“The market can stay irrational longer than you can stay solvent.”

[Sapiens]

“The market can stay irrational longer than you can stay solvent.”

The above quote attributed to John Maynard Keynes had always intrigued me, mostly because I had the opportunity to live a somewhat “privileged” childhood due to the work and fortune of one of my grandfathers.

As a child, witnessing the extreme poverty of many in contrast to the privilege of my family, these questions arose and lingered in my mind: Why are they living like that that? What makes them different from us? It was with the passage of time and from the pain of personal experience that I would find the answers.

Not yet a teenager, due to a war my family and I had to emigrate. Some went to South America, others to North America. My life was radically changed; my family lost most of its fortune. Soon, I had to learn new skills to adapt and survive in a new way of life. Unfortunately or fortunately for me, depends on how you look at it, I had not been taught or learned the secrets of the family’s ability to make or achieve wealth.

Life, in my preadolescent view became very difficult. The years of my early childhood became to resemble nothing more than a sweet dream or fairy tale. I was not the only one who had a difficult time coping, the rest of my previous generation did not seem to adapt too well or worse, not at all.

As time passed on, I discovered I had the keen ability to make deals, some which were lucrative and others which were not. One day, after a very exhaustive and consuming effort, I was faced with what could have been a disastrous deal; thankfully it turned out to be just barren. After that day, I decided I was going to find out the secret of making and keeping a great fortune.

It turns out, there are many ways to make and keep a fortune. One of them I discovered at the age of twenty-two; that is, you need to have more people indebted to you than you are to them.

That knowledge enabled me to have a comfortable living, yet there seemed to be something more to it. At twenty-seven, while on a visit to the Philippines and witnessing the throngs of people living in extreme poverty, I asked my friend in an unconscious slip of the tongue. “Why are they so poor?!” My friend without a second thought easily replied, “Because there are so many of them.” For some reason, his answer did not make any sense to me, yet I stayed silent and just nodded my head.

Time passed. At thirty-one I discovered the banker’s secret of fractional reserve banking.[1] I used it to my fullest advantage, yet there seemed to be something more. While on a trip to Singapore to resolve a dispute I had with a supplier, I discovered the lawyer’s secret; that is, that fallible human judges decide what the law is among men that have erected their own laws.[2] For some reason, that experience enabled me to clearly see and comprehend the difference between man-made-law and Natural law.[3] Most of all, I understood that:

“No human being can assert a claim of authority by right over any other human being; and, ‘No one can claim rights superior in quantity or quality to those of anyone else.’”[4]

Now, any quant from any financial derivatives shop will tell you that the right models point out you can end up owning the whole world. Granted, you will have to coax, entice or coerce all other human beings to see it your way.

So, yet again, there had to be something more. For now let’s go back to Keynes.

“The market can stay irrational longer than you can stay solvent.”

Why? Well, two things; in the dealings between human beings there are two fundamental unknowns, Nature and volition. Nature is unbiased, while human volition is uncertain, that is to say, you have the power to end your own life. In other words, you can hope or expect to do the logical and rational thing according to you, yet it may appear totally illogical and irrational to others. Yet the answer to Keynes’ quote is that the will of Men, regardless of how it may appear to other men, rational or irrational, it is still subject to the Laws of Nature.

Discover the Laws of Nature and you will stay solvent longer than the market can stay irrational. And in consequence, you will come to find out that the throngs of poor don’t have to be poor, better yet, you will know they are not poor, for they have Life and with Life anything can be accomplished.

-Sapiens



1. Jesus Huerta de Soto; Money, Bank Credit, and Economic Cycles, 2006.
2. FRED RODELL, WOE UNTO YOU, LAWYERS! (2d ed. 1957).
3. Dr. Frederick Graves, The Search for Natural Law. (2002)
4. Peter Eric Hendrickson, Cracking the Code, page 34; 6th Printing 2005.

[grapejelly]

Re: “The market can stay irrational longer than you can stay solvent.”

Excellent essay, Sapiens. I have discovered some very personal facts:

1. I am the world's worst trader. If I could somehow fade myself, I'd be rich from trading. But alas it is not possible so I do not trade. I always want to sell when I should buy and I want to buy when I should sell. And I can't trick myself out of that. I can always talk myself into the wrong trade.

2. Avoid leverage completely. No levereage. Whatever. Did I mention the rule I have about no leverage? Leverage makes me emotional and makes #1 worse.

