Crowd sourcing, mass psychology, and the market

Once upon a time I was teaching a math class, and posed a famous problem to the students that went something like this.

You are boarding a plane, which seats 500 passengers. Every passenger has been assigned a seat. All seats are booked. The first passenger boarding the plane misplaces his boarding pass, and so he chooses a random seat. Every other passenger sits in their designated seat, unless it is full, in which case they select a random (presumably unoccupied) seat. What is the probability that you, the last passenger in line, will arrive at your designated seat to find it unoccupied?

It happened to be one of those days when everyone was feeling lazy and uninspired, and nobody had any ideas on how to approach the problem, so I decided to try an experiment in crowd-sourcing. I asked each student to guess the answer, wrote them all down, and calculated the average. Surprisingly, it was very close to the correct answer (which appears at the bottom of the post).

What I found very surprising was that no guesses were particularly close to the correct answer. There were also a couple of idiots who guessed numbers larger than 1. My conclusions were that crowd-sourcing does seem to work--but requires a few idiots among the crowd to work properly.

Which brings me to the market.

In some past articles I discussed the topological equivalence between some common methods of technical analysis and the sort of dynamical analytical techniques I have written about in numerous other postings. The reason that TA can be used at all has to do with the importance of mass psychology in setting share prices, as opposed to economic fundamentals.

An area of stability in a phase space reconstructed from a time series tells us that the system is dominated by negative feedbacks, which tend to stabilize values in the time series within a relatively narrow range of values. A crowd-sourced price for a stock could be such a value--if the majority of market participants believe that $1 is the correct price for shares in a certain company, they will tend to sell when the price is higher and buy when the price is lower.

No matter how long the game plays, the price may remains a crowd-sourced number. It can change in response to fundamentals--for instance, when Atna recently placed the Pinson mine on care-and-maintenance, the crowd decided on a dramatically lower price for a share of Atna.

As in all crowds, there are a number of idiots who influence the price so much that they can temporarily overwhelm the fundamental case, until they either suddenly realize they have made a mistake or run out of money. If the crowd-sourced price is a mean of a population, that value can be exaggerated by a few idiots greatly overestimating (or perhaps underestimating) the real value of a stock or commodity.

For example:

Huldra Silver Inc., one year chart. I plead innocent--I never owned it.

Atna Resources Ltd., one year chart. I was one of the idiots who overvalued this one. 
Both charts from TSX site.

I tend to reject the efficient-market hypothesis. I think the market is almost always wrong, mostly because the majority of market players are missing some information. Sometimes the idiots are too high; sometimes they are too low.

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The solution is 0.5. Explanation.

Update on dengue in Singapore

After peaking in late June, the number of cases has fallen by more than half, to about 340 last week. Total number of cases this year is about 13,500.

Identifying stability in complex systems

No, this is not about Egypt.

I use the term "stability" a lot, as in area of stability. Sometimes I describe the stability of systems projected into phase space as "Lyapunov-" in nature. It may have been awhile since I discussed the criteria for determining whether we observe stability in a system--the Case-Shiller index, for instance.

I've just noticed that I didn't label the axes on the lower figure--but they are the same as in the upper figure.

Why are the yellow blobs, and the large cluster of points at the lower left of the second figure, areas of stability, whereas the small cluster near the top of the lower figure is not?

One clue is whether we see many points that occur close together in time also close in phase space. A lot of points clustered in one area means that whatever measurement we are looking at is not changing much over a long period of time--just what we mean by stability, no?

Areas of stability can only occur in certain places on a time-delay phase space reconstruction.

Same figure as above, but with the "y = x" line plotted. Points along this line would represent points where the value of the Case-Shiller index is the same as it was four years earlier. Areas of stability will straddle the line. The system cannot remain in one spot for long if it is off this line. That doesn't mean that the system has to report to the line. It can meander away from the line for long periods of time (twelve years already)--but while it is doing so, it is not stable.

What about the point where the state crosses the y = x line at the first quarter of 2008?

The first quarter of 2008 would be about where the arrow was. The index was at the same level in early 2004--but we would not say that that was a point of stability because of what the index did during that interval.

