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Algorithmic Investors on Wallstreet

ScuttleMonkey posted about 8 years ago | from the all-your-soy-futures-are-belong-to-us dept.

249

eldavojohn writes "Recently, setting up prediction markets that people play was the big thing to guess the future. But is there a chance that computers will replace investors? From the article: 'Quantitative investment managers use a model to identify sets of characteristics for their investments. Computing power is now relatively cheap. Obviously, computing power can access data almost instantaneously and simultaneously. Asset classes and financial instruments within those asset classes can then be screened and investments are selected. They reflect the manager's views.'"

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hmmm (-1, Redundant)

Anonymous Coward | about 8 years ago | (#15954333)

Computers can't physicaly flip coins. Humans will prevail!

Market News Writing Computers Also (4, Interesting)

eldavojohn (898314) | about 8 years ago | (#15954338)

More and more I see computers being used to harvest and cultivate data for market analysts and investors. Even Thomson [theregister.co.uk] has built software to deliver market news. From that link:
Thomson has built some computer programs at $150k-$200k a pop to deliver automated articles on US market news. The programs can publish a news story on, say, company financials, within 0.3 seconds of their release to the NYSE or NASDAQ. This is purportedly helpful to hedge traders and others of their ilk.
$150-$200k? Looks like there might be some profit in artificial intelligence afterall. Although I wonder if this would even be considered AI?

Re:Market News Writing Computers Also (-1, Offtopic)

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Re:Market News Writing Computers Also (4, Informative)

Stellian (673475) | about 8 years ago | (#15954478)

More and more I see computers being used to harvest and cultivate data for market analysts and investors. Even Thomson has built software to deliver market news.
Folks who suggest replacing human investors with computer algorithms don't understand the basic workings of the stock market. You cannot predict the next value of a stock simply using past and current information from within the stock exchange. You cannot find a `pattern` in the stock price no matter how much computing power you use: there is no pattern, except for the well know economic cycles that influence all stocks. Besides, even if an algorithm could be devised, it would be useful only if it could be kept secret, otherwise using it on a large scale will deny any speculative gain.
The price of a stock is determined by external factors, and the key into being a good investor is access to information: who sued who, what is the union planing, what product is the competition developing etc. So to replace humans with algorithms, you must make them as intelligent as humans in the basic task of finding and understanding information. AI is ages away from this stage, and when/if we will finally have such powerful AI, the stock exchange will be our last concern.

Re:Market News Writing Computers Also (4, Interesting)

EastCoastSurfer (310758) | about 8 years ago | (#15954560)

Actually a lot of patterns are showing themselves in the extreme short term (think seconds here). There are so many automated trader/AI types of software exploiting already these patterns, as soon as one is found it doesn't last long since others jump in. I don't have a link handy, but I read a good article awhile back about econophysicists looking for and finding short term patterns in the market.

I also know of a company nearby doing exactly that and doing well and have an acquaintance who retired at the age 35 or so after running his companies dept. who found (using algorithms) and exploited these patterns that don't exist.

Re:Market News Writing Computers Also (0)

Anonymous Coward | about 8 years ago | (#15954571)

Of course, no links or sources cites.

Re:Market News Writing Computers Also (1, Informative)

EastCoastSurfer (310758) | about 8 years ago | (#15954645)

Mainly because the people who do this are are super secret. They don't want anyone to know how or what they are doing because the field is so competitive. It's the equivalent of an algorithm arms race.

These guys [predict.com] are supposed to be really good, but notice how little information you can find on their site. The company was started by one of the guys who mathmatically beat roulette (something else everyone thought was impossible at the time).

Re:Market News Writing Computers Also (0, Offtopic)

Intron (870560) | about 8 years ago | (#15954764)

Are these the same guys who figured out how to recover energy from magnetic fields [slashdot.org] ? If they've broken the laws of statistics, physics should be a piece of cake.

Re:Market News Writing Computers Also (4, Informative)

mikecheng (3359) | about 8 years ago | (#15954790)

The company was started by one of the guys who mathmatically beat roulette

This is equivalent to saying that he "mathematically beat the tossing of a coin" i.e. the statement makes no sense.

Price, Pattern, and Profit (3, Insightful)

G4from128k (686170) | about 8 years ago | (#15954686)

First, there are patterns. You are right that those patterns have a limited capacity to absorb trading and that anyone who finds a pattern would do well to keep it a secret. The EMH (Efficient Markets Hypothesis) is best lampooned by the following old joke. Two economists are walking down the sidewalk when one of them spots a $100 bill in the grass. The first economist starts to pick up the $100 when the second economist tells him, "Don't bother, if it were a real $100 bill, someone would have already taken it." Moreover, EMH makes predictions about the statistical distribution of price movements and the volume of trading that are empirically false.

Second, the price dynamics are not entirely caused by exogenous factors. Investors, speculators, the media, and government officials do watch the prices. People make buy and sell judgments without any fundamental basis such a stock being "expensive" just because the stock is $300/share (never mind understanding the relationships between price per share and capitalization). Humans also have instinctual beliefs in patterns such as trends or momentum that are self-fulfilling. If enough traders believe in trends or momentum, they will trade in a way that creates trends.

The profitable patterns do exist (and so do a large number of profitless pseudopatterns). People with a very sound understanding of both market psychology and statistics can and do succeed.

Re:Market News Writing Computers Also (1)

a10_es (579819) | about 8 years ago | (#15954712)

It's been possible to predict the market for quite some time; using the wiener algorythm, a predictive filter used, mainly, in telecommunications. It's a recursive algorythm developed around WWII. I've heard of some people using it to buy in the stock exachange and getting a profit. Of course it won't have all the information a human could get and do incredible profits, but will see how the market is and how it should evolve.

there are some evolutions, like the LMS, which adapts itself along the time. It is used for echo cancellation, as it adapts itself to the enviromental response and tries to process the signal so the medium looks ideal.

