding PFI?

Here’s the problem.  These investors focus on Repayment Risk.  This is the risk that you give them their money back before they were expecting it.  This sounds like good news for the investors, but it isn’t. The pension fund wants interest for 30 years at a rate fixed today. Now you have given them their money back they won’t get that.  This is especially painful for them if rates have declined in the meantime.  The current ultra-low rates environment just underlines this.  Imagine 10 years ago you bought a bond paying you 6% a year for 30 years and now they give it you back and say “go ahead and find another bond that pays you that much…”

Because investors hate this so much, they insist on what is known as a Spens clause.  This basically says that if you repay early, you have to roll up the remaining excess interest payments for the remaining life of the bond and hand that over now.  This will be unimaginably expensive because the excess interest will be calculated primarily from the original rate paid by the bonds and the general rate available.  That difference will be huge in a lot of cases because rates generally are so low.  So you will have to roll up a huge difference for maybe 20 years.

Conclusions: Problems Unwinding PFI Mean You Shouldn’t Do It

Conceivably the government could legislate to take out the Spens clauses.  But that would mean government had intervened radically in contracts agreed between consenting experts in full possession of their faculties…and would destroy the reputation of the City as a secure global marketplace.  We don’t need that ahead of Brexit.  In any case, it would also kill most of the pension funds.  Many of those are foreign, so even if the government were able to lean on the local ones, they would still pick up some fearsome litigation. Problems unwinding PFI are such to make it a bad idea even if PFI was a mistake, which it isn’t.

See Also:

The Psychology of Successful Trading: see clip below of me explaining my new book!

Cognitive Biases And How They Affect Stock Markets

Jacob Rees Mogg Is Wrong To Say That Loss of Passporting Will Not Be A Problem For The City

UK Government Spending: Where It Needs To Be Cut And Why

Categories
Trading

You Can’t Unilaterally Change Employment Contracts

Introduction

Despite the fact that you can’t unilaterally change employment contracts, people often seem to try to do it. This is especially relevant in COVID times. You can insist that people you pay to teach for example. But you can’t fire them if they don’t do it in person.

I used to be an investment banker.  This apparently makes me a class enemy to some in the Labour movement.  Although I voted Labour throughout the Blair years, I have been told that my vote is not welcome.  This is the kind of debate, I suppose, that will inform the leadership competition.  Electability or purity?  My point here in bringing this up as a preliminary is so that you do not think I am an automatic union partisan.  I think on this occasion — for the first time — the RMT is right, and if I as a generally unsympathetic person think so, perhaps they are.

It is right that you can’t unilaterally change employment contracts and the RMT is correct to point that out. I will describe why I think that below.

Why You Can’t Unilaterally Change Employment Contracts

It is a principle of employment  law that you cannot  arbitrarily make adverse changes to people’s contracts.  In fact, you can’t ever change a contract without the agreement of the other side.  Public sector management seems to act as if in ignorance of this surprisingly often.  When I was in private equity, we would never have done that.  Sure, we would have fired people who were incompetent and made people performing activities that were no longed needed redundant, but no-one gains from having a disgruntled workforce — and what is more likely to make them disgruntled than trying to change their contracts against their will?

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Here’s how you handle this TfL situation if you are a competent private sector manager.  You say to the workforce, “guys, we need to run an all-night service.  We need volunteers to work ten weeks of nights a year.  We are offering an uplift of five grand.  Who’s up for it?”.  You then find out if you get enough people who want to do it.  We can assume that the current uplift of two grand is inadequate, both for the reasons that it looks inadequate — an extra 100 quid a month in your pocket after the government has taken its cut does not look like a good deal — and because the RMT have chosen to strike rather than accept it.