Time-derivative phase space reconstructions are topologically equivalent--but perhaps more intuitive, as in this case the system dynamics are reconstructed by plotting a measurement against its rate of change.

In this different projection--time-derivative state space portraits (of the gold-silver ratio)--in which I have plotted the GSR vs its first time derivative, all points of stability must lie along the dr/dt = 0 line. But why doesn't every point on this line represent stability (for example, the point where the curve crosses 0 when GSR = 96)?

You may recall from calculus that apart from critical points of inflection, rates of change also reach zero at local maximum and minimum points. So once again, the fact that a point plots on an area that may represent stability does not mean the system is stable at that point. You need to see a lot of other points, which are close neighbours in time, in the same area.

The Friday OT - Brazil

An old favourite of mine at one of their last performances.

The cancer of Progressivism

There is outrage over the recent revelations that aboriginal children in Canada were subjected to crude experiments (consent kindly granted by the government of Canada) studying the effects of malnutrition. Some children under government care (term used incautiously) had their milk rations cut in half, while required vitamin supplements were withheld. At the same time, dental care was withheld because the deterioration of the gums was a key indicator for malnutrition, and normal dental care would have interfered with the experiment.

A word that is being kicked around a lot this morning is "paternalism". The government had a paternalistic attitude, and handed its wards over to be abused in the name of science.

The real word that should be bandied about is "Progressivism". That is the real cancer--the notion that the government should use its "power" to "improve people's lives". These people, evidently, are too foolish to make their own choices--so let government-trained experts make their choices for them.

For example, in Ghana there are any number of young men like the one depicted below, who live hand-to-mouth, day by day. He has a small plot on which he grows a few yams or plantain, and once in awhile he gets a spot on a fishing boat and works for a share of the catch. Sometimes we hire him as a casual labourer for a few days at a time, where he has helped cut lines, dig pits, pilot our research vessel.

He owns no car, no phone, no TV, no DVD player (he has said he would like to be able to buy such things), but on the whole he is about as happy as anyone else in the village. If he is sick or down on his luck, he has friends and neighbours and relatives to help him. On the whole he has a life that is more real and vital than those lived by the people in suits here who want to turn him into a real-estate broker or investment adviser, so he can commute for an hour each day to work, and develop ulcers and pay taxes like a civilized human being.

The reason that Progressivism is like a cancer is that its practitioners do not stop. Not ever. Because they are doing it for you.

How financialization began in the western world

only debts grew exponentially, year after year, and they do so inexorably, even when–indeed, especially when–the economy slows down and its companies and people fall below break-even levels. As their debts grow, they siphon off the economic surplus for debt service (...) The problem is that the financial sector’s receipts are not turned into fixed capital formation to increase output. They build up increasingly on the opposite side of the balance sheet, as new loans, that is, debts and new claims on society’s output and income.

                                                          - Michael Hudson (2003)

A couple of years ago I questioned the reality of reported GDP, as it seemed to conflict with the rate of usage of real resources. One figure I used is reproduced below.

Source: Handselbanken Capital

When I think of the 50s and 60s (okay, I'm too young to remember much about the latter), I think of rapidly rising standard of living--at least in North America. The reduction in growth of usage of metals in the 70's I attributed largely to the energy crisis--and a slowing in the real economy. The manufactured GDP numbers kept on growing.

One recurring theme in describing the past few decades is the notion of financialization--which I view as using financial products to wring out profits for banking interests at the expense of producers.

[Companies] are not able to invest in new physical capital equipment or buildings because they are obliged to use their operating revenue to pay their bankers and bondholders, as well as junk-bond holders. This is what I mean when I say that the economy is becoming financialized. Its aim is not to provide tangible capital formation or rising living standards, but to generate interest, financial fees for underwriting mergers and acquisitions, and capital gains that accrue mainly to insiders, headed by upper management and large financial institutions. . . . Instead of labor earning more, hourly earnings have declined in real terms. There has been a drop in net disposable income after paying taxes and withholding "forced saving" for social Security and medical insurance, pension-fund contributions and–most serious of all–debt service on credit cards, bank loans, mortgage loans, student loans, auto loans, home insurance premiums, life insurance, private medical insurance and other FIRE-sector charges.