3. Trade by buying fundamentally undervalued assets based upon my fundamental analysis, expecting my timing to be *years* early.

4. Then hold on. Monitor things to sell when the reason for buying ended and buy something in the same asset class to replace the failed investment but other than this, do nothing. DO NOTHING. Did I mention the "do nothing" rule? This is often the most difficult because I like to play. So what I do is play on the margins with a few shiny tokens that distract me from the more important game.

I've read from Taleb that over a decade, you may make your real money on an investment position in just 10 days out of the decade. On a smaller scale, days weeks and months, it is true also. These rallies are amazingly fast, and the drops breathtaking, and we can't know when one is going to come. WE CAN'T PREDICT THE TIMING OF THE FUTURE. We may be able to predict the future but we can't predict it's timing (and I'm not sure we can predict the future anyway. Just pick up a book by some money guru from the 1970s or 1980s to sobor up real fast.)

5. Avoid short positions altogether. Short positions involve leverage one way or another, owing something to someone, timing and being under the gun. I do not have the temperament so I never go short anything.

For me, it's the only way I've ever made any money through investments.

[jk]

Re: “The market can stay irrational longer than you can stay solvent.”

grape, i share a lot of your traits. i'm not as averse to leverage when used as a hedge only. i've still got some shorts, but i've thought of sending out a letter to friends, saying "stop me before i short again!" i look at lists of positions i've closed out and shake my head, knowing i entered the positions years early, and gave up too soon. somehow i've made money investing over the years. but i wish i could cut the crap.

[Sapiens]

Re: “The market can stay irrational longer than you can stay solvent.”

Grapejelly, you know, it is said among close friends that the only way to make money on investments is to know what your close friends know...

[Jim Nickerson]

Re: “The market can stay irrational longer than you can stay solvent.”

“No human being can assert a claim of authority by right over any other human being; and, ‘No one can claim rights superior in quantity or quality to those of anyone else.’”[4]

Sapiens,

I haven't and shan't read your reference [4], which may be a mistake if I am to counter the quotation, but history seems filled with instances where individuals gain authority over many others and would appear to me to achieve rights (meaning the capability of doing whatever they want) far greater in quantity and quality above many others. Those individuals at the top of the pile may not have the moral authority to have done so, but they did. I expect for a long time to come the same will continue to happen.

“The market can stay irrational longer than you can stay solvent.”

I love that quote, it is what makes or should make one use stops.

Why? Well, two things; in the dealings between human beings there are two fundamental unknowns, Nature and volition. Nature is unbiased, while human volition is uncertain, that is to say, you have the power to end your own life. In other words, you can hope or expect to do the logical and rational thing according to you, yet it may appear totally illogical and irrational to others. Yet the answer to Keynes’ quote is that the will of Men, regardless of how it may appear to other men, rational or irrational, it is still subject to the Law’s of Nature.

I haven't and shan't read [3] either but, perhaps stupidly, will still comment. To my thinking, until corrected by someone, there are two states of mind that seem natural: fear and ignorance, which to my reckoning are at the root of many of the world's problems. Keynes was speaking of markets as far as I know, and it seems in markets there are two extremes of states of mind: fear and greed. And as with all things one must also include a degree of ignorance.

The first "fear" above relates to the unknown as I see it; the second "fear" relates to aversion to ending up with no money.

I don't know if "greed" is a learned behavior or a natural behavior. I suspect it is the former.

It appears to me that the naturalness of fear of the unknown can largely be overcome by lessening of one's ignorance. At least in our society with rare exception possibly, the fear of ending up with no money probably cannot be overcome. The behavior of greed by some is never learned or, if it is, is overcome by some no doubt and certainly is never overcome by others. Perhaps some who are not greedy never obtain super-wealth, but some who may not be greedy may become obscenely wealthy--perhaps Buffett; some who are greedy do become obscenely wealthy, and some will lose the shirts off their backs.

The difference in all of that, if you made it through, is the ability of one to exercise reasoned judgement, i.e. rationality, or luck in some degree in instances. That applies to whether one is fear-ridden or greedy. Fear of loss can overcome reason to stay in or enter into markets at their bottoms, and greed can overcome reason to get out of markets after considerable gains. On the contrary, rational people buy near bottoms and sell near tops, as might some who are just purely lucky.

