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Posts Tagged ‘Greater Fool Theory’

The Hidden Costs of Quantitative Easing or “As An Actuary You Are Having Sleepless Nights”

Posted by Larry Doyle on October 6th, 2010 9:03 AM |

When central banks hint at implementing further quantitative easing and risk-based assets (commodities and equities) rally and interest rates fall (meaning, bonds rally as well), this is all good, right? If that is the case, is it even better when the hints become an outright statement of plans for more quantitative easing as was the case yesterday with The Bank of Japan? (WSJ: Central Banks Open Spigot; October, 4, 2010)

Clearly, the global central banks are launching these new volleys of quantitative easing in an attempt to forestall deflationary pressures at work underlying our global economy. That said, while asset markets are rising, we need to be aware there are very real costs to this ongoing financial experiment. What are the costs? (more…)

LD’s ‘Rules of Trading’

Posted by Larry Doyle on September 2nd, 2009 3:17 PM |

I loved my 15 years worth of trading experience on Wall Street. I thrived on the energy, competitiveness, and discipline critically important to generating long term profitability.

While many media outlets focus on the energy and competitiveness involved in trading, rest assured the real key to successful trading and investing is discipline. In my opinion, this characteristic receives far less focus and attention than it deserves.

I believe discipline is both an intrinsic and acquired trait. In fact, often the real benefits from a disciplined approach are the lessons learned from being undisciplined. Believe me, I learned many of these lessons early on and throughout my career on Wall Street. I accrued plenty of losses in the process.

How did I develop and maintain a disciplined approach during my 23 year Wall Street career? Very simply, I kept a written list of ‘trading rules’ on a piece of paper typically taped to my computer terminal.

High five to AS with whom I developed these rules back in the mid 1980s. These rules not only helped me generate profits, but more importantly kept me from making trading mistakes and thus avert losses.

Let’s review the rules that I applied to trading mortgage-backed securities in the 1980s and 1990s. In many respects, I continue to apply a semblance of these rules today.

LD’s Rules of Trading

1. Market Goes in the Direction Which Hurts the Most People
I would check the stochastics regularly to monitor when the bond market (typically the government bond market) was approaching an overbought or oversold condition. Assessing this measure is decidedly more challenging currently given the presence of Uncle Sam in the marketplace.

2. Never Short a Specified Bond
How often I would see traders short specified bonds without any appreciation for the available float. Initial short sales may appear to be profitable only to turn into nightmares when the trader had to find the bond for delivery to the buyer.

3. Never Set Up for a Trade
This rule specifically addresses a trader’s inclination to establish a trading position based upon color from a client that the client himself planned to enter into the trade. Experience taught me that often the client would find a reason not to execute the trade and now the trader was stuck with the position. (more…)

Is Uncle Sam Manipulating the Equity Markets?
Part III

Posted by Larry Doyle on July 8th, 2009 6:47 AM |

Kudos to the blog Zero Hedge for highlighting the questionable nature of the technical flows in the equity market that have occurred via high frequency program trading.

Massive kudos to Joe Saluzzi of Themis Trading for going public last week on Bloomberg with this story. While Zero Hedge, Sense on Cents, and every other financial blog sit outside the fray, Joe Saluzzi is actually ‘in the arena.’ I commend him for his character and courage in shedding light on this opaque and arcane program trading business. Yesterday on his blog at Themis Trading, Saluzzi wrote a piece entitled “Manipulation?”:

We have talked extensively on our blog and in our white papers about the power of high frequency trading and program trading.  We have noted that these trading strategies can move the market quickly  during the trading day.  We have always suspected that there have been certain major players that can dominate this space.    Now comes the case of the stolen proprietary trading code from Goldman Sachs.

Most interesting in this Bloomberg article is the following statement by Assisitant U.S, Attorney Joseph Facciponti:

“The bank has raised the possibility that there is a danger that somebody who knew how to use this program could use it to manipulate markets in unfair ways,” Facciponti said

Is this an admission by Goldman Sachs that there is the possibility of manipulation in the market?  Does anyone think that this is the only program in the world that can “manipulate” markets?  With all the programmers in the world, we can only imagine how many more manipulative programs are out there.  Now here is the best part according to the assistant U.S. Attorney:

The proprietary code lets the firm do “sophisticated, high- speed and high-volume trades on various stock and commodities markets,” prosecutors said in court papers. The trades generate “many millions of dollars” each year.

Markets are a zero sum game – somebody wins and somebody loses. Where do you think these “many millions of dollars” are coming from?  They are coming from you – the average retail investor and the large institutional investor.  These programs are taking advantage of real order flow and are siphoning off small profits throughout the day that belong in the pockets of the retail investor and the traditional money manager.

So, who is out there to protect you from these “machines” and their army of programmers?  One would think the SEC has your back.  But what did they have to say about high frequency trading.  According to an article in the WSJ ( )

The Securities and Exchange Commission believes institutional money managers are “sophisticated” enough to trade against the machines without further regulation.

“We don’t want to curtail liquidity,” said Gene Gohlke, associate director for the SEC. Gohlke said it’s up to the managers themselves to make sure other traders aren’t manipulating their models.

This story is just at the beginning stages and we here at Themis Trading intend to keep a careful watch on it.

WOW!!! This statement by Mr. Saluzzi is as powerful a condemnation of a Wall Street business practice as I have seen in a long time.

Effectively, Mr. Saluzzi is stating that the high speed program trades ‘front run’ order flow from retail and institutional investors. This practice helps explain the disconnect between the underlying economic fundamentals and the technical support of our equity markets. The SEC has given the practice of program trading its blessing.

This smells.

For those interested in this topic, please reference previous posts by Sense on Cents on this topic:

Is Uncle Sam Manipulating the Equity Markets?