                                                                               - Michael Hudson (via)

There was a time when all you had to worry about was whether you could provide a service at a profit--even if you bought raw materials from one country, assembled them in a second, and sold the product in a third. Now you need to have a hedging program in place for currency fluctuations and another to manage your exposure to commodity price fluctuations--but there are costs to such programs, both in terms of money and intellectual effort which detract from the core business.

In recent years we have found whenever we send large wires to Ghana for operations, the money is held in transit until there is a sudden swing in exchange rates (not in our favour)--only then does the wire clear, and an unexpectedly smaller amount of money shows up at the bank in Ghana. Each time this happens, it represents a roughly 5% tax on money transferred--in addition to the normal costs of wire transfer.

Between regulation and financialization, the life is being strangled out of the producers. But we are supposed to be the richest people in history.

How did the process get started? The answer might be here.

Via (my annotations).

Creating paper to drive down the price of commodities makes you richer in the short term, but poorer in the long term, as lower prices encourage producers to make less. But if real wealth is copper, zinc, gold, oil, food--products, that is--then having more dollars but less things is a recipe for impoverishment.

For mining companies, lower prices tell them to reduce production and reduce exploration. And that is what the above chart shows. Gold prices began to rise in the 1970s, attracting capital. But what commodities improve your life more? Are you rich stockpiling gold when there isn't enough copper to make a functioning electrical grid or sewer system?

In an earlier posting (based on data sets that ran back to the mid-90s) I showed that gold attracted about 50% of all exploration finance (excluding mineral fuels). Clearly, this is not the normal historical situation, and we have to ask how the system arose.

It looks like in addition to the sudden loss of control of energy, capital was deployed into the commodity that was rising markedly in price. Gold was rising because it had suddenly been cut loose from the US dollar. And the emphasis in mining exploration ever since has been gold.

I think this was the precursor to the financialization of the past few decades--that money should be diverted to creating more money, instead of wealth.

At the World Complex we love gold. But at the same time we recognize that putting all of your effort into mining it doesn't necessarily raise your standard of living.

Selecting areas to stake

The British Antarctic Survey unveiled new imagery last month depicting the Antarctic bedrock surface in greater detail than previously.

Via (image may be quite large when clicked).

Love the subglacial tunnel valleys.

Via

The World Complex helped the Brazilians map some potential oil-bearing rocks at the extreme left of the above image.

I'll be staking out the land just above the mountain ridge across the middle of the page. Cu-porphyry. Just in case the ice melts.

Three years

Against the power of the state, I can only throw this story. I know: it is a feeble weapon. But it is the only weapon I have.

And so this blog began, three years ago.

I haven't explicitly touched on libertarian themes much. But I hope it's become clear that I think certain systems like the economy are too complex to be managed.

Gold production: exploration ratios and the future of discovery

Every so often we take a look at relative importance of gold exploration relative to copper or other industrial minerals. According to according to Wilburn et al. (2013), gold exploration accounted for just under 50% of all exploration for non-fuel minerals commodities.

Today I've decided to look at something a little different. What is the relationship between money spent on gold exploration and the value of gold production? I've expressed the value of production as a multiple of the amount spent on gold exploration (data cribbed from the USGS and Minex Consulting - h/t Otto). I had to correct the expenditures for inflation as they were presented in 2012 dollars).

To interpret--the value of gold produced in 1980 was about 90x the amount spent on gold exploration. More recently, that number is about 20x.

This jibes with my overall impression--in the late '70s there wasn't a lot of exploration compared to the value of production--probably because South Africa was pretty much entrenched as the dominant gold producer and they had (and still have) a lot of gold. After the spike in 1980, exploration effort increased; but I think this was more of an investment phenomenon (more money available for investment) than a fear that the South African deposits were running out.

Even though the value of produced gold has ramped up tremendously, this has been approximately matched by exploration effort (if dollars spent can be equated to 'effort'). This again reflects the flood of money in the capital markets.

Here I have inverted the ratio and expressed it as a percentage (so exploration expenditures in 1997 were about 12% of global gold production).