Re:Market News Writing Computers Also (1)

Do You Smell That (932346) | about 8 years ago | (#15954718)

Your argument is valid, but somewhat off topic. The article isn't talking solely about stocks (many of which, especially in larger companies, are more predictable than you'd think; since rises and falls in price aren't the main attractor, dividend payments are), but about all types of investment instruments: equities ("stocks"), bonds, futures, foreign exchange markets, money market exchanges, options, swaptions, FRAs, CDs, repurchase agreements etc... and all of these instruments lend themselves well to analysis by computers. If a portfolio manager decides that he wants to take X level of risk with a certain set of investments with average maturity length Y (or a fixed maturity date; or a rolling, never-ending set of investments; etc...), it's relatively simple to use computers to determine which instruments match his terms. The optimal applications of this software are not to "predict the future", simply to decrease the amount of time and psychological bias present in the task of selecting investment options.

Re:Market News Writing Computers Also (0)

Anonymous Coward | about 8 years ago | (#15954720)

In all fairness a comment should be added here on quant managers:

It is true that stockmarket prices only reflect the intersection of what buyers are willing to offer and what sellers are willing to accept (for all but the largest investments with few buyers and sellers, this can make the price very volatile) - and that this indeed depends on company growth and earnings, which depends on very qualitative issues - what the union is doing, how applicable a patent is, the value of a rental car fleet etc.

Where quantitative models can add value, all the way from the macro level to company spreadsheet models, is in assessing company fortunes a bit more coldhearted than gut feel. Individuals can have a tendency to misemphasise what they see - if he/she spots an argument in the union or hears a crude joke about going on holiday once the venture capital is in, they could focus their entire analysis on that, while the bottom line numbers and actual earnings look very good. Quant models cut away the qualitative part and ignore many of the company specific numbers to statistically generalise based on a small set of fundamental data.

Therefore - the best active managers will always outperform quant models, since they can consider the entire set of data (qual and quant) pertaining to a company and judge it accurately. A good quant model should in most cases outperform an average manager, since not making judgements also means it does not make poor judgements, only uses the rule of 'buy what has worked so far'.

Re:Market News Writing Computers Also (1)

ArikTheRed (865776) | about 8 years ago | (#15954772)

Yeah, this is true, to some extent. Here in Kansas City, there is a little office that no one seems to know exists. Its called Tradebot [tradebotsystems.com] . At any given day they do 5% of the trading on Nasdaq. Because they trade in so quickly and in such high volumes the business consistently makes money (I hear around $50,000/day). However, the secret their their success is not merely the software. The owner also employs 30 people to help him monitor trends, and adjust the software to match. I'd say the big secret is that his software is very agile.

Re:Market News Writing Computers Also (2, Informative)

the_womble (580291) | about 8 years ago | (#15954829)

You do not quite understand the sorts of things computers are beings used for.

They are not just picking stocks.

They are being used to do things like:

Incidentally the article is pretty useless: it does not actually have very much specific content, does it?

Re:Market News Writing Computers Also (1)

nelsonal (549144) | about 8 years ago | (#15954607)

This is pretty old news, it really began in the 70s. Wall St has long been one of the largest customers of big iron and they've been hiring lots of bright programmers and mathmaticians for at least 10 years (and they pay really well). Search Monster for quant some time (better yet beg borrow or steal your way onto a Bloomberg and do the same search).

Re:Market News Writing Computers Also (1)

Brickwall (985910) | about 8 years ago | (#15954783)

I agree this is old news. LTCM and 1988, anyone?

Re:Market News Writing Computers Also (1)

pyite (140350) | about 8 years ago | (#15954837)

I agree this is old news. LTCM and 1988, anyone?

1998. But LTCM wasn't purely quantitative. They went and got information that they thought would be useful to them other than the quantitative data... whether it be for their fixed income or equity trades.

Re:Market News Writing Computers Also (1)

diersing (679767) | about 8 years ago | (#15954624)

Looks like there might be some profit in artificial intelligence after all. Although I wonder if this would even be considered AI?

I for one welcome our quantitative and qualitative risk managing future predicting investment making overlords.

Sorry, someone had to say it.

Nothing new here (4, Interesting)

zero_offset (200586) | about 8 years ago | (#15954356)

Big deal, computer models have influenced trading for decades. And not only would it be "irresponsible" to fully automate trading (as the article states), it would also be "illegal". Computer-driven market analysis and prediction is a huge industry -- the big firms spend vast amounts of money on it. I'm not seeing what's newsworthy here, for slash or for El Reg.

Not illegal (1, Interesting)

Anonymous Coward | about 8 years ago | (#15954394)

And not only would it be "irresponsible" to fully automate trading (as the article states), it would also be "illegal".

Why would it be "irresponsible"?

And no, it's not illegal, but there are some exchange rules on it - depends on the exchange. See here: Program Trading [answers.com]

Re:Not illegal (4, Interesting)

zero_offset (200586) | about 8 years ago | (#15954429)

I suppose it's a question of semantics. Fully automated trading *is* illegal. Automated trade execution requires a person in the loop (setting thresholds for example) and is highly regulated. I actually know a lot about this, I was writing market-timing fraud detection software for a living as recently as last year.

As for the question of "Why?", the answer is on the page you linked. Black Tuesday, for example.

Re:Not illegal (0)

Anonymous Coward | about 8 years ago | (#15954456)

Fully automated trading *is* illegal.

Federal Law? or NASD rule? I can't find either.

I made a shit load of money off of Black Tuesday - I had a bunch of puts. (I LOVED the volatility that the program trading offered.) I guess it wouldn't be very good for the long term viability of the markets to serve their purpose if it were bouncing all over the place :)

Re:Not illegal (3, Informative)

El Torico (732160) | about 8 years ago | (#15954565)

Black Tuesday was October 29th, 1929. You must be thinking of another "black" day.

Re:Not illegal (1, Funny)

nelsonal (549144) | about 8 years ago | (#15954617)

Kids these days...

Re:Not illegal (1)

novus ordo (843883) | about 8 years ago | (#15954512)

Better tell these [google.com] people then. Crash in 5...4...3...

Re:Not illegal (0)

Anonymous Coward | about 8 years ago | (#15954839)

since when? there are companies that HOST automated systems - basically a web host with a direct conneciton to arch or naz. illegal? if you do no know what you are talking about, do not comment.

Re:Nothing new here (1)

john83 (923470) | about 8 years ago | (#15954580)

For the investment philistines among us (like me!), why is it illegal?

Anyone else thinking of accellerando [accelerando.org] ?

