Designing better futures

Warning past correlations may be larger than they appear

The most dangerous tool in the financial modelers tool kit is correlation only bested by its kissing cousin co-variance.

In order to keep this blog from being drier than a popcorn fart in July, I will forgo detailed statistical treatises.

Most modern historical accidents relied on a blind belief in correlation statistics.  The belief that the non occurrence of co-incident events in the past surely indicates the un-likely event these events could bump into each other in the future.

Many financial modelers have had the good fortune to replace common sense with a PhD.  This has lead them to great salaries and recognition at least temporarily on Wall Street.  The recognition will continue for some time in the future but will alas not be conjoined with good cheer and great  salaries.

Most of the accidents in finance, the current CDO and CDO squared bubble are due to the dubious belief that past relationships are indicative of future relationships.  In a closed physical system this is true.  For the rest of the real world it is not.  As Warren Buffet has stated if the past was a way to predict the future, then the wealthiest people on the planet would be librarians. 

Mathematicians who aren't known for being famous with relationships in the real world are taken far too seriously when it comes to the financial world. 

For the mathematicians in the audience please wake up and realize the financial world is not a loosely coupled Hilbert space.

Being a recovering quantitative analyst I can assure you that the faith placed in financial math models is scary.  I have worked with 2 of the world's largest global banks albeit in jr. roles and wrote my masters thesis at a top engineering school on quantitative approaches for hedge funds. 

The greatest danger in finance is the ever shrinking *.  The * (asterisk) starts life in the world as a caveat or warning that a model rests on certain assumptions.  As money is made and people want to believe, the asterisk seems to shrink and disappear in importance.  After the inevitable accident the stunned financial modeler will bring back up the * in order to save his own asterisk.  The current asterisk that should be quoted in regards to CDO's and CDO's Squared is "Assuming the correlations in mortgages debt holder payback etc. holds steady."

Many a flawed Markovitz asset allocation has fallen foul of the correlation error.  As products are created that are ever more "Markovitz efficient", such as structured products we will all be at risk of correlations that are larger than they appear in the rear view mirror.

 

The next big Asterisk to read about will be RMBS (retail mortgage backed securities) and the inevetible failure of a few CDS (Credit default Swap) counter-parties.   This will lead to yet more banking problems.

Unfortunately the problems of the credit crisis are still unfolding.  Things will most likely be improving by 2009, but the nadir has not been reached.  A few banks are going to be caught out when "winning" CDS trades are activated by default events and the counter-parties are found to be troubled banks, iffy hedge funds or suspect trading vehicles.  Full disclosure I make a living in the financial markets and trade based on some of the information in this blog.

SEC creates the Ministry of Truth

Warning gentle reader, this is a personal rant.  The Securities Exechange Commission has a small power that makes it indirectly manipulate over $3 trillion in debt Securities.  This power is vested in them by their declaration to determine who is and who is not an NSRO (National Statistical Ratings Organization). 

The NSRO's are the organizations who gave AAA ratings to the instruments known as CDO Collatoralized Debt Obligations.  These NSRO's have mis rated businesses and municipal govt's for decades.

The NSRO scam is tantamount to creating a legal monopoly on truth, something still in vogue only in the bureaucracies of North Korea, Cuba and a few other less cheery holiday destinations.  The irony of these actions happening via the SEC is strong.

The SEC's act of anointing NSRO's is tantamount to the creation of a ministry of Truth.  Imagine if you will that a small group of companies anointed by the government told you which investments you could and could not make. You dear gentle reader might like to seek a second opinion.  Unfortunately that second opinion while readily available would not carry the weight and benefits granted by the NSRO's.

Anyone in a democracy wouldn't stand for a government monopoly on truth setting the price on investments and yet that is exactly what the SEC does via its creation of NSRO's.  This monopoly on truth is one of the systemic flaws that has lead to the current credit crisis. 

The credit crunch of 07-08 is a logical follow on to the credit bubble.  The nature of the failure is what is known as a normal accident.  Normal accidents, sometimes called systemic accidents occur when the very structure of a complex system leads to its failure.  If you are interested in these types of accidents read the book Normal accidents by Charles Perrow.