Unless the behavior of crowds is something truly natural or not, I don't know. I suspect rational people can walk away from a lot of things being perpetrated by crowds. Perhaps those capable of doing so are "freaks of nature." I think there are some wise people who get out near tops, and enter markets near bottoms, that is they demonstrate themselves not subject to the action of the crowds.

Discover the Law’s of Nature and you will stay solvent longer than the market can stay irrational.

Unless you wish to define the Laws of Nature, I can't accept your assertion.

And in consequence, you will come to find out that the throngs of poor don’t have to be poor, better yet, you will know they are not poor, for they have Life and with Life anything can be accomplished.

It is of nature, and I think today a part of religious influence, that there are so many poor in the world, and I don't see that changing in the coming centuries. What you say sounds good, but I think has no basis.

The formation of biological life is an accident, which I would grant has something to do with the so-called Laws of Nature. Just because one is born into humanity, it is a long way from necessarily allowing all so fortunate or unfortunate to accomplish anything at all, much less the consideration for unlimited accomplishement. It just isn't true in the world I have lived, but it sounds good.

I am not picking at you, just disagreeing. If you wish to better define the Laws of Nature as you or others see them applying to making, not losing, money in the markets, I am all eyes.

1. Jesus Huerta de Soto; Money, Bank Credit, and Economic Cycles, 2006.
2. FRED RODELL, WOE UNTO YOU, LAWYERS! (2d ed. 1957).
3. Dr. Frederick Graves, The Search for Natural Law. (2002)
4. Peter Eric Hendrickson, Cracking the Code, page 34; 6th Printing 2005.[/quote]

[Sapiens]

Re: “The market can stay irrational longer than you can stay solvent.”

Jim,

I was amused by your post. Much can be inferred of a man by his statements.

…history seems filled with instances where individuals gain authority over many others and would appear to me to achieve rights (meaning the capability of doing whatever they want) far greater in quantity and quality above many others. Those individuals at the top of the pile may not have the moral authority to have done so, but they did. I expect for a long time to come the same will continue to happen.

Your above quoted statement does not preclude nor extinguish the fact that those that wish to resist are still endowed with volition and may continue to oppose those that wish to enslave them.

Adam Smith
An Inquiry into the Nature And Causes of the Wealth of Nations, 1776
http://www.adamsmith.org/smith/won/won-b3-c2.html

“The experience of all ages and nations, I believe, demonstrates that the work done by slaves, though it appears to cost only their maintenance, is in the end the dearest of any. A person who can acquire no property, can have no other interest but to eat as much, and to labour as little as possible. Whatever work he does beyond what is sufficient to purchase his own maintenance can be squeezed out of him by violence only, and not by any interest of his own.”

You state:

The formation of biological life is an accident, which I would grant has something to do with the so-called Laws of Nature.

I have no proof that the formation of biological life is an accident. But if that were in effect true, then how could any one individual claim greater rights over another individual, since both would proceed from the same accident?

I haven't and shan't read your reference [4], which may be a mistake if I am to counter the quotation…

I haven't and shan't read [3] either but, perhaps stupidly, will still comment.

I am not picking at you, just disagreeing.

You are welcome to disagree, but it would be better to offer a substantive basis for criticism from which we could have a critical and possible productive exchange.

idem.
…The pride of man makes him love to domineer, and nothing mortifies him so much as to be obliged to condescend to persuade his inferiors. Wherever the law allows it, and the nature of the work can afford it, therefore, he will generally prefer the service of slaves to that of freemen.

… nothing can be more contrary to the real interest of a numerous family than a right which, in order to enrich one, beggars all the rest of the children.

-Sapiens

[Jim Nickerson]

Re: “The market can stay irrational longer than you can stay solvent.”

I was amused by your post. Much can be inferred of a man by his statements.

It is my firm belief how people look or what they say may have nothing to do with what they are. You know, action speak louder than words. Just so that nothing is lost in inference that you or anyone might draw as it pertains to me, on most days I am a cynical asshole.

Your above quoted statement does not preclude nor extinguish the fact that those that wish to resist are still endowed with volition and may continue to oppose those that wish to enslave them.

I don't disagree with your notion of volition. I was attempting to acknowledge, that seldom do oppressed people find it within themselves to throw off yolks of slavery or suppression. I am not saying they can't, it just seems clear to me that mostly they don't.

I have no proof that the formation of biological life is an accident. But if that were in effect true, then how could any one individual claim greater rights over another individual, since both would proceed from the same accident?