Re:Nothing new here (4, Interesting)

CastrTroy (595695) | about 8 years ago | (#15954587)

Yes, but if you could mostly automate it, you could do the trading a lot cheaper. Instead of paying highly qualified people hundreds of thousands of dollars per year, you could hire someone for $10 an hour to click on a sell/don't sell dialog box on a computer all day. The computer would be the one making the decisions, but the person would be giving the final order, making it not completely automated. Of course, the person would only ever click on sell, and the computer would only ever present an option which was a good idea to sell. However, the person would just be there to be the human loop in the process, and to ensure that there wasn't something extremely fishy going on with the trading.

Late reporting (5, Informative)

Shoten (260439) | about 8 years ago | (#15954357)

This is nothing new, and it's not even something that's restricted to the world of money managers. It's being used by individual investors now, and has been for years; it's called "technical investing". The definitions of combinations of factors (market cap, financials, etc.) are called 'screens', and are a common source of discussion on forums like those found on The Motley Fool [fool.com] . There's software for sale, priced for individual investors, and there are websites that will even allow you to save your screens to use periodically, looking for new possible stocks to buy into (or to check and be sure that your existing portfolio matches the parameters you want).

Replace investors? (5, Informative)

Aladrin (926209) | about 8 years ago | (#15954362)

Wow, great summary... The computers wouldn't be replacing investors, but 'investment advisors'... That's a whole different rung on the ladder. If they replaced the investors, there'd be no money and the stock market would die.

As for replacing the advisors... Even the article tells you that isn't going to happen. "They reflect the manager's views." Oh... So if there's no manager, there's no view... and the computer does nothing. So you can't drop the advisor.

This is simply another tool. It's not going to change much. My father will still complain bitterly when his portfolio loses money, and complain a little less when he's almost back to where he's started... again. And again.

The fact is... If everyone made money, the stock market would be an impossible thing. Some people will lose while some will gain. No magic piece of software is going to change that.

Re:Replace investors? (4, Insightful)

vialation (885786) | about 8 years ago | (#15954391)

This would true except for the fact that our market is NOT a 'zero-sum' system. Just because someone makes money does not mean someone else has to lose money. Investors are investing in these companies for their own benefit, but what does the company do with this money? They use it to expand their business, fund things, etcetera. This creates wealth -- when a company produces a product, that is wealth, in terms of stock. Nobody lost money in the production of that product. In fact, others probably gained wealth as well, as that company may have bought materials and parts from other companies, with them making a profit off of selling their created wealth. Just because there is a static amount of physical cash in this system does not mean that the amount of wealth is static.

Re:Replace investors? (1)

tverbeek (457094) | about 8 years ago | (#15954496)

"Just because someone makes money does not mean someone else has to lose money."

The other side of the coin is equally important: just because someone loses money does not mean someone else has to make money. It's all imaginary. The stock market used to serve the purpose of helping would-be businessmen find people with the resources to help start their companies, but has morphed into a numbers game, a form of legal gambling to create phantom "wealth" for those who play the game well, producing nothing of actual value in the process. After all, when you buy a stock, the only businessman who clearly benefits from that is the broker. And when confidence in the market evaporates, the confidence scam ends and all that phantom wealth disappears with it. What a house of cards to build an economic system around.

Re:Replace investors? (3, Insightful)

qbwiz (87077) | about 8 years ago | (#15954634)

Actually, it does help the company that releases the stock. IPOs can raise a lot of money for a company, which they can use to make more money. When the company becomes large and profitable, you get dividends, which benefit the person owning the stock. It works for both people.

Re:Replace investors? (1)

servognome (738846) | about 8 years ago | (#15954657)

After all, when you buy a stock, the only businessman who clearly benefits from that is the broker. And when confidence in the market evaporates, the confidence scam ends and all that phantom wealth disappears with it. What a house of cards to build an economic system around.

With that definition all economics is gambling. If I build gadgets or grow corn, I'm "gambling" that I can trade it; if the market for the item dries up all the value disappears. When you buy stock you are purchasing part of a company. If the stock market collapses, you are not denied the ownership of the company, it means there is no market for exchanging item.

Sure you can gamble on stock price gains, but the same could be said about oil, coffee, real estate, or any other tradeable item.

Re:Replace investors? (1)

maxume (22995) | about 8 years ago | (#15954404)

The fact is... If everyone made money, the stock market would be an impossible thing. Some people will lose while some will gain. No magic piece of software is going to change that.

Really, it would work, it would just be less interesting. It isn't zero sum, if the overall valuations of the companies that make up the market go up, everybody can make money. It happens to be more profitable to try to take other peoples money, hence the current situation where some people are better at it than others.

Don't believe me? Look at the results of placing some money into a S&P 500 index fund for 25 years, it is pretty much foolproof. It's not really a great overall strategy(not enough risk management), but it works.

Re:Replace investors? (5, Informative)

Eivind (15695) | about 8 years ago | (#15954437)

The fact is... If everyone made money, the stock market would be an impossible thing. Some people will lose while some will gain.

That's a pretty fundamental misunderstanding.

If that was true -- if the stock-market was a zero-sum game where the only way to win was to have someone else lose the same amount, then there'd be no point in playing it. Your average return would be zero.

Luckily that is not the case for investments. It *is* the case for speculation (for example day-trading) but that's something else.

When you buy $1000 worth of oh, say, Arendal Fossekompani. You are buying a certain small part of a company. The company, as most companies, try to turn a profit. On the average, they manage that. Some companies make a loss and (if they stay like that) eventually go bankrupt. But the sum total of the profits (or losses) of all companies is hugely positive.

Now, your $1000 part of the company made say $100 of profits this year. They can do two things with this money. Either they divide their profit up and give it to the owners (that's the ones holding the stock), in which case you'd get $100 cash as dividend.

Or they can invest the money, for example use this years profit to improve the powerplant so that it'll produce more power next year. In this case you still own a certain part of the company, but it's a larger, more valuable company. (your piece should now be worth on the order of $1100, but market-forces can change this in either direction) The stock market is not a zero-sum game with no profits. It's a game where the profits are, over time, equal to the average profit of the companies you invest in.

Re:Replace investors? (3, Insightful)

siliconwafer (446697) | about 8 years ago | (#15954597)

Investing in the entire market, since 1927, has returned on average of about 10% per year. That's a handsome return! This is the beauty of index investing, which you described. The layperson can easily purchase index funds and sit back and relax. This is a great alternative to the higher cost managed funds which mostly do not beat the market. With an indexed approach it is impossible to underperform the market, because you're buying the market.