Wow--that head and shoulders formation. If it hadn't bounced off the neckline in 2009, I would have said it was going to zero. And who knows--with investors as depressed as they are, it may well head in that direction (Minex does forecast a decline in exploration in the coming years, although the basis for their assertion is unclear).

Are we exploring enough? I haven't graphed discoveries, which hopefully mirror exploration effort, albeit with a lag. I wonder how much of the right shoulder is due to increased reporting costs as opposed to real exploration.

If this money is not all being wasted, then there should be a lot of discovery coming down the pipeline--enough to put at least another big peak in production (number V if you're counting) to the Muller and Frimmel historical production curve.

Friday OT

Siouxsie tells us of the terror she experienced her first time on a merry-go-round.

Gold's changing anticorrelation to the dollar

This article posted a few days ago struck me as interesting, as it seemed so counter-intuitive that I thought it worth a look.

On the basis of weekly charts of gold and the US dollar index over the past five years, Charles Hugh Smith concludes there is no correlation. And at first glance, there seems much to support his view.

The principal argument (as I have never been a believer in peaks and troughs) is his second point--that there are at least three significant intervals where gold and the US dollar rose in tandem since late 2008.

Over the past few years I have attempted to show that most economic data are nonlinear and best studied by methods suitable for complex systems. Such systems are not easily analyzed using methods like linear regression or fourier analysis. In fact I would go so far as to say that such methods can lead you to the wrong conclusions.

The world's situation is complex and changing. Change can drive unpredictable variations in market preferences--so while it would seem logical that people's preference for US dollars and gold might normally vary inversely, perhaps there are some circumstances when the market equally seeks both.

We consider a scatter plot of USDX vs gold (weekly) from January 2007 to the end of last month.

There are a few segments suggesting correlation. From early 2007 until late 2009, the two data series appear to be negatively correlated. From late 2009 until about mid-2010, they appear positively correlated (they rise in tandem). Since mid-2010, they appear to be negatively correlated.

The gold price appears to be far more sensitive to the USDX in the second phase of negative correlation compared to the first phase; by which I mean that a small change in USDX correlates to a much larger change in gold price presently than was the case before mid-2009.

From a dynamics perspective, I would argue that the three areas of the graph represent different "states" of the (US? world?) economy. Finding the triggers for changing from one operational state to another is of key importance.

QE1 occurred during the V, from the top of the first negatively correlated segment through the positively correlated segment. QE2 occurred during the advance (lower line) in the second negatively correlated segment. QE3 occurred during the period of decline (upper line) in the second negatively correlated segment.  This all may be coincidental.

I expect we will continue to see relatively large fluctuations in the price of gold relative to changes in the USDX.

It looks like the system will have to drop down to the lower line before a steady advance in the gold price. If so, we would see a small, sharp drop in USDX without movement in the gold price, prior to a major move in gold (up) and the USDX (down).

Will flood mud stick to the Harper government?

Past decisions have a way of coming back to haunt you. Just ask Stephen Harper.

The past several weeks have seen a series of events which, while not his fault, can be used by critics to attack his policies.

The first event was the Senate expense scandal, in which several Harper appointees were caught with their fingers in the till making inappropriate expense claims. The scandal is evolving, with one member of the Prime Minister's Office stepping down after it was revealed that he advanced one of the offending senators a cheque to cover his expense repayment. Although the senior aide in question resigned, and claimed that the PM had no knowledge of this event, Harper's history of micromanagement makes this claim rather dubious.

The second event was the massive flooding in Calgary. Though Harper was born in Toronto, this inconvenient fact is often glossed over in his appeals to his power base in Alberta. Especially Calgary.

Downtown Calgary showing the Stampede Grounds in foreground. Via

The event was driven by record intense thunderstorms across southern Alberta. Some areas received about half their average annual rainfall in less than two days. Many were quick to jump to the conclusion that this was a form of natural payback for Harper's push to develop the oil sands at the expense of any reduction in greenhouse gas emissions; however, Canada's muzzled environmental scientists were not among the critics.

(As an aside, it is impossible to ascribe a single event to global warming--although one can acknowledge the rising probability of such an event).