Consequences of the Fact That You Can’t Unilaterally Change Employment Contracts

One of two things now ensues.  With luck, you get enough volunteers to run your service.  Maybe the younger drivers think they can go to Ibiza a couple of times a year and its worth it to them.  Maybe the older ones value spending time with their families more.  This is fine.  If you don’t get enough volunteers, you either up the offer or recruit.  Maybe you recruit specialist night drivers — there is some evidence that the adverse health effects of shift work are more to do with the disruption of shift changes than the nocturnal activity.  You might have to pay more for these specialist night drivers.  The union should not want to stop you doing this.

https://tfl.gov.uk/campaign/tube-improvements/what-we-are-doing/night-tube

This may of course result in your service becoming more expensive.  This has to be paid for.  The obvious thing to do is increase prices to users of the night time service.  Most of us have had one drink too many in Soho and ended up taking a cab which might cost £30.  If the alternative is a tube which is twice the normal tube price, say £8, that’s a good deal, right?

Conclusions

Although I still think that £49,673 is quite a high non-graduate starting salary, I do think it is fair enough for the RMT to say that it is not on to impose night working on their members.  It is a major adverse contractual change and drivers can reasonably insist on the right not to do it; the response is to pay them more until enough of them agree.

See Also:

John #McDonnell’s Characterisation Of #Finance Is Misconceived

Jacob Rees Mogg Is Wrong To Say That Loss of Passporting Will Not Be A Problem For The City

The Psychology of Successful Trading: see clip below of me explaining my new book!

The Forthcoming #Bitcoin Crash Will Kill The #Trump Demographic

Categories
psychology the psychology of successful trading Trading trading psychology

Kerviel: How He Got Away With It

Jerome Kerviel, accused of being a rogue trader, is now on trial. SocGen lost $7bn in the incident which heads the list of major trading losses.

http://en.wikipedia.org/wiki/List_of_trading_losses

How did he do it?

This is actually a very similar situation to Nick Leeson at Barings – number 11 in the top list. They were both involved in forms of arbitrage, which exploits tiny differences in price which ‘shouldn’t’ really be there. In fact, pricing theory fairly obviously requires that there can’t be a price difference between two identical items. If that were false – say if one loaf of bread had a different price to an identical one – then I could make a risk free profit by buying at the low price and selling at the high price. And there can’t be a risk free profit because everyone would pile in. You can see that what would happen would be that the prices would equalise.

Now this is what the arbitrageurs exploit. It all hinges on what ‘identical’ means. Not quite identical introduces some risk. Leeson was buying one product in Osaka and selling the same product in Singapore. Clearly if the product is the same, exactly, there is no risk. You might ask what might cause a price difference – there might be transient local factors such as someone big in Osaka decides to buy something. And then there could be a delay before Singapore catches up. And that catch-up process is exactly what the arbs do.

Kerviel was involved in arbing equity index futures and underlying equities. Equities are stocks, indices are groups of stocks like the FTSE-100 and equity index futures is just a bet on where the FTSE-100 will be in six months from now. Clearly you can do that on a risk free basis if you, say, sell the index and buy all the stocks in it. [Incidentally, if you want to be an insider trader but don’t want to go to prison, maybe you could buy an index in which the stock you can’t trade figures and then sell everything in the index except the one you aren’t allowed to trade…but I don’t recommend it…]

Why is it dangerous?

There are two common factors between this case and Leeson. In both, the alleged misdeeds were possible because the trader and the back office person were effectively the same person. Leeson actually did his own monitoring, an extraordinary failure which rightly cost the jobs of many at Barings. I could go further and say it was so remarkable that everyone involved in the company deserved to lose all their cash, but I know there were lots of Barings debentures held by grannies and I suspect we can’t expect them to have known what they were doing. While Kerviel came from back office himself and knew the control systems and would have known how to defeat them. I also will claim that back office types are rather easy for front office traders to browbeat and this history will have played a part in Kerviel’s psychology and the desire to get somewhere fast.

Secondly, because you are exploiting tiny price differences, you need to trade in vast amounts. And all the time. The control problem comes when you do not have offsetting equal and opposite trades but wind up taking huge uncovered positions. Leeson sorted this out with a fax purportedly evidencing a large receivable from a hedge fund. Towards the end, he was drawing in funding from all over Asia, which should have alerted someone.

What is odd about this case?