Re:Replace investors? (1)

acaspis (799831) | about 8 years ago | (#15954654)

if the stock-market was a zero-sum game where the only way to win was to have someone else lose the same amount, then there'd be no point in playing it. Your average return would be zero.


Should be: the average return of all the players would be zero. But the good players would still consistently trounce the newbies. Think about poker, which is a zero-sum game.

But the sum total of the profits (or losses) of all companies is hugely positive.

Sounds like global economic growth. It may be huge, but it's only about 4 %. Explain to me how any country, company or individual that grows slower than the global average is not a loser in this game.

AC

Re:Replace investors? (4, Insightful)

servognome (738846) | about 8 years ago | (#15954683)

Explain to me how any country, company or individual that grows slower than the global average is not a loser in this game.

Because they are still growing, the losers are those who grow slower than inflation.

Re:Replace investors? (2, Insightful)

Ihlosi (895663) | about 8 years ago | (#15954695)

Sounds like global economic growth. It may be huge, but it's only about 4 %.

I'd much rather have 4% of the global economy's worth than 100% of my current net worth.

The global economy literally means a friggin big amount of money. Explain to me how any country, company or individual that grows slower than the global average is not a loser in this game.

So if a $10^12 country grows only by 3% a year, it must be a loser compared to all the $10^9 countries that manage a 15% growth ?

Re:Replace investors? (1)

mwvdlee (775178) | about 8 years ago | (#15954723)

At it's most basic level, the total of all shares would represent the total value of all companies. This underlying value can only grow when the population grows, allowing for introduction of currency without inflation.

Re:Replace investors? (1)

GigsVT (208848) | about 8 years ago | (#15954788)

That's not the case. Value is created any time something is produced that is in demand. If I take a pile of dirt and turn it into iron, I've created value. If that value exceeds the cost of obtaining and processing the dirt, I've got a viable business, and I'm adding value to the entire economy every pile of dirt I process.

That happens regardless of monetary policy.

Re:Replace investors? (1)

khallow (566160) | about 8 years ago | (#15954537)

Wow, great summary... The computers wouldn't be replacing investors, but 'investment advisors'... That's a whole different rung on the ladder. If they replaced the investors, there'd be no money and the stock market would die.

That is incorrect. There's no reason a computer program couldn't own the investments it manipulates. In fact, I'd say that there's a good chance that you get proven wrong by the end of the century.

Not a zero sum game... (1)

bwcbwc (601780) | about 8 years ago | (#15954609)

The fact is... If everyone made money, the stock market would be an impossible thing. Some people will lose while some will gain. No magic piece of software is going to change that.

Thanks to the inputs of human labor and intelligence bringing increases in productivity into the economy, the stock market is not a zero sum game. Even accounting for inflation, there has been real growth in the overall value of the market, just as there has been real growth in the overall value of the world economy. So it IS possible for everyone to make (a little) money.

On the other hand, if everyone is making money in the same proportion to their level of investment, your subjective perception of your wealth won't be as high as your actual gain in purchasing power. That's because relative to everyone else, you haven't moved. The fact that you now have an HDTV and a new car seems less like a gain in wealth because everyone else in your neighborhood has one too.

And once you factor in commissions, account fees and so forth, you can see that the small investor is still more likely to lose money than larger investors, even if they are able to implement the same investment strategy.

This is trading not investing. (5, Insightful)

Anonymous Coward | about 8 years ago | (#15954371)

More importantly, the models provide insight into market inefficiencies to be applied rapidly across asset classes and the vast number of financial instruments within those asset classes.

What they're talking about is arbitrage and trading, not investing. Their trades are designed to be in the short-term. Sometimes, very short-term - within a second.

Man or machine... (1, Insightful)

Anonymous Coward | about 8 years ago | (#15954376)

We all know when it comes to predicting markets they will both be beaten by a gang of monkeys and a dartboard.

Reminds me of a movie (2)

Chemicalis (890373) | about 8 years ago | (#15954379)

12:15 Press return.......

Re:Reminds me of a movie (0)

Anonymous Coward | about 8 years ago | (#15954427)

What's 735 times 421?

Re:Reminds me of a movie (0, Offtopic)

93,000 (150453) | about 8 years ago | (#15954747)

I loved that show so much that right after seeing it I went out and drilled my head. Of course, I was young then.

Reducing inefficiency is the key (4, Insightful)

Registered Coward v2 (447531) | about 8 years ago | (#15954384)

The key comment was:

More importantly, the models provide insight into market inefficiencies to be applied rapidly across asset classes and the vast number of financial instruments within those asset classes. Whole markets can be analysed daily for buy and sell indications at an individual instrument level. This enables portfolios to contain a larger number of instruments and reduce risk through greater diversification of the portfolio.

As inefficiencies are identified (such as when the return / risk ratio is not correct) provides an opportunity to increase returns by taking advantage of them. Of course, as more people use models the inefficiencies will be corrected quicker, leaving less opportunities to exploit. In effect, the market fixes itself. This, of course, is nothing new - markets adjust to new technologies all the time and eventually the opportunities they offered disappear; for example when the telegraph first came out no doubt someone discovered they could buy an item at one place for less then the same item where they were and arbitrage the prices - but as more people started doing that the spread disappeared.

But will it run on Windows? (2, Funny)

Nevtje(hr (869571) | about 8 years ago | (#15954385)

...cos I can already see the first search result output in front of me: "double the stockkiller delete select all"

Would be interesting to see how an advisor would interpret -that- ;)

GIGO (1)

Ollabelle (980205) | about 8 years ago | (#15954395)

I gues this is why the SEC is pushing to apply tags to various financial statement data submitted in the annual and quarterly filings. Now the computers can consistently analyze the financial statements and trigger trading, all without human intervention. Great.

