Review of the Book of Brian Brown - Chasing the Same Signal
Saurabh Katiyar
This Algo Trading is indeed a fascinating domain of marriage of Technology and Management. Great career ahead for those specialising in this domain. Also helps mass freshers thing beyond Engineering and Medical Feilds. I wish I could reborn in this era of cross career platforms.
With best wishes always,
Sincerely,
SAURABH KATIYAR
"It is not the strongest of the species that survives, nor the most intelligent, but the one most responsive to change."
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Chasing the Same Signals: How Black-Box Trading Influences Stock Markets from Wall Street to Shanghai (Wiley Trading) Review
It is refreshing to find a book written for a general audience that has its goal the explanation of quantitative trading without engaging in the hype and vituperation that too often plagues current books on the subject. Although this book takes a purely qualitative approach and omits the complicated mathematics that makes its appearance in financial engineering, it summarizes well the main issues behind what has been termed `black-box trading’ in some circles.
The author gives a detailed explanation of the events of August 2007, which surprised some analysts but was expected by others, and which the author describes as the “world’s first stock market panic by machines”. Some bloggers and financial reporters covering currency trading and the Greek debt crisis amusingly refer to similar out-of-control machine trading that is happening in the currency markets at the present time as “algospasms.”
Again, the author thankfully avoids discussing the personalities and intra-office gossip that trivialize or exaggerate the role of algorithmic and machine trading. He also addresses the potential of regulatory frameworks to obliterate the profit margins of algorithmic trading. In the past several weeks, politicians and many in the press have been engaging in a lot of chin-wagging about the need for regulations on derivative transactions. Blaming derivatives for the current “financial crisis”, these individuals never give any in-depth evidence for their claims.
The role of “friction” in market associations, and its potential for nullifying the efficient market hypothesis is also discussed, along with the use of network optimization ala capacity planning and network latency in black-box trading strategies.
The author also includes a brief discussion on the institutional and managerial pressures put upon financial modelers to output results that make the situation look a bit more rosy than it is. Modelers now need more than just a mathematical background to function effectively because of this: they also need very strong characters that are able to resist these pressures.
In this book one can also find an interesting proposition to the effect that market volatility is not due solely to investment uncertainty but also to a degree from the black-box strategies that are deployed in quantitative trading. The author points to the need for a lot more research to settle how large this degree is. Also, and most importantly, he reminds the reader that all investors and their investment strategies are now and in the future entangled and co-dependent with each other. But all of us, investor and non-investor alike, should not worry too much about whether we will have economic “stability” or “equilibrium” (as the author is). It looks like extreme volatility is here to stay, despite the efforts of regulators and posturing politicians. Regulatory arbitrage, coupled with even more sophisticated algorithms and reasoning patterns deployed by intelligent machines will make a rough and rocky but highly interesting road ahead.
The worst stock market crash since Black Monday during October of 1987 occurred during the first week of August of 2007. But nobody noticed.
On the morning of August 6th 2007, investment professionals were baffled with unprecedented stock patterns. Mining sector stocks were up +18% but manufacturing stocks were down -14%. It was an extreme sector skew yet the S&P index was unchanged at +0.5% on the day. The next few days would continue with excessive volatility. MBI Insurance, a stock that had rarely attracted speculation would finish up +15% on Aug 6th, followed by another +7% on Aug 7th, and then finish down -22% over the subsequent two days. The brief rally in MBI was short lived.
Only weeks later would investors begin to have insights on the dispersion patterns. Prominent hedge funds that had never had a negative annual performance began disclosing excessive trading loses with many notable firms reporting several hundred millions were lost – in a single day. Hedge funds were hemorrhaging in excess of 30% of their assets when the S&P index was unchanged. The market dispersion was the side effects of the synchronous unwind ignited by the hordes of “computerized” strategies that were caught off guard when history didn’t repeat. It was the industry’s first world wide panic – by machines.
Over the past decade, computerized (or black-box) trading has had a coming of age. Black-box firms use mathematical formulas to buy and sell stocks. The industry attracts the likes of mathematicians, astrophysics and robot scientists. They describe their investment strategy as a marriage of economics and science. Their proliferation has been on the back of success, black-box firms have been among the best performing funds over the past decade, the marquee firms have generated double-digit performance with few if any months of negative returns.
Through their coming of age, these obscure mathematicians have joined the ranks of traditional buy-n-hold investors in their influence of market valuations. A rally into the market close is just as likely the byproduct of a technical signal as an earnings revision. They are speculated to represent a one third of all market volume albeit their influence to the day-to-day gyrations goes largely unnoticed. CNBC rarely comments on the sentiments of computerized investors.
Conventional wisdom suggests that markets are efficient, random walks and that stock prices rise and fall with the fundamentals of the company. How then have black-box traders prospered and how do they exploit market inefficiencies? Are their strategies on their last legs or will they adapt to the new landscape amidst the global financial crisis?
Chasing the Same Signals is a unique chronicle of the black-box industry’s rise to prominence and their influence on the market place. This is not a story about what signals they chase, but rather a story on how they chase and compete for the same signals.
Chasing the Same Signals: How Black-Box Trading Influences Stock Markets from Wall Street to Shanghai (Wiley Trading) Feature
- ISBN13: 9780470824887
- Condition: New
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