If you think about formation of biological life long enough, it seems impossible to conclude it is anything other than an accident. I don't disagree with the tenet that there is anything that in fact gives one human rights over others, but most of history suggests to me that the immorality of one being superior to others seldom plays out in societies to reduce all to some pure state of equality. It isn't morally right, as I see it, but that is the way things appear to work: some people end up in superior positions at the expense of the rights of others.

You are welcome to disagree, but it would be better to offer a substantive basis for criticism from which we could have a critical and possible productive exchange.

I meant what I wrote, what more can I write?

Sapiens, I still do not see where you explained the "Laws of Nature" that allow one to "stay solvent longer than the market can stay irrational." If you know you are really on to something here, I believe it would be great if you would explain it further. Perhaps a lot of us will benefit.

[jk]

Re: “The market can stay irrational longer than you can stay solvent.”

the laws of "nature" [if markets can be called a product of nature, which i suppose they are indirectly] include fat-tailed distributions and long periods of time spent away from points of equilibrium. so although regression to the mean will happen, it can take a long time, which is the meaning of keynes' saying. so i suppose knowing these "laws" might allow one to hope to hold onto some assets.

i would add that it's important to recognize that what you think is right or moral and what actually happens in the world are usually very different things. at least that's the way it seems to work for me.

[Jim Nickerson]

Re: “The market can stay irrational longer than you can stay solvent.”

the laws of "nature" [if markets can be called a product of nature, which i suppose they are indirectly] include fat-tailed distributions and long periods of time spent away from points of equilibrium. so although regression to the mean will happen, it can take a long time, which is the meaning of keynes' saying. so i suppose knowing these "laws" might allow one to hope to hold onto some assets.

i would add that it's important to recognize that what you think is right or moral and what actually happens in the world are usually very different things. at least that's the way it seems to work for me.

jk, until Sapiens adds clarity to his understanding of the Laws of Nature as they apply to investing, I surmise he is writing of something philosophical more than statistical. Just a guess.

I agree with your second paragraph.

[Jim Nickerson]

Re: “The market can stay irrational longer than you can stay solvent.”

I just ran across an article that might reflect upon whatever might be the Laws of Nature when applied to the equity markets.

Major Stock Market Tops of the Past Century
by Robert McHugh 2/10/07 http://www.safehaven.com/article-6888.htm

We've been researching and discovering that almost all the major stock market tops of the past century were marked by a Broadening Top pattern. This pattern, also know as a Megaphone, which also looks like a set of jaws, is uniquely characterized by two mirroring boundary lines. The top boundary line is ascending; the bottom boundary line is descending. What is amazing is that each boundary line has the same slope, one rising, the other falling. We found another one this week: 1965-66's pattern.

.....

The lines are formed by simply drawing trend-lines connecting the peaks and connecting the troughs. Each line is formed by connecting at least 2 points. In other words, neither boundary line is manufactured by a biased analyst. Rather, it is formed where the market decided to top and bottom along its path to a major top. What are the odds that the slopes of these trend-lines would be exactly the same? What are the odds that seven of the greatest market tops of the past century in the Dow Industrials would bear the markings of this pattern? This is not random. This is a normal pattern of distribution and market buying/selling psychology that naturally leads to major tops, and subsequent declines ranging from 10 percent to 40 percent over a period from a month to 11 months.

These patterns were found in 1929, 1957, 1965-66, 1972-73, 1986, 1987, 1998-2000, and now 2004-2007. These were the big-boy tops of the past century. The Jaws of Death pattern.

And, the punch line? We have the exact same pattern as these 7 other occurrences right now in the Dow Industrials.

McHugh writes, "This is not random." Something not "random" is then organized, planned, methodical, systematic, deliberate, purposeful, arranged (thanks to M-W Collegiate Thesaurus). Could McHugh's observations be looked upon as evidence of Laws of Nature affecting the market's action?

McHugh even uses the word "naturally" in his attempt to explain his observations, but he also used the word "psychology" with reference to buying and selling behavior. This for me all gets back to motivations that drive decision making in trading markets: fear and greed.

[Sapiens]

Re: “The market can stay irrational longer than you can stay solvent.”

Let me provide hypothetical and rudimentary examples of what I am trying to convey.

Axiom: No organism can exist beyond the exhaustion of its essential reserves and sustainable resources.

Taking the above axiom into account, you can deduce the nominal inputs for the desired output. In other words, for a given animal you can deduce its probable future attributes from inputs and its life cycle.