LTCM anyone? (5, Informative)

dtd201 (220624) | about 8 years ago | (#15954403)

The use of computers models to predict what to buy has been around for some time. The absolute belief in these models caused Long Term Capital Management to go under in 1998 ( see When Genius failed [amazon.com] ). I also highly recommend reading Fooled by randomness [amazon.com]

the stock market collapse in 1987 (5, Informative)

Anonymous Coward | about 8 years ago | (#15954412)


back in 1987 when automated selling by computers was blamed for making the collapse worse

The most popular explanation for the 1987 crash was selling by program traders. Program trading is the use of computers to engage in arbitrage and portfolio insurance strategies. Through the 1970s and early 1980s, computers were becoming more important on Wall Street. They allowed instantaneous execution of orders to buy or sell large batches of stocks and futures. After the crash, many blamed program trading strategies for blindly selling stocks as markets fell, exacerbating the decline. Some economists theorized the speculative boom leading up to October was caused by program trading, while others argued that the crash was a return to normalcy. Either way, program trading ended up taking the majority of the blame in the public eye for the 1987 stock market crash.

http://en.wikipedia.org/wiki/Black_Monday_(1987) [wikipedia.org]

Re:the stock market collapse in 1987 (1)

mjh (57755) | about 8 years ago | (#15954820)

While I'm sympathetic to this concern, it seems equally probable to me that irrational human behavior could trigger the same sort of problem. Interestingly, here's the very next paragraph in the article you linked to:
Economist Richard Roll believes that the international nature of the stock market decline contradicts the argument that program trading was to blame. Program trading strategies were used primarily in the United States, Roll writes. If program trading caused the decline, why would markets where program trading was not prevalent such as Australia and Hong Kong have declined, as well? Although these markets might have been reacting to excessive program trading in the United States, Roll points to observations that would indicate otherwise. The crash began on October 19 in Hong Kong, spread west to Europe, and hit the United States only after Hong Kong and other markets had already declined by a significant margin.
I don't mean to suggest that I know anything about what caused Black Monday. But it seems dangerous to me to suggest that it's only possible cause could be algorithmic trading. Everything has pros and cons. Including relying on human behavior. It's a mistake to assume that changing one decision could have prevented disaster. Maybe the disaster wouldn't be exactly the same, but everything has pros and cons, and over time the cons come to bite.

Is this LTCM 2.0? (1)

BionicPimp (562378) | about 8 years ago | (#15954415)

what no one has heard of Long Term Capitol Managment? [wikipedia.org] Wasn't that their schtick too? The stock market can be reduced to a formula? Didn't they almost collapse the entire US economy!!! Nope, sorry...i'm not buying it. The market has always been about fundamentals over the long term (10yrs+) and emotions over the short term. This is just a way for money managers to abdicate responsibility for poor performance. "But the software said it should go up..."

ps. here's the Printer Friendly link [theregister.co.uk]

Re:Is this LTCM 2.0? (0)

Anonymous Coward | about 8 years ago | (#15954486)

That is bit of an oversimplification. Their underlying statistical models were too optimistic. They didn't expect that the latin american markets as well as teh russian market would be going haywire at the same time. They kept putting more money into the market, waiting for the eventual 'correction.' Unfortunately they were wiped out before the correction. Computers weren't the main reason they went kaput.

Re:Is this LTCM 2.0? (1)

siliconwafer (446697) | about 8 years ago | (#15954608)

We can all thank Allan Greenspan for setting up that infamous meeting with LTCM and their creditors. It's amazing that *one* irresponsible investment firm can push the U.S. economy to the brink of collapse, but it did happen.

Re:Is this LTCM 2.0? (1)

nelsonal (549144) | about 8 years ago | (#15954652)

It wasn't just a run of the mill hedge fund. Essentially the creditors believed they were really smart (and earning that sort of credibility isn't easy) so they were willing to essentially extend them as much leverage as they want. Even with the fairly loose rules in prime brokerage, I'd be surprised if anyone is offered the same size and leverage ratio as LTCM had.

Re:Is this LTCM 2.0? (2, Insightful)

Registered Coward v2 (447531) | about 8 years ago | (#15954660)

what no one has heard of Long Term Capitol Managment? Wasn't that their schtick too? The stock market can be reduced to a formula? Didn't they almost collapse the entire US economy!!! Nope, sorry...i'm not buying it.

Not really - they started out with arbitraging the slight price differences in bonds, knowing they could make money as the prices converged. They eventually went into other areas as they got more money; and the small differences required huge positions so they were highly leveraged - when an external crises (Russian default) caused a hiccup in the markets they faced a liquidity crises - in short they ran out of money to pay investors moving to other investments. Had they simply sold off their investments the banks feared a greater drop in values which would seriously hurt them - so they, with some prodding, stepped in to bailout LTCM (I guess 3.5 b$ in losses is better than going under for a bank) and protect themselves from a worsening crises. Which shows the old adage is true - if you can't pay back $100 you have a problem; if you can't pay back $100million the bank has a problem.

IAR, the bond market eventually converged again - but LTCM lacked the cash to ride out the intervening divergence. Sort of like what happened to Orange County (who was neither non-liquid nor bankrupt) - had they stayed in their positions they would have made money.

The market has always been about fundamentals over the long term (10yrs+) and emotions over the short term. This is just a way for money managers to abdicate responsibility for poor performance. "But the software said it should go up..."

No, the software, as I read the article, is not about predicting prices (which is a loser's game anyway) but about arbitraging differences in prices to make money; by discovering them before someone else - like LTCM. The problem, of course, is that the difference in prices is often so small that it takes lots of money to make a decent profit, which means being highly leveraged and thus exposed to sudden market moves.

Computer trading ... bah! (3, Interesting)

Anonymous Coward | about 8 years ago | (#15954421)

The efficient market hypothesis states that the price of a stock reflects all that is known about a stock. It is therefore impossible to outperform the market on a long term basis. http://en.wikipedia.org/wiki/Efficient_market [wikipedia.org]

Warren Buffet has outperformed the market over many years. http://en.wikipedia.org/wiki/Warren_Buffett [wikipedia.org]

Buffet understands the economy and invests accordingly. The computer programs only understand the market. In other words they can't really respond faster than the rest of the market. Buffet can be years ahead of the market.

Cradle to Grave...instantly (2, Insightful)

Capt James McCarthy (860294) | about 8 years ago | (#15954448)

So when a person is born, using models and best decision practices, the system(s) can predict what the earning potential (investment wise) for the new born is. Compiled with analysis of their genes, the life expetancy and health of the new born can also be determined. Then, the system(s) can decide if the new born will be a drain on society or not. Given enough computing power, data models, and algorithms, mankind's future will soon be predictable.

