Horror of the Quants
By Staff News & Analysis - September 27, 2011

Quant trading: How mathematicians rule the markets … Trading floors were once the preserve of adrenalin-fuelled dealers aggressively executing the orders of brokers who relied on research, experience and gut instinct to decide where best to invest. Long ago computers made dealers redundant, yet brokers and their ilk have remained the masters of the investment universe, free to buy and sell wherever they see fit. But the last bastion of the old order is now under threat. Investment decisions are no longer being made by financiers, but increasingly by PhD mathematicians and the immensely complex computer programs they devise. Fundamental research and intuition are being usurped by algorithmic formulae. Quant trading is taking over the world's financial capitals. – BBC

Dominant Social Theme: It's just inevitable. Stock markets were always fated to be one big casino. Nothing can be done but to mourn the passing of equities as a rational investment opportunity.

Free-Market Analysis: This article by the BBC's Richard Anderson ticks all the boxes of a certain kind of dominant social theme. One is supposed to be slightly melancholy at the pace of progress in the global stock market and the application of trading technology to what used to be investible instruments.

At the same time, one is NOT supposed to question the fundamental underlying assumption of an article like this – that it doesn't have to be like this. No it doesn't! In this article we will examine how the West's investment industry has become so distorted and why securities marketplaces are now run like casinos.

Yes, to be sure, there is something fundamentally wrong with the way that equity markets (and all markets) are evolving in the modern world. We're not trying to be fuddy-duddy about it, or to sound nostalgic. There are real problems with Western business, industry and investing and saying so does not mean that one wants to stand athwart progress yelling "stop."

It is simple. The problem with Western finance is money itself – or more specifically fiat money. Western finance, in the past 100 years, has become a captive of central banking hyper-stimulation – the process of printing money from nothing. Articles and commentary that makes this evolution sound normal are presenting a power elite meme in our opinion.

One is supposed to be mournful and even a little angry at modern finance. But one is NEVER supposed to imagine that there is an alternative to what today exists. And yet there is. Without central banks and unlimited paper money, the world would be a very different place. It would be calmer and less "innovative," for one thing. A good deal of what people insist is "civilization" would not exist or at least it would be mitigated. Is that so bad?

Examine the "progress" that has been made in the past century – the first full century of global fiat money controlled by central banks. Fiat money produced by central banks is a kind of monetary crack. It makes people feel good and business people overinvest as a result. The hyper-stimulation makes people act crazy, in fact. They expand their businesses far too rapidly and then lose everything when the eventual downturn comes.

Big corporations – entities that likely would not exist without overwhelming judicial support – have the wherewithal to handle the downturns. The top executives of these huge multinationals cut back in the down times. They lay people off, draw down bank lines and generally use resources that are not available to smaller entities.

If the worst happens, government officials themselves may step in to support the largest companies until a turnaround can be effected. In our opinion, the largest corporations are owned or at least controlled by the great central banking families that have traditionally operated out of the City of London. From what we can tell, there is substantial overlap between fiat-fueled commercial banking and the largest Anglosphere corporations. These elite families control Western governments, too.

There is also significant overlap between stock markets, central banks and corporate activities. The entire fabric of Western money power is held together by Money Power, the ability to print as much currency as is necessary to fuel "Western civilization."

But is Western civilization an unmitigated good? How are things today … really? Millions can't find work or have to work two jobs to bring home a pittance. Health care, government or private, is often unavailable. Food is full of additives. Water is polluted. Schools are dysfunctional. Prisons are filled. And that's just the West! Try living on a dollar-a-day as hundreds of millions do in the developing world. Civilization?

The entire system, as we have often pointed out, is unsustainable. This is not merely a theoretical statement. Fiat money systems are NEVER sustainable. China has run through about ten of them, one way or another, in its thousands of years of history. What is less well known is how fiat currency distorts economies and turns real ones into false ones. Almost every part of Western civilization is undermined by money power: from music, to art, to science, to education, to health care and medicine, to business and investing.

We often write about the advances of science and technology within the context of Western culture. But from what we can see, the money power that is driving Western advances is equally adept at RETARDING advances. Health care, alternative energy technologies, small business investment opportunities – all have suffered mightily under the current reign.

Many advances have been stifled because of the obsessive need for control exhibited by Western elites. Meanwhile, money-from-nothing has fueled vast armies and spread the Anglosphere empire far and wide. Printing money from nothing is not just corrosive, it has significantly changed the face of modern society, and even the history of the world.