Before the floodwaters subsided, a near-crisis occurred--a train carrying petroleum distillates across a bridge derailed as the swiftly flowing Bow River scoured around the bridge foundations. It was mere foreshadowing for a major event.

Then came the apocalyptic train accident at Lac Megantic, which happened early Saturday morning. As is by now well known, a train hauling cars of oil for refining out east somehow slipped out of park and derailed and exploded in the centre of town, with what looks to be great loss of life.

Again, this is not Harper's fault--but critics are commenting on the tremendous increase in oil shipped by train in just the past four years. The amount of oil shipped by train has increased 28,000% in that time. I don't ever recall having a debate about the advisability of such an increase.

Perhaps this is not something that Harper has directed. But it has happened on his watch.

This brings us back to Toronto, Harper's real hometown. There was a surprising burst of rain, leading to a surprising amount of flooding. Unusual amounts of rain fell in a short time (about a month's worth in 6 hours). Not as bad as Calgary, and the results weren't as bad either. But notable.

This is my route to work. Via.

We were blacked out for about five hours. Some had it worse, with blackouts in Toronto ongoing today. Once again, there were critics blaming the flooding on Harper's energy/greenhouse-gas policies. Once again--this particular event can't be tied to it (although the probability of such events may well increase).

There is a lot of mud flying around. Eventually some of this mud may stick.

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Without any electronics, the kids were desperately bored. I shut down the laptops and unplugged them--we lost one due to a lightning strike last year. I finally engaged Jacob in a game of Shogi--he can play Chess and Chinese chess too (although he has a hard time finding credible opponents because I keep getting the pieces mixed up).

Confounding factors in US GDP growth--a partial criticism of Dawson and Seater (2013)

A recently published paper in Journal of Economic Growth has generated some interest over its claim that US GDP would be about 3.5 times greater than it currently is if the level of regulation had remained at 1949 levels (or a reduction in growth by an average of 2% per year).

The thesis is intuitively compelling, and has captured the interest of a few economics websites. Personally, I don't doubt that regulation does stifle growth--I have seen first-hand too many examples, not to mention the change in economic environment from the 1970s to the current day. But this is anecdotal.

The first question--how to quantify regulation? The authors use the measure of the number of pages of the Code of Federal Regulations, which is as good a measure as one can use in a reasonable amount of time.

Regulation and its growth over time. From Dawson and Seater (2013).

I admire the authors for their ability to work through the statistics in their study. Statistics is one of my least favourite topics--even though I have to do it on occasion. It's like the vegetables on your plate that your parents insist you have to eat--or in my case, journal editors and sometimes regulators. (e.g. "We're not publishing this without some statistics." "Doesn't the beauty of the calculus compel you to publish it?" "No." " . . . grumble . . .")

Effect of regulations on trend of total economic output. From Dawson and Seater (2013).

Effect of regulations on total factor productivity, which is like output with the 

effects of capital investment and labour removed. From Dawson and Seater (2013).

From the above graphs, the authors conclude that the effect of regulation suddenly became more pronounced in the late 1970s, despite the observation that the growth of regulation has been relatively low since 1980 (which would show better if figure 1 were on a log scale rather than linear). The authors have inferred that the response is nonlinear--as if a tipping point were suddenly reached in 1980, beyond which the economy began to contract terribly in response to the (relatively small) increases in regulation.

The trouble with this sort of statistical study is the possibility of overlooking confounding factors. In this case, there are two--energy availability/costs, and the impact of excessive credit in the system.

An article I encountered today looks at energy use in the US through its history. The major figure appears below.

Energy consumption in the US. Another graph that would be better 

displayed on a log scale. Source.

Look at the spectacular growth, especially from about 1930 to the early 1970s (the first energy crisis). Growth in energy usage has been nowhere near as great since then. Total energy use peaked in 2005. 

The main takeaway here is that the rate of growth in US energy usage after 1980 is much smaller than was the case before.

Energy is critical for a manufacturing economy. If the US economy could be viewed as a plant, the plant has three inputs--energy (sun), physical commodities (fertilizer), and credit (water). Until about 1974, there was an abundance of energy and physical inputs, so the immense credit poured into the economy resulted in spectacular growth. 