Re:Cradle to Grave...instantly (2, Funny)

Patrik_AKA_RedX (624423) | about 8 years ago | (#15954809)

It already is. I've got your printout and it's kinda funny with some unpleasant details (You wouldn't believe to what detail they can predict things). Oh, and look out next monday, you better don't... well, I suppose I better not change your future as it upsets the administrator, but I suppose I could let you know not to wear something white, or anything that would be ruined by blood stains. Don't worry, you'll live. Kinda.
But don't feel upset now. The 12-year recovery afterwarts is worth it, the artifical leg is really cool, not to mention how handy your new robo-arm is going to be in the earthquake right after the tornado blew apart your new house. Luckily for you, you will be outside trying to reach the police station to report your car being stolen.

Trader panache (0)

Anonymous Coward | about 8 years ago | (#15954451)

I fail to see how a computer can have the same style that our fat bellied barrow-boys-in-suits have. A couple of years ago I was on a trading floor, one of the ForEx traders was in a heated conversation on the stentophone. I only heard his end of the conversation that went something like this:

Give me 2.22 you c*nt
No, I said 2.22 you c*nt
2.22
2.22
Can you f*cking hear me? I said 2.22 you c*nt
What part of 2.22 don't you understand you little pr*ck. 2 f*cking 22.
2.22 you c*nt
2.22 you c*nt
2.22 you c*nt
*pause*
There you go you jumped up little c*nt, didn't take too f*cking long did it? 2.22 done.


"2.22 you 11011100110011ing 1011101101" doesn't quite have the same ring to it.

Dangerous idea (3, Insightful)

Opportunist (166417) | about 8 years ago | (#15954454)

Let's be honest here, the "human factor" was what made some huge enterprises possible. Because some humans believed in something the "numbers" alone didn't predict. Do you think Google would have found an investor in its early days?

Investment by numbers is by definition a rather conservative way to invest. In other words, put your money where there already is money. Risk investment is usually something done by visionaries, not by bean counters. And yes, 9 out of 10 times the idea bombs. But the one that works pays hundredfold.

Wallstreet isn't Chess (2, Interesting)

elmarkitse (816597) | about 8 years ago | (#15954458)

http://science.slashdot.org/article.pl?sid=06/08/2 1/1646238 [slashdot.org]

Until you can look at the numbers of a company and know everything about that company with certainty (meaning that a human _could_ do it if they had an infinite amount of time), or until we have computers that are great at telling when people (enron) are bluffing, I'll stick with investmant companies that rely predominantly on humans.

Finding stock data (1)

Bromskloss (750445) | about 8 years ago | (#15954466)

Many times I have played with the idea to try to find patterns in stock history to aid prediction, but where to find the data set to work with? I'm not prepared to pay for it, of course.

Re:Finding stock data (1)

teslar (706653) | about 8 years ago | (#15954566)

You remind me of a guy a while back. He always restated his assumptions:

One, Mathematics is the language of nature.

Two, Everything around us can be represented and understood through numbers.

Three, if you graph the numbers of any system, patterns emerge. Therefore, there are patterns everywhere in nature.
Evidence: The cycling of disease epidemics;the wax and wane of caribou populations; sun spot cycles; the rise and fall of the Nile.

So, what about the stock market? The universe of numbers that represents the global economy. Millions of hands at work, billions of minds. A vast network, screaming with life. An organism. A natural organism.

My hypothesis: Within the stock market, there is a pattern as well...Right in front of me...hiding behind the numbers. Always has been.


Oh yeah, and he got his data from newspapers. I imagine you could fork out a few cent a day to build your database.

Yahoo (1)

B1ackDragon (543470) | about 8 years ago | (#15954648)

Yahoo's financial site has data. (The only free place I've found too.) finance.yahoo.com, look up a quote, click the graph, on the bottom of the page: "historical prices." Set ranges and frequencies for data, then at the bottom again, "download as spreadsheet," CSV.

A Hedge Fund That Opts for Engineers, Not MBAs (2, Interesting)

Krishna Dagli (768334) | about 8 years ago | (#15954471)

Hedge funds are sometimes seen as the "smart money,'' and their managers hailed as market iconoclasts whose quirky, daring trading styles are central to their success. But some of the smartest traders are often beaten by an unlikely foe: the room full of man-high Hewlett-Packard computers that are the brain of AHL.
http://tinyurl.com/ke2ey [tinyurl.com]

Re:A Hedge Fund That Opts for Engineers, Not MBAs (2, Insightful)

Red Flayer (890720) | about 8 years ago | (#15954833)

Hedge funds are sometimes seen as the "smart money,'' and their managers hailed as market iconoclasts whose quirky, daring trading styles are central to their success. But some of the smartest traders are often beaten by an unlikely foe: the room full of man-high Hewlett-Packard computers that are the brain of AHL.
BS. Successful hedge fund managers do not have "quirky, daring trading styles." Every successful hedge fund out there has a set of metrics and a set of formulae that they apply in order to determine where there are inefficiencies in the market to take advantage of (for example, is biotech currently overvalued? Is the dollar undervalued? Damned if I know, but the mathematical geniuses running my hedge fund have a good idea.

Second, hedge fund managers rarely execute trades themselves. They hire traders to do that, apparently you didn't bother reading the article you linked to.

I know, you're linking to a NYTimes article (which you didn't bother citing in your directly quoted 2nd sentence).

Surreal... (1, Interesting)

vhogemann (797994) | about 8 years ago | (#15954472)

Let's assume that we could do that, setup a bunch of algorithms wich only purpose is to make money. And let's assume that this AI is much better than a human at making market decisions, it always pick the best choices, it always wins.

If that happens, and if all the investitors has access to such software, my bet is that the whole point of investing on market will flop. Since everybody will always "win", nobody will actually make a huge profit, the money will enventually be equally distributed among all investitors.

The sad thing about capitalism is that there's always a fixed amount of money on the market, so to win somebody else has to loose. If we make a super AI, that always wins... nobody will, because to win someone has to loose.

In the end this could mean a good thing, and we can turn our attention from pure profit to things that really matters.