It is difficult to imagine our lives without so much monetary stimulation. Probably there would be far fewer wars. And healthier food. And far less drug abuse. Far fewer people in jail and much less poverty. Far fewer dictators and much less torture. Fewer taxes and significantly less inflation. Regulatory authorities and their dictates would not be in vogue. Lawyers would not be in such significant demand.

There would be fewer horrible depressions. And the fear-based promotions that the elites rely upon to push Western middle classes toward fuller global governance would not likely be available. Most importantly, the world would not be controlled, at least partially, by a tiny cabal of sociopathic central banking families.

But back to investing. Stock markets would be much different, too. Modern investing is a direct outcome of fiat money stimulation. Brokers, financial planners, accountants and actuaries are all in big demand because of the complexity created by fiat money.

This goes to the heart of the BBC article excerpted above. We are told that mathematicians and their trading programs are "increasingly taking the place of professional investors in financial centres across the world." But we are never told why.

We are left to imagine that this new trading paradigm is caused by the advent of new technology. But this is nonsense. Several thousand years ago, Chinese traders began to develop sophisticated futures markets. Technology had little to do with it.

Nor is it technology that is driving the ridiculous trading strategies of today's investment world. It is an enabler, but it is not the main driver. No, it is the unbounded amount of fiat money produced by central banks that has created the "mother of all bubbles" – the commercial banking and securities industry bubble.

Even now, we are deluged with mainstream articles about how "banks have to be recapitalized" – and how this is critical to the EU's survival, etc. There is no question about it – even though it is not true. The banking and securities industries constitute the biggest – unspoken – bubble in the world. And there is not a single bank or firm that the central bankers seem willing to let go bust these days.

Of course, we would tend to believe over time they WILL go bust, many of them. The Invisible Hand can only be held in abeyance so long. Markets eventually will come down to earth. The US$750 TRILLION in notional derivatives that now apparently exist will gradually deflate. We imagine it will take some sort of financial cataclysm to make this happen. We anticipate one.

In the meantime, we shall be urged to believe that what is going on in the investment markets globally is normal and natural – an evolution of technology and the increasing sophistication and intelligence of human beings generally. Here's some more from the article:

Firms are now employing gifted academic statisticians to track patterns or trends in trading behaviour and create formulae to predict future market movements. These formulae are then fed into powerful computers that buy and sell automatically according to triggers generated by the algorithms. These so-called quantitative trading programs underpin all quickfire trades – known as high-frequency trading (HFT) – in which stocks can be held for just a matter of seconds.

They are also used in more traditional trading, where the holding period can be days, weeks or months. Some are fully automated, but most require human oversight to ensure nothing goes too drastically wrong. Scott Patterson, a Wall Street Journal reporter and author of The Quants, uses the analogy of a plane on autopilot, which can fly itself but where a specially-trained pilot can step in at any moment.

These programs are immensely powerful, constantly monitoring market movements, trading patterns and news flows and are capable of changing strategies within fractions of a second. The most powerful even have artificial intelligence that can adapt strategies of their own accord. No-one can be sure quite how successful these quant programs are, but as Mr Patterson says: "They have been around long enough now to assume they are extremely profitable." Their proliferation would certainly suggest so.

One commentator says two of the biggest HFT firms, Tradebot and Getco, alone account for about 15%-20% of all equity trading in the US. As they are private companies, it is hard to know precisely how far their influence extends. Indeed, a recent government-backed study in the UK estimated that between a third and a half of all share trading in Europe, and more than two-thirds in the US, was HFT. "The vast majority of firms use quantitative trading," says Mr Patterson. "It drives almost everything that goes on on Wall Street." The impact and ramifications of quant trading are widespread, but ultimately unclear.

Actually, the impacts are not "unclear" at all. The idea of investing as an activity that funds worthwhile business is increasingly invalidated by what is occurring today. Markets are increasingly divorced from reasons they were created in the first place.

Also, the more hyperactive markets become due to fiat stimulation, the more "bigness" becomes the single most important quality within the context of modern investing. A company – GM for instance – can be entirely dysfunctional; it can make a wretched product and sell fewer units every year. But if the company is big enough, it can survive almost any setback. It simply will not be allowed to die.

Modern markets, especially stock markets, are not evolving toward a global casino simply as a result of some sort of non-analyzable series of trends. Technology is a driver, but absent fiat-money and central banking, stock markets and industry in general would look much different.

After Thoughts

The complexities of globalism, governance and government are not inevitable. They are manmade and one simply repeats an elite meme if one accepts the idea that they are the outcome of "civilization." In fact, in a sense, what is occurring today is profoundly UNCIVILIZED – and on numerous levels. The devolution toward a global casino is but one small part of it.