The global credit market is undergoing a "normal accident".  The very structure of limiting debt ratings to a few agencies helped facilitate this.  It is a classic case of unintended consequences, whereby a safety mechanism induces a failure.  Usually in banking risk arrives in the form of moral hazard, here it showed up in limited opinions and dubious math via a few limited groups.

It seems a bit flawed to limit legally recognized opinions of creditworthiness to an anointed eight firms.  One should have multiple opinions and none should be more equal than others.  I look forward to industry and academic papers which call for  the doing away of the whole NSRO system.  My greatest fear is that the SEC anoints a few more firms as NSRO's such as the recent granting given to Egan Jones.  Now we have 8 geniuses establishing truth for the world's debt markets.

In my opinion the whole business is rotten and risks greater future problems.  Every ministry of truth system has been found to ultimately rest on falsehoods which lead to their collapse.  As Karl Popper has indicated correctly, every system ultimately bares the seeds of its own destruction and this holds true for the NSRO's. 

There is a need for dissenting voices and the discrediting of the entire NSRO system for the shambles it is.  For the sake of the debt markets, please contact your local congressman and ask them to tell the SEC to give it a rest on anointing those debt market geniuses known collectively as our NSRO's.  The NSRO system needs to be eliminated for it is fostering the very risk it seeks to mitigate.

Heavy Weight champion indeed...

Ahh, the new year and a little TMI (too much information).  I stepped on the scales today, an act which has conveniently slipped my mind for awhile.  I weighed in at a nice 119.  Time to stop blaming my pants for shrinking.

Now many of you may think, ah ha another skinny little financial analyst with a squeaky voice weighing all of 119.  Alas dear reader it isn't so.  A look at my photo will indicate the hint of an extra and unfortunate chin.  I am 6'4" not quite as intimidating as the mighty former Central Banker Paul Volcker who stood 6'7", but rather large all the same. 

Being married to a European and living in Europe for 9 years means I measure in metric, for those of you who don't know how to convert Kilos to Pounds, I say you are better off.  Let's just say that at 119 kilos I have two paths to choose now in life.  I either stay with the financial analysis work I deeply enjoy or pursue a career in wrestling.  Unfortunately ever since, I discovered wrestling is fake (sorry to shock anyone of gentle sensibilities and a delicate mind), I have been forced to pursue less exotic career options.

So time to start exercising and lose 15 Kilos.  My goal is to be a lean 104 kilos.  For those not conversant in metric, don't worry at 104, I won't exactly be wispy, but will be a little more healthy.

the weird near future 6,000 days forward

You probably didn't go to this conference either....I was bummed to miss it.  Lucerne is an alright town and futurists are always fun.

One of the presenters was Ian Pearson.  I met with Ian when I was Chief Analyst for Starlab.  Ian is the Futurist for BT (British Telecom), don't let the name fool you, BT is miles ahead of AT&T etc.  There is a difference between a forward thinking telecom and a 2nd rate monopoly milking its own geography.  I will let you, gentle reader determine who suits which role.

Ian is a bit dour sometimes, but never afraid to think, provoke and go out on a limb, this makes him a great futurist.  Ian won't be all right, but he won't be all wrong in his predictions either.  Have a look at his video here. He covers a lot of ground extremely quickly and with a bit of a dire assessment, but don't shoot the messenger for the message.  If you want to understand the data behind his predictions, I would suggest reading the highly esteemed Ray Kurzweil's, The Singularity is Near.

If you have anyone and I mean anyone giving you a prediction more than 3,000 days (8.2 years) into the future and they haven't read this book, (The Singularity is Near) they are talking out of their hat.  Show them the door immediately as they are at best oxygen pirates.  The rate of technological change is accelerating rapidly and any demographic, scientific, social or political projection will be impacted by it.  You may not be able to predict a technologies impact, ultra-sound for example contributing  to 100m missing women in asia, but one should acknowledge technology and try to understand its implications.

Some lads from London

I lived in London and was there when this tune was released.  The boys had a good video and anytime you can get a sitar into the act thats pretty cool.  Random factoid for the fans of this blog, both of them. Along with cultural anthropology, I studied Indian art and architecture up to the 15th century in school.

Future arriving soon....

I have said it before...the future is getting here faster than you thought. Today's miracle will be tomorrow's take for granted consumable.

Here is a band-aid with a sensor to indicate biological conditions.