Re:Surreal... (2, Insightful)

Mung Victim (821757) | about 8 years ago | (#15954540)

If that happens, and if all the investitors has access to such software, my bet is that the whole point of investing on market will flop

Not at all. Every major player in the market already uses some kind of computer modelling, for risk analysis, pricing, arbitrage or whatever. There is basically a perpetual arms race as different investors come up with new strategies or better ways of modelling a particular part of the market. The result is a more efficient market - fewer things are mispriced.

The sad thing about capitalism is that there's always a fixed amount of money on the market, so to win somebody else has to loose.

You clearly just don't understand how markets work. The purpose of any investment market is to bring together lenders of money (investors) with borrowers of money (companies, governments etc). It is not a zero-sum game. If use of computer modelling allows investors to make better decisions, in the end it benefits everyone.

Re:Surreal... (1)

Ihlosi (895663) | about 8 years ago | (#15954671)

The sad thing about capitalism is that there's always a fixed amount of money on the market,



*BZZZZZT*



Please look at your textbook again.

You forgot about inflation (1)

Colin Smith (2679) | about 8 years ago | (#15954710)

"The sad thing about capitalism is that there's always a fixed amount of money on the market, so to win somebody else has to loose."


You forgot that governments print money. They make it out of thin air and devalue currencies. The US government is doing exactly that right now. There are inputs to the economy, the sun, oil, human inventiveness which mean it isn't a zero sum game, it's only zero sum on the very shortest timescales.

In the end this could mean a good thing, and we can turn our attention from pure profit to things that really matters.


Sorry, you're young... You haven't yet figured out that markets, competition are all based on the desire to reproduce. It isn't ever going away while there are human beings.

 

Read "Debt of Honor" (2, Interesting)

Puls4r (724907) | about 8 years ago | (#15954488)

I suggest you go out and read "Debt of Honor" by Tom Clancy. As always, he fabricates and exaggerates, but all the same it will give you a very good idea why reliance on a computer trading model is a "Very Bad" thing. I.E. - if you know how a computer program works then you know how you can break it or cause it to react. If you can do that, then suddenly you have the power to control the market. Clancey went a bit further theorizing that a programmer was bribed to place an easter egg in the system, but all the same the ideas are there and are valid.

12:45 Restate my assumptions: (1)

emil10001 (985596) | about 8 years ago | (#15954508)

1. Mathematics is the language of the universe.

2. Everything around us can be represented and understood through numbers.

3. If you graph these numbers, patterns emerge. Therefore: There are patterns everywhere in nature.

So, I guess Max Cohen's theory seems to be panning out in real life. And as cool as that sounds to be able to model the stock market like that, I'll bet that they didn't accidentally stumble onto the structure of life while they were doing it.

Just wait... (1)

geminidomino (614729) | about 8 years ago | (#15954509)

Someone's going to write a trade-bot in VB.net and it's 1929 again.

Again, this is a trillion dollar bet (1)

knightmad (931578) | about 8 years ago | (#15954523)

That the market already played and lost once [pbs.org]

"[A]n elegant mathematical formula that helped create a multi-trillion dollar industry" but that lead markets to "began to act in ways that no one had seen before and they began to lose 100 million and more, day after day after day, until finally there was one day when they dropped half a billion dollars, 500 million in a single day"

There are unpredictable variables in the market (as it mostly deals with human expectation on production and consumption), and computers are not 100% reliable when it comes to predicting random events. They may help, but not replace the human "gut feeling".

Can I have an algorithmic manager? (1)

qazsedcft (911254) | about 8 years ago | (#15954524)

Can I have an algorithmic manager? I wouldn't tell the difference.

(Good data && Good Algo) (3, Interesting)

140Mandak262Jamuna (970587) | about 8 years ago | (#15954530)

Yes, cost of computing is falling like a rock. Yes, tons and tons of data are available and increasing more accessible. What XML tags and electronic submission requirements by SEC. So there is big money in "programmed trades"?

When everyone is crunching numbers on their head, the computing might give an advantage. If everyone is computing with compters, the advantage goes to the one with better algorithm. And the better "algorithm" might actually turn out to be thinking and looking at the global picture instead of madly computing.

When huge trades are decided by these algorithms it is almost like a huge herd of milling cattle. When the stampede, just get out of the way. But if someone could trigger a stampede and send it over the cliff, there will be rich pickings later. And in free markets, if there is a way for someone to make money, someone will.

I think algorithmic investing is the new name for the old "programmed trades" and it might actually make the thinking and studying fundamentals investors richer.

The code is

if( InputDataIsGood() && AlgorithmIsGood() && AlgorithmIsBetterThanOthers()){

Output(profit);

}else{

Output(loss);

}

Investing and the Weather... (1)

deviantphil (543645) | about 8 years ago | (#15954562)

We've long used IT to spot and forecasts weather trends. I have long wondered why we couldn't make a system to predict market trends/events given any number of variables.

This makes the rounds every now and then... (3, Insightful)

StressGuy (472374) | about 8 years ago | (#15954574)

A friend of mine tried writing his own auto-investment code to see if he could actually make a living at it. His plan was to dedicate a computer to doing nothing but scanning the market and making investments for him. Well, he's not doing that today, and he's probably one of the most intellegent people I know. I also rememeber a concern that, if everybody used automated investing, the market would become highly sensitive to change (or...unstable) as you'd run into situation where most, if not all, of the algorythms out there would react the same way to certain market changes.

Still, it's intriguing isn't it? I mean, one of the things I use computer programming for is to learn how things work. I look at it this way; a computer is rock-stupid, but it does exactly what you tell it to do. So, if I could write a code to do market analysis, I'd be learning the intricacies of how to do it along the way. Sure, most invesment sites have tools for you, but there is value in learning the underlying mechanisms.

Seems the best approach would be to write such a program to simply do the analysis, then you make the final commit to buy or sell. You'll have a good idea how to interpret what you get back because you told it what to do in the first place and you should be able to spot errors/weaknesses in your strategy. It could be downright symbiotic.

Re:This makes the rounds every now and then... (1)

Enigmafan (263737) | about 8 years ago | (#15954672)

you'd run into situation where most, if not all, of the algorythms out there would react the same way to certain market changes.


So if you create the algorythm that sees this pattern, and trades accordingly, you win.