Since then, however, it's been quite cloudy, and the soil is a little depleted of nutrients. But all the government can do is water. And that's what they've been doing--and they are shocked to find that they aren't getting the same result they did in the 1960s. Instead they risk drowning the plant entirely.

There is something else, the government can do--and that is regulation. Regulation is like pruning--if done carefully, it can really benefit the plant. Unfortunately, much regulation that exists today more resembles the job done by a maniac with a machete.

I don't wish to negate the conclusions of the authors--there is no doubt in my mind that the crazed hacking perpetrated by the government has reduced the size of the economy. But the reckless overwatering given the loss of sunlight has also played an important role.



Dawson, J. W., and Seater, J. J., 2013, Federal Regulation and Aggregate Growth, Journal of Economic Growth, 18 (2), 137-177, doi: 10.1007/s10877-013-9088-y

Kage Ginko-ka (The Shadow Banker)

This recent remake of a classic Kurosawa film investigates themes of identity, and sublimation of the self. A common man of the streets must pretend to be the head of US Fed in order to maintain market stability. But what is the price he must pay?

It opens with a notorious central banker (Ben Bernanke) discovering a double exact duplicate of himself.

"He's an exact duplicate of me. He could be very useful. He's the worst sort of 

scoundrel-a drunkard, a gambler, a thief. As I say, an exact duplicate of me!"

Fearing unspecified plots against his life, he plans to use this doppelganger as a Kage Ginko-ka--a shadow banker. This shadow can take his place in public appearances, reducing the risk of unexpected economic events.

Arduous training follows--how to make verbose, meaningless statements about the economy; how to compose himself before the cameras during congressional hearings; how to conduct FOMC meetings; and the importance of low interest rates as a means of combating undesirable economic outcomes..

Ironically, despite his preparations, Bernanke succumbs to a mysterious ailment (possibly ink poisoning) compounded by numerous paper cuts.

Bernanke informs Fed Governors that he may die, and tells them to maintain low 

interest rates and keep his death a secret for at least three years to avoid market turmoil.

"I can see gold under $300/oz! Fly my banners!"

Rumours swirl of Bernanke's death, so to calm the markets, the Fed Governors trot out the Shadow Banker.

The Shadow Banker is introduced. The Fed Governors decide to use

him to convince the market Bernanke is still in control.

His first public appearances go very well. Many commentators note he seems more life-like than usual.

"Innovation, almost by definition, involves ideas that no one has yet had, 

which means that forecasts of future technological change can be, and 

often are, wildly wrong. A safe prediction, I think, is that human innovation

 and creativity will continue; it is part of our very nature." (May 18, 2013).

The human element is a major element in a tragedy. In this case, Bernanke's replacement, Tim Geithner, is distressed that he is being passed over for the position in favour of a common man from the streets.

Geithner (at right): "That should be me up there--not that fraud!"

Geithner schemes to expose the charlatan so that he can take over as Fed Chair. As an FOMC meeting approaches, the other Fed Governors prepare the shadow banker to sit quietly, listen to everyone's advice, then thank everyone for their input and close the meeting with an announcement the policy decisions will follow in the morning--said policies to be drafted by the other Fed governors.

But Geithner tries to sabotage the proceedings, by pointing out apparent overheating in some sectors of the economy and asking him to raise rates. Ignoring the others, Geithner demands the shadow banker make a policy decision on the spot.

The Shadow Banker rises to the challenge. "The interest rate shall not move."

Although the other Fed governors are impressed with his ability to think on his feet, they are disquieted by the disrespect shown by this common man from the streets. Some of them also fear that someone so clever might be tempted to "slip the leash".

Their fears are later confirmed when he releases a statement unilaterally raising the target rate for unemployment rate from 6.5% to 7%. Sensing the need to act, they dismiss him, admit the real Bernanke is dead, and appoint Geithner.

Determined to put his stamp on the Fed after his long period of frustration, Geithner embarks on a series of market interventions that end in disaster.

Bailed-in depositors lie on the field of battle.

Desperate to help, the shadow banker buys all the bonds he can, but it is too little, too late.

"I can't replace QE, but every bit helps!"

Killed by sharply rising interest rates, he is swept away by the river of fate.