Financial Market Futurism

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I am going to attempt to start explaining some of my deeper philosophies about financial markets in the coming weeks. Some of this I have never really endeavoured to articulate to anyone else, certainly not publicly. So you might have to persevere with me – especially as I am writing this late at night with newborn-baby induced sleep deprivation! (We had a baby just two months ago). But this all started with some smart mentors and reading George Soros’ Alchemy of Finance when I was a new graduate at Morgan Stanley many years ago. Whatever you think of him as a person, some of his theories were a kick-start for me to look at the link between the mind and the markets. So instead of Discounted Cash Flow models and everything the business schools were teaching at that time, I was delving into the arcane world of behavioural finance, psychology and the human mind.

I now consider myself a “financial market futurist.” The future is determined in the minds and consciousness of everyone alive today. My early mentors taught me to listen to and study all the investors, clients and traders that I met: not just their current opinions – for those would change – but HOW they think. Many journalists wrote off George Soros’ books as erring too much on the side of philosophy, but that was a mistake. His whole theory about “reflexivity” was just a rephrasing of the universal truth that the inner leads the outer. This is true in financial markets, which I believe are just a reflection of investors’ thinking and emotions. Master Yoda in Star Wars once said, “Difficult to see. Always in motion is the future.” I think that this perfectly equates to financial markets, because as people’s thinking changes now, the outlook for markets changes – in the future. That is, if the future actually exists! In Zen philosophy they suggest that all we have is now. But I digress.

A good technical analyst has made the decision to stop listening to what people say on the surface – the daily noise – and watches to see what is actually emerging in the tape, through people’s actions. This is when the thinking translates into action. At certain inflection points we can see markets break through certain levels – new trends are formed and start becoming clearer to all. This is when the technical investor acts.

Financial markets are like super tankers in many ways. Although the daily ups and downs make them look fast paced and as if they discount things immediately, my experience is that they are NOT efficient and large trends remain in place for a long time. This is why Dow Theory can be very useful. The reason that many investors – including myself at times – get caught up in the noise is that we are under such pressure to try to eke out linear returns in a non-linear world. So we overtrade. Let me explain that statement. You see, the world is constantly changing but it often happens in a non-linear fashion. Look how children grow, how plants evolve, and how biological systems change. Now if the human mind is part of nature and the bigger cosmos, it should be no wonder that realizations are sudden and non-linear. There is a dominant narrative, even though things are moving beneath the surface, and then there is an eruption. This is how markets also behave. Throughout 2007 and 2008, many astute investors knew that as a result of the implosion of the US housing bubble, and the souring of the Mortgage Backed Security (MBS) market, the economy and then markets would eventually be hit. There was a steady flow of negative information if one was willing to see it over that period: the Bear Stearns hedge funds, numerous big reports on housing, the freezing of LIBOR in the summer of 2007, then more and more information about the MBS market and how Structured Investment Vehicles operated thourgh 2008. And then – bang! Towards the end of 2008, it was all discounted in a short period of time, so much so that we called it the Lehman Shock. But Lehman was just one casualty — a final crescendo of something that was in motion long before.

Actually in my early days in finance, I found that the explanations in the natural sciences – on avalanches and earthquakes etc – had more relevance than the financial modeling of most of my clients. Under the surface large movements were taking place, and sometimes would manifest. Just like when two tectonic plates push up against eachother, there are perhaps some warnings. Sometimes it is said that an earthquake along the Pacific Rim of Fire can be a prelude to activity elsewhere. So sometimes one witnesses an event, but it is ignored, as markets don’t react – until they do! In the world of futurism they often cite William Gibson who said “the future is already here — it’s just not very evenly distributed.”

Look at the clues. They are all around you.

[Extract from this week’s Dow Theory Letters – more at www.dowtheoryletters.com and upcoming launch of new Think Tank]

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