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You can’t make large amounts of money from arbitrage. You just can’t, because risk and reward are closely linked. You can see from the loaf of bread example that that has to be true. So if you are a manager in an I-bank, you need to get very concerned if your arbitrage desk is making large profits.

Now this leads to the strange consequence that Kerviel must have been concealing large profits. And this is what you see.

http://news.yahoo.com/s/nm/20100608/ts_nm/us_socgen_kerviel

“During the largely procedural first day of the trial, Kerviel’s lawyer said Societe Generale would have been clearly able to see data showing Kerviel’s extraordinary profits of 1.4 billion euros at the end of 2007”

Note that this is profit not revenue, and that SocGen as a whole might typically make a net profit around EUR600m in a quarter. Do you think you could spot Kerviel in there?

“Seated on a plastic chair in front of rows of lawyers in black garb, the ex-trader said his annual salary at Societe Generale was 48,000 euros in 2006 with an annual bonus of 60,000 euros”

Now that is not a lot of money for traders. They might typically expect to make 5% to 10% of what they produce, or more in some cases where they are reliably producing large returns. Apparently Kerviel was expecting to make EUR300,000 for 08, on a declared profit of EUR60m. That’s a 0.5% return. You can see that this is not enough. Someone with that type of track record could just set up on their own, use the track record to raise funds, and trade themselves for maybe 50%. There is another type of arb there.

The GBPEUR exchange rate in 07 was 0.67, so we are talking about someone earning a salary of £32k. This is not far north of what we used to pay graduate trainees in London. So what we have here is someone being paid back office amounts, a French I-bank culture in which you shouldn’t really pay very much or have high quality people, and back office resentment of the flash and the furious.

“Lawyers also read a transcript of a conversation between Kerviel and SocGen’s ex-investment bank chief Jean-Pierre Mustier when the scandal broke, in which Mustier reportedly said: “If you won 1.4 billion euros, that means you’re very good. What you did was a pain, but it’s not a big deal.”

If Kerviel can make that out, then Mustier has failed in a stunning way to understand what arbitrage is. It is a French word, after all. It may be difficult to see how Kerviel can avoid jail, but he cannot have been on his own in this one.

See Also:

What Is “Theory Of Mind?”

The Late Evaluation Effect And Financial Markets

The Psychology of Successful Trading: see clip below of me explaining my new book!

The RMT Is Right, Just This Once

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philosophy psychology the psychology of successful trading Trading trading psychology

Do We Harm the Global Poor?

Peter Singer argues that we harm the global poor. By ‘we’, he means those of us living in the developed world, and by ‘harm’ he means actively damage. He is writing in November 1971 at a time of famine in East Bengal. He observes that if I am walking past a drowning baby in a pond, I have a duty to assist even if I might get my expensive suit dirty. He is careful to specify that it is a shallow pond: I am not being required to endanger myself. He compares the aid spend of the Heath administration at that time (£14.75m) with the projected cost of Concorde (£440m, with the out-turn being £1,400m). [You can scale all those numbers up by around 10x if you want to use RPI as an inflator.]

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Thomas Pogge goes further. Everyone in the West is culpable as a result of the industrial revolution being founded on uncompensated asset transfers in colonial times. We must now assist much more than we are currently doing.

Now I don’t agree with the premises but the argument seems valid. Singer says there is no difference between helping the baby and helping someone in sub-Saharan Africa under famine conditions. I think there is a disanalogy in that as Pogge points out, it isn’t just one baby in the pond – there have been 270m deaths from famine in the 15 year period starting in 1990. You can’t save that number of babies from drowning. The 270m number is more than died in combat in the whole of the last century.

I don’t think there is any case for Jobseekers’ Allowance to be paid in this country, at least while there are any job vacancies. You will doubtless disagree with me and saying I am being too harsh, and that people have a human right to work. I also disagree with that, but it doesn’t matter. Because the question for you is how to deal with the Singer and Pogge argument if you think there is a human right to work or to subsistence at the expense of others. Then:

Why is it OK to spend money on people in Bolton to keep them alive but not in Africa?