Is Uncle Sam Manipulating the Equity Markets? Part II

Kudos again to Zero Hedge and especially Joe Saluzzi!!


Is Uncle Sam Manipulating the Equity Markets?

Posted by Larry Doyle on July 1st, 2009 8:41 PM |

I have been increasingly suspicious of the price action in our equity markets over the last few months. I have highlighted how the markets are dominated by technical flows rather than fundamental analysis.

I have tried to highlight these themes in posts including “The Greater Fool Theory” and “What’s Driving the Market?”

My jaw dropped upon watching a Bloomberg interview yesterday in which Joe Saluzzi of Themis Trading left nothing to the imagination. Please take the time to watch this clip and ponder exactly what Mr. Saluzzi is sharing. The entire video is outstanding but it gets very interesting at the 4:20 mark. Compare his assertions with the points I have raised in my aforementioned posts. (Hat tip to Zero Hedge for locating the video.)

The risks of playing in these markets remain extraordinarily high.


Mere Pawns in Financial Chess Match

Posted by Larry Doyle on June 15th, 2009 6:51 PM |

The equity markets were down approximately 2% today without any overwhelming economic news. The news we did receive was decidedly mixed.

On the bearish side of the ledger, a measure of manufacturing activity in New York declined and confidence amongst homebuilders also declined. On the bullish side, the IMF announced that it is raising its 2009 forecast for economic activity in the United States. Taken together, those statistics would not typically generate a 2% downward move. So what happened?

Please recall from my posts “Greater Fool Theory and “What’s Driving the Market” that I believe the market is being driven by technical analysis and flows to a much greater extent than fundamental strength. Did we have any meaningful developments during the day or over the weekend to impact the technical support for our markets? I’m glad you asked. As Bloomberg reports, U.S., Global Stocks Drop as MSCI Falls Most in 2 Months:

Europe’s Dow Jones Stoxx 600 Index lost 2.5 percent after Group of Eight finance ministers, who met in Italy over the weekend, began drawing up contingency plans for rolling back budget deficits and bank bailouts as the economy shows signs of recovery and investors start worrying about inflation.

Recall that technical support is predicated strictly on new flows of cash entering the market to provide support and push prices to higher levels. There is no real fundamental analysis that supports these flows. While some economists may believe there are hints of global economic recovery, those debates are ongoing. The fact is, much like in a “shell game,” when a dealer (like a government) gives a hint that he plans on pulling some chips off the table, other players will do the same.

That line of reasoning developed at the G-8 conference and carried over into the market. Why did the G-8 express concerns about deficits and bailouts and inflation? Very simply, when interest rates move higher by 1% over the course of 6-8 weeks, they are sending a strong signal that there is a problem brewing. Even Dallas Fed governor Richard Fisher acknowledges that the Fed can only do so much to support the massive deficit spending and fiscal deficits. Bloomberg reports, Fisher Says Fed Can’t Offset Treasury-Borrowing Flood:

The Federal Reserve isn’t capable of offsetting the “flood” of U.S. Treasury borrowing with its bond-purchase program, which is helping to revive credit markets, Dallas district-bank President Richard Fisher said.

“The program has had its impact,” Fisher said today in an interview with Bloomberg Television. “At the same time, you cannot counter this enormous flood” of borrowing “coming from the United States Treasury.”

The Fed’s efforts to stimulate the economy are complicated by rising Treasury yields, which push up the cost of mortgages even after policy makers have lowered short-term interest rates near zero.

On the one hand, G-8 ministers are indicating the need to pull in their fiscal reins. On the other hand, Fed governor Fisher is indicating the Fed can’t support Treasury borrowing singlehandedly.

Do you get the sense we are all mere pawns in this massive game of financial chess going on around us?



Posted by Larry Doyle on June 13th, 2009 8:14 AM |

Investing is often much more an art than a science. What moves markets both up and down often will defy any logical line of reasoning. That fact can and will frustrate many money managers.

While I traded on Wall Street, I was fortunate to experience many different types of markets and the driving forces behind them. Ultimately I learned that over the very long haul, fundamental analysis will carry the day. That said, for protracted periods the mere flow of funds and market psychology embedded in technical analysis can be powerful if not overwhelming.

I addressed this line of reasoning the other day in writing What’s Driving the Market. I find it particularly uncanny that the lead article in today’s Wall Street Journal, Stocks in the Black on Gusher of Cash, navigates this same line of reasoning.

I wholeheartedly agree with the analysis put forth by the WSJ. I want to juxtapose my writing with that of the WSJ to highlight a theory which readers will likely never see or hear from individuals involved in the financial industry. Coming from a family of lawyers, allow me to “make my case.”

In my piece on Thursday, I wrote:

From my perspective, the Fed and Treasury have created nothing short of a flood of liquidity throughout our financial system and economy. While the economic activity is anything but robust, this money is in the system. Banks are not aggressively looking to lend and will not cut interest rates or credit standards. The shadow banking system (securitization process) remains stagnant.

Thus, where does the money/liquidity go? Much like pools of water after a torrential rainstorm, the pools of liquidity in our system are looking to penetrate any available crack and crevice.

The WSJ writes this morning:

governments around the world are pumping money into the economy at a frenetic pace. Because businesses can’t put trillions of new dollars to work in such a short time, the money is finding its way into financial markets. Some investors have begun speaking of a “bailout bubble” being created in certain markets, and about a “melt-up” in demand fueled by the growing supply of money.

“All that money that was printed had to go somewhere,” says Joachim Fels, co-head of global economics at Morgan Stanley.

As anybody involved in finance can appreciate, “follow the money” holds not only for criminal investigations but also for investment purposes. Let’s continue “down the river.” (more…)

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