Now, let’s supposed I want to purchase the offspring of the previously cited animal. You are the only one who has that particular breed and the reproduction cycle of that breed is only a single offspring per year; in addition, you have only one reproductive viable animal. But I wish to purchase three animal’s offspring in the year. Clearly this is not possible within the natural dynamics of the animal’s life cycle. Although the dynamics of the animal life cycle does not make it possible to have three offspring within the year, it does not mean we can’t draft up a contract with those conditions. It would be illogical to do so, but it does not preclude us from drafting the paperwork even though performance would be impossible.

The point is you need to understand the dynamics of the market where you operate and the conditions for performance.

[Jim Nickerson]

Re: “The market can stay irrational longer than you can stay solvent.”

A worthwhile book possibly pertinent to this thread is by Harry G. Frankfurt, Professor of Philosophy Emeritus, Princeton University, Princeton University Press, Princeton and Oxford, 2005. "On Bullshit"

[Sapiens]

Re: “The market can stay irrational longer than you can stay solvent.”

A worthwhile book possibly pertinent to this thread is by Harry G. Frankfurt, Professor of Philosophy Emeritus, Princeton University, Princeton University Press, Princeton and Oxford, 2005. "On Bullshit"

LOL, that's the best you can do?

That's why cynics make the best cannon fodder, they are too blind to see beyond their pride.

You haven’t provided any constructive criticism to refute what I have stated, unless you have anything elemental to add, I shall not continue to waste my precious time addressing you.

Cheers,

-Sapiens

[Jim Nickerson]

Re: “The market can stay irrational longer than you can stay solvent.”

Discover the Laws of Nature and you will stay solvent longer than the market can stay irrational.

A physical law, scientific law, or a law of nature is a scientific generalization based on empirical observations of physical behavior. They are typically conclusions based on repeated scientific experiments over many years, and which have become accepted universally within the scientific community.

If you wish to better define the Laws of Nature as you or others see them applying to making, not losing, money in the markets, I am all eyes.

Sapiens,

In your post #6, you did not elucidate the Law of Nature that would allow one to stay solvent longer than markets can stay irrational. The quotes of Adam Smith do not shed light on any Laws of Nature that would allow one to gain an advantage to overcome Keynes' admonition. I personally can glean no relationships between slavery, the poor people of world, and where any significant number of them because they have "Life" have accomplished much of anything at all, much less "anything" in the sense of exceptional accomplishment.

You wrote:

...it would be better to offer a substantive basis for criticism from which we could have a critical and possible productive exchange.

Perhaps "criticism" is the right word, but I felt I was "disagreeing" with your arguments. Where do Laws of Nature have the least bit to with Keynes admonition?

Yet the answer to Keynes’ quote is that the will of Men, regardless of how it may appear to other men, rational or irrational, it [sic] is still subject to the Law’s of Nature.

Above, you still evade any explanation.

The point is you need to understand the dynamics of the market where you operate and the conditions for performance.

Now what does understanding the dynamics of the markets and conditions for performance have to do with Laws of Nature?

There is no Law of Nature that applies to markets and if there were to be, how would discovery of them have the consequence of your non-sequitur (first quote below).

... you will come to find out that the throngs of poor don’t have to be poor, better yet, you will know they are not poor, for they have Life and with Life anything can be accomplished.

Much can be inferred of a man by his statements.

That's why cynics make the best cannon fodder, they are too blind to see beyond their pride.

The two quotes immediately above strike me as somewhat ad hominem, I just can't discern to whom they refer: you or me or Keynes?

You haven’t provided any constructive criticism to refute what I have stated, unless you have anything elemental to add, I shall not continue to waste my precious time addressing you.

Now Sapiens, don't get uppity. You started a thread that at least offered promise to readers who may have taken their non-precious times to discover what you had to offer about gaining some insight into making money, or to avoid losing money, in the markets, and you failed to deliver. I am sure that if you had in fact discovered the Laws of Nature as they apply to markets, I would have coaxed them out of you by now.

There are no Laws of Nature that apply to markets. There are likely observations on the psychological behavior of Homo sapiens when influenced by crowds, fear, and greed, the understanding of which might aid some in remaining solvent in the markets.

[jk]

Re: “The market can stay irrational longer than you can stay solvent.”

the only laws of nature that apply to markets are statistical and psychological, and depend on unobservable probability distributions.