Singer wants us to spend maybe 25% to 40% of GDP on aid. He doesn’t want to use all of it because he admits that that would be counterproductive – it would be better to retain a strong economy than overtax it. But then in a variant of the above question, which is phrased for physicists since that was whom I was in the JB with last night, is:

Why is it OK to spend £5.6bn on the LHC when people are starving?

I have given my response to this. If you want to deny my exit is conscionable, then you will need a different answer. Maybe you want to say something like ‘ we should look after the people who are already here first’. But do you really want to say that? Why does conscience end at the borders, if it exists and produces duties? Why should people fortunate enough to be born here get looked after? Aren’t you dangerously close to saying ‘we should look after the people who look like me’? Or are you saying ‘I can see that homeless person so I should help him’ while people you can see only on television who are much worse off can be safely ignored…?

So I would announce the end of Jobseekers’ Allowance in three months with a three month transition period after that. I don’t mind weakening it if you don’t think I have a right to insist that people move – the phase out can occur only to the extent that there are no jobs locally available if you like. Note that this is not Incapacity Benefit – paid to those who medically cannot work – or Carers’ Allowance – paid to those looking after someone. I have said nothing about those benefits.

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I think if we must spend this money, it is morally better spent in Africa and even the economics say so. It is mathematically the case that almost 3 of those 270m people were the smartest person in 100m. I don’t know of any reason why people with the capacities of an Einstein wouldn’t be born anywhere in the world. Shouldn’t we be finding those people and helping them? You can be as smart as Einstein and also incredibly diligent; it won’t help you or us if you don’t make it to three months old.

See Also:

What Is “Theory Of Mind?”

Jacob Rees Mogg Is Wrong To Say That Loss of Passporting Will Not Be A Problem For The City

#Norway Is Still A Safe Investment Option

The Psychology of Successful Trading: see clip below of me explaining my new book!

Categories
psychology the psychology of successful trading Trading trading psychology

Cutting UK Government Spending

This is a pair of pie charts showing the UK Government’s income and expenditure from a couple of months ago. This will doubtless be revised after the emergency budget on 22 June. You can see the size of the problem here. The difference between cash in and cash out is made up by borrowing. At the time these graphs were were produced, the gap was £704bn – £541bn = £163bn.

These numbers are generally expressed as a proportion of GDP. The limit under the Maastricht criteria was 3%. The UK is not in the Eurozone, but reports these numbers anyway. The situation improved somewhat recently to around £156bn p.a., but that is still bad at 11.6% of GDP.

UK borrowing below forecast, still worst since WWII

The questions are these.

Justification

Why is it OK for some people to spend other people’s money? If we continued on the previous path without cutting public spending, we would borrow maybe an additional £1,000bn over the course of a parliament. It would take probably 40 or 50 years to pay that back at best. We are spending it now, but will not hang around to pay it back. Why should people graduating with me this year have to pick up that tab?

Do we need cuts?

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There are still people who want to borrow more and spend more. “Now is not the time to be making severe cuts to the economy. Cuts too deep and too soon risk the economy falling back into recession,” said Brendan Barber, TUC general secretary, which has warned that the plans could increase unemployment and the benefits bill. Well, that’s true – but what is the alternative?

Where to cut?

If you want to solve a cashflow problem, you have to reduce spending and increase income (or taxes). The government has decided this split will be 80/20. If you want to do something serious about this problem, you have to look at the largest item, which is by far social security spending at £231bn p.a. on the above pie charts.

To put that in perspective, the LHC, which is the most expensive scientific experiment ever built, cost £5.6bn.

http://en.wikipedia.org/wiki/Large_Hadron_Collider#Cost. What would the UK economy be like if we built 41 LHC’s in Leeds every year?

See Also:

What Is “Theory Of Mind?”

The Psychology of Successful Trading: see clip below of me explaining my new book!

Where To Cut UK Government Spending: An Alternative Approach

Where To Cut UK Government Spending: An Alternative Approach