The band-aid will report biological stats via Radio to a near field sensor.  Today our bodies potentially broadcast out to the internet.  Soon the internet may broadcast back.  Imagine a bandage with microencapsulated drugs etc. responding to a remote prescription.  Probably only 2-3,000 days out. 

I am going to start reporting about the future as most people anthropically identify with the passage of a day more closely than years. Thus something 2-3,000 days out is 5-8.2 years away, much closer than you think. Too put the future in perspective and the passage of time.  The song Slim Shady was released in 2000.  For many it will feel like yesterday, culturally it was one of the top 10 songs in the US.  The future is weirder than we can imagine.

and now for a little Euro cheese

It's the holiday's and I have just been busy looking at the criminally stupid acts of MBIA etc.  If you don't know don't ask, it involves over $2 trillion in bonds and derivatives.  Here is a little Eurocheese music for the holidays.

More on your genetic future

Finally nano-tech is moving into interesting realms.  The advent of nano sized bio-sensors such as the one pictured to the left is the pre-cursor to bio production and manipulation. 

You like most people don't know it yet, but your life is going to be altered in 10 years in ways you can't imagine. 

Anthropically people here 10 years and underestimate what that means.  So hear it goes in 3,652 days, the average lifespan for those who can afford it may be beyond 110 years.

Children born then will have IQ's and physical skills at our beyond their genetically optimal potentials.  Here is the link to the biosensor tool shown above.

New nuke for the home & your holiday remix

My day job, which is totally fun involves evaluating technology, clean tech and finance from a value investors perspective.  I work with a great fund and invest in good solid businesses. 

Here is something that is a little too early for us and a little exotic, but interesting nonetheless.  All of applied science doesn't make it commercially for a host of social, legal and other reasons.  Would you want your own personal nuclear reactor powering your home?  Toshiba is going to be offering one soon.

Oh the video is just for fun, an original tune with some future images....  It is worth watching to check out Ronald Reagan's picture advertising Cigarettes. For the purists, Soft Cell did the song Tainted love" better, but their video was bad.

New cancer test is interesting

New Test for Cancer Cells in Blood

An inexpensive microfluidics chip could lead to earlier cancer detection and treatment.  Read the Article from the MIT Technology review.

This is important, because the age of biology we are currently embarking on will truly be what people assume medicine is doing now.  Diagnosis of cancer will identify perhaps not only the cell variant inducing the cancerous behaviour, but also potentially the cause either viral, carcinogenic, bacterial, radiological or endosystemic.  I made that last word up, but basically, it means any attribute that is endogenous to an organism which may lead to the self-induction of cancer regardless of exogenous factors.
The future looks very bright.  The ability to track cell variants at using small samples and hopefully address them, will lead to far better solutions and cures, not just therapies that will make chemotherapy and excision appear to be the truly crude techniques they are.

happy paper sculpture

Aside from some very awkward looking pinata's I made with my brother as I child and a paper mache caste for a broken GI Joe action figure, I have never really worked in the medium of paper.  Check out a true artist pushing a medium to new limits.

on the path to immortality

See the article.  Will you be able to buy your own bladder?   The only thing that may separate you from immortality in the future is some very tricky bio-chemistry and a good check book. 

Another characteristic or attribute of an entrepreneur..

Another characteristic or attribute of the entrepreneur is leveraging human behavior and motivation for behavioral change such as inducing links thus increasing blog rankings.  The meme of marketing and motivation is innate to the entrepreneur.

The inducement of behavioral shift in the form of value arbitrage is a gift.  $1 for few moments of my thought in exchange for a rise in blog status is indeed a clever marketing ploy and the sign of a gifted entrepreneur indeed.

Researchers can read thoughts to decipher what a person is actually seeing

Here is a fascinating article that reinforces the work of Ray Kurzweil and his book, the singularity is near.  Basically the article is about the ability to track via live scanning a single human thought.  It is early days in this field, but the science is rapidly approaching boundaries considered science fiction just a few years ago....and ever faster we go, to we know not where or what.

Wii hack for the holidays

SSSHHH. I am not supposed to know it, but I am getting a Wii for the holidays.  Here is an uber hack for those also fortunate to have the game console.  Turn your wii into a surface tracking tool.