THINGS THAT MAKE YOU GO
Hmmm
…
A walk around the fringes of nance
10 June 2012
1
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“Drilled in my head What does it meanNumbCan’tFeelOpen woundsNever healConditioned to react Without thought Without tactBleedingI sense no pain”
PAVLOV’S DOGS,
RORSCHACH
“Te problem with socialism is thateventually you run out of otherpeople’s money”
– Margaret hatcher
“What is being requested is nancial assistance.It has nothing to do with a rescue”
– Luis de Guindos,
Spanish Finance Minister
2.
THINGS THAT MAKE YOU GO
Hmmm...
10 June 2012
2
Sometimes the stars
jst
align.The beaufully bearded gen
-
tleman on the le was born
o Sptmbr 14, 1849 at
Rayazan, in Central Russiato a village priest calledPeter Dmitrievich Pav
-
lov. Aer being educat
-
ed at the church school,Ivan Petrovich Pavlov en
-
tered the theologicalseminary, desned
to follow his fa-thr ito a rli-
gious career, but,inspired by the ideasof D.I. Pisarev—Rus
-sia’s pr-mit
literary cric of the 1860s—andI.M. Sechenov, thefather of Russian Physiology, the youngman turned his back on the church and decidedthat mathemacs and science were his calling.He became fascinated with physiology and dem
-
onstrated a signicant aptude for the scienceof the funcon of living systems—so much so
that h was awardd a gold mdal ad a fllow-
ship by the Academy of Medical Surgery wherehe conducted research under the famous Rus
-
sian Clinician S. P. Botkin.
I 1890 Pavlov was appoitd Profssor of Phar-
macology at the Military Medical Academy andve years later he was appointed to the then va
-
cant Chair of Physiology, which he held ll 1925.It was during this me that Pavlov conducted astudy that would become famous the world over
ad lvat him to th raks of thos rar m
and women for whom a new adjecve is coined:
Pavlovian [p
ævˈləʊvɪə
n], adj
1. (Psychology) of or relang to the work of Ivan Pavlov (1849-1936), the Russian physi
-
ologist 2. (Psychology) (of a reacon or response)automac; involuntary
Pavlov’s experiment was in what became knownas Classical (or Pavlovian) Condioning:
(Wikipedia): Classical condioning (alsoPavlovian condioning or respondent con
-
dioning) is a form of learning in which onesmulus, the condioned smulus or CS,comes to signal the occurrence of a second smulus, the uncondioned smulus or US.The US is usually a biologically signicant smulus such as food or pain that elicits aresponse from the start; this is called the un
-
condioned response or UR. The CS usually produces no parcular response at rst, but aer condioning it elicits the condioned response or CR. Classical condioning diers from operant or instrumental condioning,in which behavior emied by the organismis strengthened or weakened by its conse
-
quences (e.g. reward or punishment).Condioning is usually done by pairing thetwo smuli, as in Pavlov’s classic experi
-
ments. Pavlov presented dogs with a ringingbell (CS) followed by food (US). The food (US)elicited salivaon (UR), and aer repeated bell-food pairings the bell also caused thedogs to salivate (CR).
In short, by associang the sound of a ringingbell with the appearance of food, Pavlov condi
-
oned dogs to salivate merely at the sound of the bell.For many years, this classical condioning hasbeen prevalent across nancial markets theworld over but, while its prevalence cannot be
dobtd, it has rmaid obtrsiv for o
reason and one reason only—it has worked al
-
most awlessly. On Wall Street, however, no suc
-
cessful idea was ever an orphan and so classicalcondioning’s fruits were passed o as thoseof heightened intellect amongst the great andgood of the nancial world.This classical condioning can be broken downinto a grid which I will simplify enormously forthe purposes of our discussion today:
3.
THINGS THAT MAKE YOU GO
Hmmm...
10 June 2012
3
Over the last 27 years of watching the techno
-
logical means of delivering nancial informaonimprove in both quality and speed, one thinghas remained constant and that is the Pavlovianreacon of markets to various economic condi
-
ons, data releases, natural disasters and, lately,Black Swans.When the economy is booming and greed is inthe ascendancy it is all about making the bigkilling. Equies and commodies are the onlygames in town. It is ‘Risk On’.When the tables are turned and we nd fear and
loathig i th air amidst wak growth, th o-
body wants to knowabout anything butthe safety of bondsand precious metals.But market ‘reac
-
ons’ are strangebirds indeed.Think about it: on anindividual basis, if a payrolls number (subjectto all kinds of aer-the-fact revisions) misses,what do people do? They ‘sell the ‘equity mar
-
ket’ and they buy the ‘bond market’? Why? Isit because at that precise moment the world issuddenly worse than it was two seconds earlier?Is it because they have taken their me to lookinto the report, analyze the various metrics thatmake up the headline number and decide upona course of appropriate acon? No. They ‘sell’and ‘buy’ the respecve ‘markets’ because thatis what they have been condioned to do andthat is what they subconsciouslyknow that everybody else hasbeen condioned to do’ (thoughI will concede that anyone posi
-
oning themselves ahead of anumber in ancipaon of a mar
-
ket reacon to a specic numberand geng it wrong has a validreason to move swily).If payroll numbers are down,
dos that ma Johso & Joh-so is
instantly
worth lss? If it isth bgiig of a log ad larg
increase in unemployment, perhaps, but selling‘the market’ on a bad number is a Pavlovian re
-
sponse.Selling ‘the market’ on bad news for a parcularasset class is the expected reacon and so thedesire to either conform with the pack or, morelikely, to try and get ahead of it, drives an instantinvestment ‘decision’ and, in my experience, thewords ‘instant’ and ‘investment’ are two of themost mutually exclusive terms in the English lan
-
guage and ought to remain so.
Te events of
2008 will hav a last-
ing eect on the world for many years to comeand the severe dislocaons that were seen a
mr 44 moths ago will rvrbrat far lo-
ger than I suspect many realize—in fact, a goodnumber of market parcipants seem to believethat 2008 is ‘over’ and that it is all behind us.
nothig, ad I
mean
nothing, could be furtherfrom the truth (except perhaps “2012 WorldChampion New York Mets”).Right now, the world is undergoing a crisis thelike of which hasn’t been seen since the GreatDepression. Do NOT let the absence of longlines of elegantly-clothed and behaed men andwomen queuing for soup fool you. The world—your world—has changed.And yet.....Like Banquo’s Ghost, the spectre of a terriblecollapse of a kind never before seen in modern
GovernmentBonds
Equies Commodies
Gold
Infaon
SELLBUYBUYBUY
Defaon
BUYSELLSELLBUY
Weak Growth
BUYSELLSELLBUY
Strong Growth
SELLBUYBUYSELL
Fear
BUYSELLSELLBUY
Greed
SELLBUYBUYBUY
Do NO let the absence o long lines o elegantly-clothed and behatted men and womenqueuing or soup ool you.Te world—your world—haschanged.
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