Re:This makes the rounds every now and then... (0)

Anonymous Coward | about 8 years ago | (#15954708)

I've actually done this. Wrote a program in C# to grab earnings data, screen out "good earnings", grab data other data for these companies (P/E, cash, debt, market cap, shares short, etc), perform a little more analysis, then present me a report of companies I should look into. It's called a screening tool. Me, the human, still makes the final decisions.

Beaten by an 8-bit Z80 (0)

Anonymous Coward | about 8 years ago | (#15954595)

About 20 years ago I had a home 8-bit Z80 computer (Amstrad) running CP/M. I also had a board game called Winalot which involved buying and selling shares in four companies (Oil, Rubber, Gold and Diamonds). Share price was changed after each round according to up and down cards held by the players. What players bought and sold in each round was obviously influenced by what cards they held, and by seeing what others bought and sold.

I programmed the Amstrad to act as another player. It dealt itself "cards", you told it what the humans had bought and sold by typing it in, it displayed what it wanted to buy and sell for itself, and at the end of each round it displayed what "cards" it had held and you typed in what cards the humans had held. It also did the tedious job of banker, displayed the current share prices, and told us who had won at the end of the 20 rounds. That was usually itself!

Other human players (none of whom had ever seen a computer before) did not like it because they thought it was "fiddling" the bank - they could not understand how it resisted the temptation to transfer bank funds into its own account!

Obviously I had written a simple algorithm for its decisions on what to buy and sell - a very simple one. It was therefore no more "clever" than I was. Yet this thing would beat me (and most others) in the game 3 times out of every 4! Simply because I was using a bit of intuition, even unconciously, whereas it was sticking strictly to its algorithm.

As a party piece it went down like a lead balloon!

Heisenberg Principle in play, of course (1)

jenkin sear (28765) | about 8 years ago | (#15954610)

The problem with developing a perfect algorithm to predict the market is in recognizing that your algorithm is also a participant in the market. Any actions it takes will also affect what it's predicting. It doesn't introduce much error on small scales, but on any significant investment levels, the distortions on a single stock will be pretty chaotic. It's probably impossible to both perfectly observe the market and to participate in it.

Re:Heisenberg Principle in play, of course (0)

Anonymous Coward | about 8 years ago | (#15954680)

Quantum Stock Market?

A Mathematician Plays The Stock Market (1)

mikecheng (3359) | about 8 years ago | (#15954628)

I recommend every aspiring trader have a read of A Mathematician Plays the Stock Market [amazon.com] by John Allen Paulos.

The book is pretty much as it sounds. While the author doesn't *actually* invest in stocks, he *is* a mathematician and he plays through (mostly with logic) ways to get ahead in the stock market game. As you would probably guess, it's not easy.

A great read. Sadly, my dreams of a quick fortune by computing stocks were quickly squashed by his well presented arguments.

what a dumb idea (1)

joab_son_of_zeruiah (580903) | about 8 years ago | (#15954643)

If fundamentals were *all* that investing was about, Oh! how simple. Just read Bernstein on asset allocation. And wait a decade or two.

Every algorithm -- read: trading strategy -- is inefficient in it's own way. Markets are random walks that remove inefficiency, at least over the long term. One can't eliminate extraordinary popular delusions and the madness of crowds. Let's program around them!

In the short run it's all about crowd psychology. In the markets, money is made in the short term by *taking* it from another investor.

This will go nowhere except for book and secret method sales.

They teach me this in college (0)

Anonymous Coward | about 8 years ago | (#15954647)

It's called risks management (or whatever the traduction is...), and you use statistical stuff to do it... then go to a spreadsheet, put some infor and make some functions and voala, you get a result saying you should invest or no.

All new about this new, is that you don't have to tipe all the info on the spreadsheet.

Re:They teach me this in college (-1, Flamebait)

Anonymous Coward | about 8 years ago | (#15954750)

I find that very hard to believe. There's no way you went to college.

Well, it's easy (1)

hkgroove (791170) | about 8 years ago | (#15954655)

Just find the 216 digit number.

Akin to computerized mathematical proofs (0)

Anonymous Coward | about 8 years ago | (#15954678)

Just plain bogus. Enron would have looked great on paper and to any computer algorithm. A keen investor however would have interviewed employees and performed other tasks a computer can't easily do to find that, hey, something is really F*#CKED UP at this company. Same for Krispy Kreme a couple of years back, and a thousand other examples. I can see (and use) computer programs as screening tools, but I still perform personal research to decide if a "screened" company is worth investing in.

Vectorvest (1)

zerofoo (262795) | about 8 years ago | (#15954704)

Vectorvest [vectorvest.com] has been doing this for years. -ted

wait a minute! (0)

Anonymous Coward | about 8 years ago | (#15954709)

shouldn't that link read "that computers will replace CEOs"?
ona more serious note: i believe it is possible to
have toaster like device at home doing "intraminute"
trading with ~garunteed gains :)

acctually having a few terra flops, enough storage and
a good compression algorithem should enable you to
"database" track all money going in and out of the market.
if you can track that, it would be like if you were able to track
total water evaporation ... how probable it is to rain.

of course our planet doesn't create water, but some countries
create (read print) money (out of thin air), so tracking that might
not acctually work.

Comments from a friend in the business (4, Insightful)

espressojim (224775) | about 8 years ago | (#15954737)

I have a friend who worked in the hedge fund game for a number of years. He's a brilliant mathematician, and worked on the models they used to inform their trading. The group he worked with was quite successful, and make a heck of a lot of money.

One of his most interesting comments: "The model can inform your decisions, but you have to know when to NOT trust the model." Another of his comments on a completely different talk: "Mathematical models are never perfect, but they can be useful."

The trading system can be modeled, but you can never capture all the true complexity of the real world. If you leave the model to do it's thing, if I know how it's going to act, I can game the system. If the world changes in a way that the model builders did not predict, then the system will also act inappropriately.

I can't imagine ever getting rid of all the traders out there, though I imagine expert systems will become more 'expert' as time goes on.

Black or Red? (1)

hypoxide (993092) | about 8 years ago | (#15954792)

Headlines read: COMPUTERS PREDICT ROULETTE ROLLS WITH MATH!!!!! Then: ALGORITHM PREDICTS ANYTHING THAT EVER HAPPENS IN THE FUTURE !!!
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